Analysis: Nobel-crowned EU risks future as loveless marriage

PARIS Mon Oct 15, 2012 3:55am EDT

1 of 3. The European flag flies in front of the European Parliament in Strasbourg October 12, 2012.

Credit: Reuters/Vincent Kessler

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PARIS (Reuters) - The European Union's Nobel peace prize comes just as a realization is dawning that Europe's single currency - the EU's most ambitious project - has survived three years of incessant financial turmoil and is not going to break up.

But having narrowly avoided an acrimonious divorce and the loss of some of its errant children, the euro zone risks a future as an unequal, loveless marriage with frequent rows and the prospect of separate bedrooms.

Two things have become clearer in the last few weeks that were widely disputed before: contrary to prevailing opinion earlier this year, the euro is here to stay and could very probably keep all 17 members and add more in future.

But the euro zone has not yet found a way out of the doldrums of economic stagnation, unemployment and social dislocation that are widening the gap between northern and southern Europe and fuelling Eurosceptical populist movements in many countries.

Three events have changed the outlook for the euro area:

- The European Central Bank put a floor under the euro zone by agreeing last month to buy unlimited quantities of bonds of any troubled member state that accepts the conditions of a bailout program. ECB President Mario Draghi made clear the bank will use all its tools to defeat anyone betting on a break-up of the monetary union.

- The euro zone's permanent rescue fund came into effect last week after months of wrangling and legal challenges, providing a 500 billion euro backstop for countries that risk losing access to capital markets.

- And German Chancellor Angela Merkel signaled by visiting Athens that the EU's most powerful economy wants Greece to stay in the euro area, drawing a line under months of debate in Berlin, notably in her own coalition, about ejecting the Greeks.

Coincidentally, a flood of scenarios for the explosion and break-up of the euro that spewed out of the banks and political risk consultancies of London and New York for months has suddenly dried up.

In currency markets, short bets against the euro have subsided. Bond yields have fallen and bank shares have recovered. Spanish banks are having to borrow less from the ECB as some regain access to the money markets.

GREXIT RECEDES

In another micro-indicator of a changed climate, economists at U.S. bank Citigroup have revised their view that Greece will almost certainly leave the euro, saying key euro zone players seem to have decided a Greek exit would do more harm than good.

The U.S. bank lowered the probability of a "Grexit" to 60 percent from 90 percent, although it still believes Greece is more likely than not to leave the euro within 12-18 months, arguing that European governments are unlikely to agree to waive part of the country's huge debt to make it sustainable.

Don't write off a write-off, though, especially if it can be delayed until after next year's German general election. It may then seem a more rational, albeit unpopular, option than a disorderly Greek default and exit, with all the disastrous economic and social consequences for Greece and Europe.

One voice last week jarred with the easing of European existential anxiety: the International Monetary Fund said the EU's policy response remained "critically incomplete, exposing the euro area to a downward spiral of capital flight, breakup fears and economic decline".

In its role as an uncomfortable truth-teller, the IMF is trying to jolt the euro zone, especially Germany, into moving ahead faster with a banking union and closer fiscal integration, and altering the policy mix between austerity and growth.

In a candid acknowledgement, the IMF admitted it had underestimated the damage to growth wrought by budget cutting and urged Europe to ease up on austerity, drawing an indignant rebuff from Germany's finance minister.

RAVAGES

The shift in perceptions about the euro zone is more noticeable in the financial markets than on the streets, where the impact of the sovereign debt crisis will continue to cause ravages for years to come.

Public spending cuts and recession are tearing at the fabric of societies from Athens to Madrid, casting many middle class families and retirees into poverty and more unemployed and young people into precarity.

The crisis has changed the balance of power in Europe, giving Germany and its north European allies a preponderant say in euro zone decision-making commensurate with their credit rating, while making southern states weaker and more dependent.

A two-speed Europe, in which everyone was heading in the same direction at different paces, may now be turning into a two-tier Europe, with the euro zone becoming a tighter inner core with its own budget and stricter rules, while Britain, Sweden and some others form a looser outer circle.

Germany, determined to limit its taxpayers' liabilities for other euro states, has rejected issuing common euro zone bonds or providing a joint bank deposit guarantee.

The German, Dutch and Finnish finance ministers are trying to rule out any retroactive use of euro zone rescue funds.

Yet Berlin supports the emerging idea of creating a separate euro zone budget to cope with asymmetric economic shocks, and its backing for a single banking supervisor will surely open the door to some greater mutualization of risk in the longer term.

As the euro area becomes a more integrated federal bloc, EU members outside the single currency face awkward choices.

Those such as Poland, Hungary and Latvia that aspire to join the monetary union as soon as possible are trying to hug the euro zone as tightly as possible, demanding seats and votes in a new banking supervisory authority that take decisions on banks operating on their soil.

Poland tried unsuccessfully last week to lever its way into the inner sanctum of euro zone finance ministers by offering to join a group of EU states launching a financial transaction tax in return for a seat at the Eurogroup table.

It was told only euro members could attend the Eurogroup.

Britain, which has no intention of joining either the euro or the banking union, is demanding a veto right to protect its large financial sector from decisions taken by the others, while aiming to use closer euro zone integration as an opportunity to negotiate a loosening of its own European ties.

Sweden, with a pro-euro political establishment that lost a referendum on joining the currency in 2003, seems more uneasy and conflicted about the euro zone moving ahead without it.

All of this means Europe faces a tense period of reshaping that will severely test its Nobel-recognized powers of building peace and prosperity on a fractious continent.

(Editing by Mark Heinrich)

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Comments (3)
pbgd wrote:
The United States and the Soviet Union were the two models originally considered by the creators of the EU. But unlike either they created a confusing mixture of full and half members with and/or without the Euro currency, plus additional exceptions for countries like Britain and Poland. A union simply cannot function if all members do not have the same rights and rules. Having adopted 23 “official” languages into which each scrap of paper must be translated does not help either.

Oct 15, 2012 7:47am EDT  --  Report as abuse
dareconomics wrote:
Wherever you find a burgeoning financial crisis, you will find commentators who predict that it will not reach the inevitable endgame because it is contained.

Just before the subprime crisis went completely out of control, the Chairman of the Fed and numerous pundits were saying that the situation had stopped deteriorating and was set to improve. A similar situation exists in the eurozone. We do not have a permanent abatement of the eurocrisis, but rather a temporary respite.

The eurozone has survived three years of turmoil, but there is more to come. The common currency has caused the periphery to become weak and politically unstable. These countries are now dependent on the northern tier, and dependency breeds resentment.

One day, politician will tell the depression-beaten electorate that he can stop the euro-induced depression in its tracks by leaving the eurozone, and he will win. This will start the domino effect.

The resentment caused by the wealth transfers from the north to south may also start the domino effect. Imagine the Prime Minister of a small, northern tier country attempting to transfer billions of euros to the south while its own economy is flailing because of the eurozone depression. His political rival may now get points by taking the position that the country should leave the eurozone rather than transfer billions of dollars out of their own country.

Despite what the article claims, no one is lining up to join the eurozone. Sweden recognizes the value of maintaining its own currency, and its finance minister just predicted a Grexit within the next six months. A forecast says much more about the forecaster than it does about the future, and you can see how Sweden feels about the common currency.

Poland, Hungary and Latvia are not insisting that they be allowed to join the eurozone and begin paying large sums of money to bailout the periphery. Rather, their “hugging” of the eurozone is merely a way to hedge their bets. If this mess does work out, they will be in a position to take advantage.

Poland could have offered cash to bail out the periphery in exchange for a seat at the Eurogroup table, but instead it gave support for a financial transactions tax. This is hardly putting its money where its mouth is.

While three events have changed investor’s outlook for periphery eurozone debt, they have not altered the long term prognosis for an ill-fitting currency union.

Keep in mind that every currency union or peg that has created large internal imbalances in the past has eventually dissolved, and most commentators did not see the end coming. The gold standard, Bretton-Woods, the former Soviet Union’s continuing use of the ruble and even Britain’s currency peg to the continental basket in the early 1990′s all created unsustainable economic conditions that led to their downfalls.

The ECB has placed a floor on the price of periphery debt. Mario Draghi has stated that he will use all the “tools” at his disposal to prevent the breakup of the euro. Since eurozone taxpayers are on the hook for the ECB, how long do you think they will allow him to print euros to bailout the periphery before they begin questioning their leaders?

The article also touts the ESM, which is a paper tiger. Over 30% of the ESM capital comes from the countries that need to be bailed out. A full Spanish bailout will exhaust the entire fund in one fell swoop. At this point, the northern countries will have to stop talking about saving the euro and actually ante up billions of euros to do so. Will this be politically feasible?

Angela Merkel’s visit to Greece has been spun to mean so many different things. This is what it really means. For a few hours of her time, she gave the perception of supporting Greece’s continued membership in the eurozone.

Once again, don’t pay attention to her words, because her actions are more telling. It is nice to say that you support Greece, but what the country needs is a plan to stop its continuing depression. This plan will invariably involve more money in the form of outright loans or debt forgiveness. Will Merkel be able to get the Bundestag to vote for more bailouts in this year prior to elections?

If the Greek people do not see a light at the end of the tunnel, the communists have an alternate plan. Syriza supports disavowing the bailouts and defaulting on the debt. Don’t be surprised if the Greek people decide to take them up on the offer.

The eurozone can be saved, but it will take massive quantities of cash from the rich countries coupled with drastic reforms in the poor countries.

So far, the rich countries have been unwilling to pay the necessary sums and continue to prevaricate rather than opening their wallets. Note that the vaunted banking union has been pushed back to 2014, and that the Germans refuse to even extend Greek obligations let alone granting the debt write downs they need to return to sustainability.

The poor countries have made some painful cuts, but they still have social welfare states which they cannot afford. They also have over-regulated markets for labor, goods and services, and they have not taken the necessary steps to free them.

Until this deadlock can be resolved, the eurozone will remain unstable. In this fragile state, one shock is all it will take to begin its collapse.

Oct 15, 2012 11:42am EDT  --  Report as abuse
dareconomics wrote:
Wherever you find a burgeoning financial crisis, you will find commentators who predict that it will not reach the inevitable endgame because it is contained.

Just before the subprime crisis went completely out of control, the Chairman of the Fed and numerous pundits were saying that the situation had stopped deteriorating and was set to improve. A similar situation exists in the eurozone. We do not have a permanent abatement of the eurocrisis, but rather a temporary respite.

The eurozone has survived three years of turmoil, but there is more to come. The common currency has caused the periphery to become weak and politically unstable. These countries are now dependent on the northern tier, and dependency breeds resentment.

One day, politician will tell the depression-beaten electorate that he can stop the euro-induced depression in its tracks by leaving the eurozone, and he will win. This will start the domino effect.

The resentment caused by the wealth transfers from the north to south may also start the domino effect. Imagine the Prime Minister of a small, northern tier country attempting to transfer billions of euros to the south while its own economy is flailing because of the eurozone depression. His political rival may now get points by taking the position that the country should leave the eurozone rather than transfer billions of dollars out of their own country.

Despite what the article claims, no one is lining up to join the eurozone. Sweden recognizes the value of maintaining its own currency, and its finance minister just predicted a Grexit within the next six months. A forecast says much more about the forecaster than it does about the future, and you can see how Sweden feels about the common currency.

Poland, Hungary and Latvia are not insisting that they be allowed to join the eurozone and begin paying large sums of money to bailout the periphery. Rather, their “hugging” of the eurozone is merely a way to hedge their bets. If this mess does work out, they will be in a position to take advantage.

Poland could have offered cash to bail out the periphery in exchange for a seat at the Eurogroup table, but instead it gave support for a financial transactions tax. This is hardly putting its money where its mouth is.

While three events have changed investor’s outlook for periphery eurozone debt, they have not altered the long term prognosis for an ill-fitting currency union.

Keep in mind that every currency union or peg that has created large internal imbalances in the past has eventually dissolved, and most commentators did not see the end coming. The gold standard, Bretton-Woods, the former Soviet Union’s continuing use of the ruble and even Britain’s currency peg to the continental basket in the early 1990′s all created unsustainable economic conditions that led to their downfalls.

The ECB has placed a floor on the price of periphery debt. Mario Draghi has stated that he will use all the “tools” at his disposal to prevent the breakup of the euro. Since eurozone taxpayers are on the hook for the ECB, how long do you think they will allow him to print euros to bailout the periphery before they begin questioning their leaders?

The article also touts the ESM, which is a paper tiger. Over 30% of the ESM capital comes from the countries that need to be bailed out. A full Spanish bailout will exhaust the entire fund in one fell swoop. At this point, the northern countries will have to stop talking about saving the euro and actually ante up billions of euros to do so. Will this be politically feasible?

Angela Merkel’s visit to Greece has been spun to mean so many different things. This is what it really means. For a few hours of her time, she gave the perception of supporting Greece’s continued membership in the eurozone.

Once again, don’t pay attention to her words, because her actions are more telling. It is nice to say that you support Greece, but what the country needs is a plan to stop its continuing depression. This plan will invariably involve more money in the form of outright loans or debt forgiveness. Will Merkel be able to get the Bundestag to vote for more bailouts in this year prior to elections?

If the Greek people do not see a light at the end of the tunnel, the communists have an alternate plan. Syriza supports disavowing the bailouts and defaulting on the debt. Don’t be surprised if the Greek people decide to take them up on the offer.

The eurozone can be saved, but it will take massive quantities of cash from the rich countries coupled with drastic reforms in the poor countries.

So far, the rich countries have been unwilling to pay the necessary sums and continue to prevaricate rather than opening their wallets. Note that the vaunted banking union has been pushed back to 2014, and that the Germans refuse to even extend Greek obligations let alone granting the debt write downs they need to return to sustainability.

The poor countries have made some painful cuts, but they still have social welfare states which they cannot afford. They also have over-regulated markets for labor, goods and services, and they have not taken the necessary steps to free them.

Until this deadlock can be resolved, the eurozone will remain unstable. In this fragile state, one shock is all it will take to begin its collapse.

Oct 15, 2012 11:42am EDT  --  Report as abuse
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