4th November 2011
Its limitations may have been significantly exposed by the credit crisis, but it is easy to forget that its mission, originally, was considered sufficiently compelling to bring 17 countries together.
The eurozone mission
But what was that mission? The European Commission's website spells out the theory behind monetary union :
"The framework under which the euro is managed makes it a stable currency with low inflation and low interest rates, and encourages sound public finances. A single currency is also a logical complement to the single market which makes it more efficient. Using a single currency increases price transparency, eliminates currency exchange costs, oils the wheels of the European economy, facilitates international trade and gives the EU a more powerful voice in the world. The size and strength of the euro area also better protect it from external economic shocks, such as unexpected oil price rises or turbulence in the currency markets. Last but not least, the euro gives the EU's citizens a tangible symbol of their European identity, of which they can be increasingly proud as the euro area expands and multiplies these benefits for its existing and future members."
It sounds like a noble mission. Currency exchange costs were estimated to knock as much as 0.3-0.4% off GDP in the Eurozone, price transparency is a boon for consumers and facilitating international trade should boost business profitability. The EU also lists the six key advantages of the single currency:
1) More choice and stable prices for consumers and citizens
2) Greater security and more opportunities for businesses and markets
3) Improved economic stability and growth
4) More integrated financial markets
5) A stronger presence for the EU in the global economy
6) A tangible sign of a European identity
However, if this were the Eurozone's school report, a teacher might suggest that it had been reasonably successful on 4), 5) and 6). However, he might also suggest that 4) had proved to be in conflict with 2) and 3) – more integrated financial markets have, in fact, created economic instability.
A teacher might also argue that the EU's stronger presence in the global economy has not necessarily been a good thing. There has certainly been more choice for citizens, but the target of stable prices has been disrupted by inflation from outside.
The future of the eurozone
Economists have generally marked out two possibilities for the Eurozone's future – closer integration incorporating some form of fiscal union, or separation. This is a tacit admission that monetary union has not been enough by itself to encourage ‘sound public finances'. Full integration has always been the ultimate aim of the Eurozone, as outlined in the ‘six steps to European integration here.
However, participants must now be asking whether – having failed in its early goals – the theory of the Eurozone is wrong. Certainly, some senior economists have suggested that the premise for the Eurozone is flawed. Alan Greenspan is quoted as saying: "The effect of the divergent cultures in the Eurozone has been grossly underestimated…The only way to have several currencies from divergent nations lumped together is if they are culturally close, such as Germany, the Netherlands and Austria. If they aren't, it simply can't continue to work."
The original theory was that weaker economies, such as Greece or Italy, would be pulled up through association with stronger economies such as Germany. However, if anything, Greenspan argues, the reverse has happened as Germany has been made weaker through supporting the excess consumption of Southern European countries.
The solution being offered now is that fiscal union will ‘cure' the problems of the Eurozone. But given that Eurozone policymakers' theory on integration has proved flawed to date, fiscal union is an almighty gamble on weak reasoning.
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