The crisis in the eurozone erupted because of a combination of interlinked local, regional and global factors. Daniel Ben-Ami examines the complex stresses and strains that could lead to the break-up of the currency bloc.
T?he eurozone's potential collapse - and make no mistake it is a real possibility - is substantially more complicated than the plight of other developed economies. For most countries the single most important factor to examine is the strength of the domestic economy. But the combination of 16 nations into a monetary union makes for a more elaborate pattern.Even if the eurozone did not exist many of what are now its member states could be in trouble. It is quite conceivable that Greece or Portugal, say, would be facing economic difficulties. However, the existence of a currency bloc makes it harder for them to respond to the challenges they face. They do not have the option of devaluing their currency or of changing interest rates to help alleviate their plight.
For instance, if Greece was an independent nation state the drachma could well have plummeted in value but the country might not be facing default. It could also raise interest rates to help attract foreign capital into the country. The result would probably still have been austerity for ordinary Greeks but the country might have been able to avoid fiscal collapse. (article continues below)
In effect the eurozone gives member states less flexibility in dealing with economic challenges. To make matters worse it increases the chances of "contagion" with problems in one country spreading to another. The region's particular problems lie in being a half-way house between independent nation states and a unified federal state. Or, to put it in another way, there is monetary union but no political union.
But it is a mistake to understand the eurozone's economic plight entirely in relation to its inflexible institutions. The crisis is best examined at three different levels: national, regional and global. It is a bit like a layer cake with some layers resting on others underneath. It is the interaction between these different sets of factors that makes the eurozone's crisis so complex.
Almost all of the discussion of the eurozone crisis has focused on the top two levels. Either it has concentrated on the specific problems of the individual countries or on institutional problems within the eurozone. The global level - or more precisely the structural problems shared, to a greater or lesser extent, by all developed countries - is largely ignored.
?"It is a bit like a layer cake. It is the interaction between these different sets of factors that makes the eurozone's crisis so complex"
In relation to Greece, for example, much of the discussion focused on the alleged failings of the individual nation. On a popular level the Greeks were often accused of being lazy and of having a cosseted lifestyle. These allegations are despite the evidence - according to the OECD the average Greek worked longer than his counterpart from any other developed nation apart from South Korea. On an economic level, the discussion was pitched more in terms of a high fiscal deficit and levels of public debt relative to GDP.
But it was also possible to make a strong case that eurozone prevarication turned what could have been a local Greek crisis into a more general regional one. Member states struggled to reach an agreement to help quell the crisis. The eurozone made several attempts to reach agreement on a stabilisation package before failing to do so. It was only when the eurozone looked in serious danger of fragmenting that it announced a â?¬750 billion (£643 billion) stabilisation fund in May - and even that still has to be finalised.
This article will focus on the bottom two layers. First, it will look at the inherent rigidities within the eurozone. It will argue that the region's institutions are finding it difficult to manage the tensions within the region. In particular there is a growing divide between a core centred on Germany and a southern European periphery (AKA the "Pigs" or "Club Med" countries). Second, it will look at the problems the region has in common with other developed economies. It will focus particularly on America but there are also similarities with Britain and Japan.
REGIONALFor many commentators the wonder of the eurozone is not that it has recently experienced difficulties but that it has lasted for so long. There are many good reasons to question the viability of the eurozone yet it has lasted for more than a decade. As a result of its apparent success it was starting to be seen as a permanent fixture before the Greek crisis turned into a more general one.
The classic case against the viability of the eurozone was put by, among others, Josef Joffe, the publisher-editor of Die Zeit, a weekly German newspaper. In a 1997 article in the New York Review of Books entitled: "The euro: the engine that couldn't" he expressed scepticism about whether the monetary bloc could work. In a recent interview by Deutsche Welle, Germany's international broadcaster, he restated his argument as follows:
?"It didn't take a PhD in economics to know that you can't have a monetary union without political union"
"It didn't take a PhD in economics to know that you can't have a monetary union without political union. I used the image of taking 10 train engines and coupling them together. The idea is that they didn't have a lead locomotive. Each of these engines had to move at the same speed at the same time; otherwise the train would derail "¦ and that has exactly come to pass."
There is a lot of truth in Joffe's analogy but it does not go far enough. Not only were there 10 - later 16 - countries locked together in the eurozone but some were much more powerful than others. They were not just growing at different rates but some were more competitive than others.
A good measure of competitiveness is labour productivity - often measured in terms of the average amount of GDP produced per hour worked (see chart, below). On this measure Germany, at $50.5, is way ahead of Greece ($31.1), Portugal ($27.5) and even Italy ($41.1). France, at $52.5 is even more productive than Germany on this measure.
This difference in productivity, combined with other factors such as the looseness of fiscal policy, has led to the creation of a two-tier eurozone. Some countries have maintained a consistent trade surplus with the rest of the eurozone while others have maintained a consistent deficit.
The best known trade surplus country is Germany (see chart, below) but the Netherlands has an even bigger one in absolute terms. Belgium and Slovakia have also consistently maintained surpluses. In contrast those with consistent deficits include recently troubled countries such as Greece, Portugal and Spain as well as Austria, Cyprus, France, Italy and Slovenia. Ireland is unusual in having had a consistent trade surplus with the eurozone but still suffering a fiscal crisis.
In effect the eurozone is split between a core of net exporters and a periphery with consistent trade deficits. In some respects this is reminiscent of the global imbalance between China and America: with China being a net exporter and America a net importer. Only the eurozone imbalance exists within a supposedly unified monetary bloc.
For a long time the division in the eurozone was barely acknowledged by the markets. There was only a small premium between German government debt (bunds), the benchmark for the region, and other eurozone countries.
The crisis of the past few months has changed all that. Wide spreads have opened up between bunds and the debt of many other eurozone member states (see chart, below). Even France, generally seen as a core European economy, has seen a significant premium open up between its debt and that of Germany. Meanwhile, Greek government debt - issued by a country which is still a eurozone member state - has been relegated to junk status.
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With the benefit of hindsight it should be clear that the relative stability of the world economy from 2000-08 gave the region an easy ride. Its rigid institutional framework faced few difficult tests. But, given its internal tensions, it will find it difficult to weather a more turbulent global economy.
GLOBALUnfortunately the discussion of the economic problems facing the eurozone economies rarely goes beyond an examination of the individual countries or the region. There is little appreciation of the fact that all developed countries, to a greater or lesser extent, face structural problems of low growth.
In general terms the average rate of growth has declined steadily since the end of the post-War boom in the 1970s. Capital investment and money spent on research and development is relatively low. As a result the dynamic towards new rounds of growth is weak. To the extent growth has occurred it has largely been boosted by artificial means such as high levels of public spending and low interest rates.
It is because of this reliance on artificial stimulus that, so far at least, public spending has proved so difficult to cut. Even self-proclaimed free market regimes have conspicuously failed to cut back the state. These include the 1980s governments of Margaret Thatcher in Britain and Ronald Reagan in America.
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In the eurozone this dependence on permanent fiscal stimulus manifested itself in the extreme difficulty its members found in meeting the Maastricht criteria. According to the eurozone key rules member states were meant to limit fiscal deficits to 3% of GDP and public debt to 60%. But even countries that had insisted on these rules in the first place, most notably Germany, found it impossible to stick to them.
This artificial stimulus also helps to explain the character of the crisis. To see it as largely caused by greedy or irresponsible financial institutions is superficial. The authorities encouraged banks to extend credit through a combination of deregulation and low interest rates. Such measures were in turn a desperate attempt to offset the impact of a structurally sluggish economy.
?"The eurozone is split between a core of net exporters and a periphery with consistent trade deficits"
Eventually the credit bubble had to burst but the banks were essentially the fall guys in the process. They may have extended the loans in the first place but they did not create the conditions for a credit boom and bust on their own.
More recently the authorities have, in effect, nationalised a large part of the banks' losses through bail-outs. This is not because of the power of the banks or any love for them on the part of governments. It was, rather, they were concerned a crisis in the banking system could undermine the entire economy.
What was largely a banking crisis has, as result, become more of a sovereign debt crisis (see box, below). State authorities have considered the troubled liabilities of the banks. But such a move relocates the focus of the crisis rather than removing its underlying cause.
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