The death of the euro is greatly exaggerated
-Laurence Copeland is a professor of finance at Cardiff University Business School and a co-author of “Verdict on the Crash” published by the Institute of Economic Affairs. The opinions expressed are his own.-
The Governor of the ECB, Jean-Claude Trichet has raised interest rates by 0.25 percentage points – and quite right too. For us in the UK, blaming rising prices on temporary disturbances in the world’s commodity markets is a figleaf to hide the fact that we are actually embarking on a partial default-by-inflation. For Europe, it is a different story. For one thing, the Germany-Austria-Netherlands bloc is, if not booming, at least chugging along at a highly respectable rate, and as the ECB Governor said today in response to a question about the impact of the rate rise on Portugal, his job is to set interest rates for the Eurozone as a whole, not just for the benefit of one of its smallest and weakest members.
Sovereign bailouts are becoming routine and, for the media, a standard part of the ritual is to question whether the euro zone can survive these crises. There is one highly relevant question, however, which seems rarely if ever to be discussed.
Quite simply, it is not in my view a question of whether the euro zone can survive, but rather of what we mean by the death of the euro zone or, maybe, how it can be killed off without inflicting near-fatal damage in its death-throes.
First, as I have said before, the European Monetary Union is emphatically not threatened by a ClubMed walkout. Not only could it survive, it might even thrive if its weaker members quit. But, however much Germany may wish them to go, Greece, Portugal, Ireland, Spain, Italy would be crazy to leave individually or en masse. On the contrary, they have every incentive to stay because, however painful the austerity measures imposed on them by Brussels and/or Frankfurt and/or the IMF in Washington, the reality of life outside the euro zone would be far worse. Imagine having to relaunch your own currency when you are still burdened by massive foreign currency denominated debts – unless of course, you have defaulted, which would make the relaunch even more problematic. In the end, exiting the euro zone would mean every bit as much austerity as staying in, with the light at the end of the tunnel seeming even further away than it does now.
Of course, for the German Bloc, the voluntary or involuntary departure of the ClubMed countries would be a very mixed blessing. In the long run, it would allow them to look forward to preserving the euro as a hard currency, the true successor to the Deutschmark, with the prospect of welcoming into the fold at some future date the more responsible East European countries like Estonia, Poland, Czech Republic, Slovakia and others (and possibly one or two Nordics, maybe eventually Britain too). But in the short run, and especially if they were leaving involuntarily, the departing PIGS would almost certainly default on the enormous loans made to them by banks in Germany and its immediate neighbours, and possibly also on their debts to non-bank creditors in the euro zone, including the big German multinationals.
So if it is likely to be so costly to expel the insolvent member countries, what about the alternative of Germany itself quitting and leaving the PIGS to wallow in their own fiscal mess?
Leaving aside the shattering political repercussions, this option looks highly unattractive even on narrow economic grounds. Transformed into a ClubMed currency shorn of its strongest members, the Euro would be extremely weak, so even if Greece et al resisted the temptation to celebrate the departure of Germany and its satellites by defaulting, they would end up repaying the foreign banks in heavily devalued currency.
To sum up, then, the weak countries have no incentive to quit and, by expelling them, the strong countries would inflict very heavy damage on their own banks, as equally they would if they themselves deserted the sinking ship. So, the question for those who talk airily of euro zone breakup is neither if…. nor when?… nor whether…., it is how?
Answers should be sent in the first instance not to me, but to Frau Angela Merkel, because I am sure these scenarios must have been batted about by her economics team, presumably with conclusions similar to mine – but if they have found a way out of the swamp, we can expect them to take it sooner rather than later.
In the meantime, rumours of the death of the euro are greatly exaggerated, if only because the alternatives are so painful. It reminds me of Dorothy Parker:
“Razors pain you;
Rivers are damp;
Acids stain you;
And drugs cause cramp.
Guns aren’t lawful;
Gas smells awful;
You might as well live.”