The Great Debate

Betting on the unthinkable in the euro zone

J Saft

Jan 16, 2009 09:05 EST

— James Saft is a Reuters columnist. The opinions expressed are his own –

Some crises bring partners closer together. Some, as investors in the euro zone are likely to discover this year, drive them further apart.

Look for rising tensions about fiscal and monetary policy among the bloc’s 16 member nations, and for a bigger penalty to be imposed on the euro and some euro zone assets against the possibility of a breakup or a secession from the currency group.

The liquidity crisis of last year left smaller members of the euro thanking their lucky stars they were inside a big warm tent with a major currency and critically, a powerful central bank that could help banks and maintain order in financial markets.

Ireland and Greece, to name but two, could look at the disaster in Iceland, which suffered a banking and currency collapse, and see the real tangible benefits of membership.

But now that the crisis has morphed into one in the real economy, with exports plunging and employment hit, things will be less cohesive within the euro zone, with one currency having to do duty for different countries with different economies and levels of competitiveness.

European governments vary widely in their ability to withstand the fiscal squeeze from falling tax receipts, as well as having varying ability to credibly take on programs of stimulative deficit spending. That of course is about all that euro countries have open to them when it comes to unilateral action, being forced as a condition of membership to live with a common currency and interest rate policy.