The European Central Bank’s bond-buying scheme has bought Spain and Italy time to stabilise their finances. But if they drag their heels, the market will sniff them out. It will then be almost impossible to come up with another scheme to rescue the euro zone’s two large problem children and, with them, the single currency.
The euro crisis is to a great extent a confidence crisis. Sure, there are big underlying problems such as excessive debt and lack of competitiveness in the peripheral economies. But these can be addressed and, to some extent, this is happening already. Meanwhile, a quick fix for the confidence crisis is needed.
Mario Monti’s ability to take a crisis and turn it into an opportunity may one day be taught as a case study in political economy. When Italy’s technocratic premier succeeded Silvio Berlusconi last November, the country’s 10-year bond yield was above the 7 percent level that had driven Greece, Ireland and Portugal to seek bailouts. Now it is 5.5 percent – still high but moving in the right direction.
When confidence in a regime’s permanence is shaken, it can collapse rapidly. The fear or hope of change alters people’s behavior in ways which make that change more likely. This applies to both political regimes such as Hosni Mubarak’s Egypt and economic regimes such as the euro.
The Super Mario Brothers need to work together to save Italy and the euro.
Even if Mario Monti can form a strong government in Italy, the euro zone is vulnerable to bank runs and a deflationary spiral. Stopping that is the role of Mario Draghi, the European Central Bank’s boss. The zone needs vigorous supply-side reform but looser monetary policy. With Silvo Berlusconi gone, the duo and Germany’s Angela Merkel should try to forge a new grand bargain based on this.
Chaos, drama and crisis are all Greek words. So is catharsis. Europe is perched between chaos and catharsis, as the political dramas in Athens and Rome reach crisis point. One path leads to destruction; the other rebirth. Though there are signs of hope, a few more missteps will lead down into the chasm.
The euro zone’s future hangs on Italy – and Italy’s future hangs on its politics. The best way forward would be a grand coalition replacing Silvio Berlusconi’s discredited government. But after the prime minister’s Houdini act last week, that doesn’t seem likely and other scenarios aren’t as attractive.
The euro zone is like Hotel California, UBS wrote in a report published in September. “You can check out any time you like but you can never leave,” it said, quoting the Eagles song. A British businessman, Simon Wolfson, has now offered a 250,000 pound prize to the person who can come up with the most convincing explanation of how an orderly exit from the single currency is possible.