The fiscal fix Europe can’t bear to embrace
By Ian Bremmer
The opinions expressed are his own.
The European Union now faces a sovereign debt crisis that threatens the viability of the entire experiment, one that looms over the economies of even the sturdiest EU countries. Fair or not, debt crises in Greece and Portugal, and the spectre of them in Spain and Italy, have markets questioning whether the eurozone remains viable.
There is some good news. Everyone in Europe, from Germany’s state-level officials to Members of the EU Parliament, takes this issue seriously. The time for kicking the can down the road has passed. The bad news is that the only long-term solution to the crisis is the one that may be a bridge too far for most of the major players: a fiscal union that controls spending across all of the EU’s economies. Fiscal union might sound like a politically impossible concept, but market leaders, like Pimco’s Mohammed El-Erian, are urging Europe to at least consider, “a unified European balance sheet,” as a logical and badly needed extension of the currency union. To join the euro, governments surrendered control of their monetary policy. Surrendering control of fiscal policy amounts to an enormous psychological step.
A little background: EU member states still control their own spending — and their indebtedness. The EU specifies spending and debt limits for its member nations, but can’t really enforce its guidelines. That’s why Greece was able to hide the problem that too many of its citizens have evaded income taxes for decades, despite the government providing them substantial social benefits. This problem created the country’s debt crisis. Local control of fiscal policy also allowed Portugal to base its budgets on wildly optimistic economic growth projections for years. That’s why the debt crisis spread out of control — every country kept its own books, but few of the strong countries realized that to protect the euro, they would have to bail out weaker countries that rode the economic boom for years—including up to and during the global financial crisis and its aftermath.
Some more background: Soon after the dawn of the euro, as the benefits became clear, European governments were all too eager to join, to enjoy the rising tide, and to abandon their national currencies. This may have been the right economic move, but few of these countries understood the impact of surrendering control of their money supplies. Perhaps they were just too caught up in the long economic boom to care.
Now, in a time of crisis, European governments know exactly what must give up if they are to form a fiscal union. For the greater economic good of the EU—that is, for the good of citizens in other countries—they would have to surrender control of national spending priorities. A piece of their sovereignty would have to be renounced, probably forever. Before the current crisis, this is something most European leaders probably never seriously considered. The signatories to the Maastricht Treaty that created the EU and the conditions for adopting the euro hoped they would never be forced to test the strength of their union. Now, that is exactly what they are being asked to do.
Despite excellent leadership from Olli Rehn, currently serving as EU Economic and Monetary Affairs Commissioner, the EU is clearly an imperfect union, one that allows individual member countries to stray too far from what should have been common economic goals. The U.S. government as formulated under a comparably strong Constitution was able to create a bailout package that saved the financial system (and indeed, has turned out to be profitable) without the risk of fracturing the union. Can the EU move beyond a loose confederation into a stronger union to realize its full economic potential? The first indicator of whether this is possible should come at the European Commission summit this Thursday, where a solution to the Greek debt problem will be the most important item on the agenda.
Any votes that the EU takes to retroactively penalize countries like Greece and Portugal for straying from debt limits and putting the euro at risk will be seen as political punishments. In essence, the EU can’t exercise its strongest powers because they are punitive. It needs the power to prevent these problems from happening in the first place. But why is fiscal union such a politically fraught idea in the first place?
Just as American voters punished some Democratic lawmakers for their votes in favor of health care reform, the rise of right-wing nativist parties in Europe adds to the risk that moves to strengthen the power of the EU at local expense could endanger the very governments that are now asking voters to accept painful austerity measures. These leaders are caught between a rock and a hard place: they have to move Europe towards a strong union on one hand, but on the other, those very moves are likely to sway local voters to elect ultra-nationalist coalitions, endangering the cohesion of the entire European project.
Europe can’t afford this risk, for one very big reason: China. Here’s another: Saudi Arabia. So far, these wealthy countries and other holders of euros or euro-denominated debt have remained on the sidelines, but they have ample reason to want a viable alternative to the U.S. dollar as a reserve currency. They simply won’t let the currency tank — if it gets cheap due to strife over the bailout, propping it up becomes a buying opportunity for them.
In taking on more euro holdings, the influences of Asia and the Middle East over EU economic policy will grow, perhaps to uncomfortable levels. For now, countries with means are watching and waiting, while Europe’s politicians contemplate a fiscal union or some other solution to the crisis. But make no mistake, the outsiders won’t wait forever. If further debt crises hit larger economies in Europe, “muddling through” will no longer be a credible option—for markets or major debt holders, sovereign or otherwise. To avoid a repeat of this process, the EU will need a sustainable economic framework for the future. We’ll see renewed calls for fiscal union, but that would demand a willingness to compromise that today’s Europe may not have.
This essay is based on a transcribed interview with Bremmer.
PHOTO: EU Economic and Monetary Affairs Commissioner Olli Rehn addresses a news conference in Brussels on May 13th. Thierry Roge / Reuters