Nicholas Wapshott

Getting Europe out of its mess

Nicholas Wapshott
Jan 23, 2013 20:57 UTC

When the 2012 Nobel Peace Prize was awarded to the European Union, jaws dropped from Belfast to Belgrade. The citation said the EU had helped transform Europe “from a continent of war to a continent of peace,” and that its “most important result” was “the successful struggle for peace and reconciliation and for democracy and human rights.” Many think that is a strange way of interpreting the last 100 years, given that the maintenance of a free Europe since the end of World War Two is due more to the thankless diligence of NATO and the unsung generosity of the United States.

The timing of the award was also puzzling. The very existence of the European Union is under severe threat as it struggles to maintain its common currency, the euro. To protect the euro, EU bureaucrats in Brussels and political leaders in Berlin and Paris have made the poorer member nations the target of austerity measures that threaten to undermine those nation’s democracies. Instead of celebrating the EU as a benign force for peace and trans-national cohesion, the Nobel Committee might just as easily have condemned it for using the global financial crisis as a pretext to double down on its grand plan to forge a single European state. The award by the notionally apolitical Nobel Committee – whose host country, Norway, chose in 1972 and again in 1994 not to join the EU – appeared to be a desperately needed vote of confidence for an ambitious dream that has turned into a divisive nightmare.

Neither awards nor plaudits will save the European Union. Central bankers alone won’t fix it, either. That’s because a lasting remedy for what’s ailing the region must be political as well as financial. The modern history of Europe largely revolves around the bitterly fought and seemingly eternal contest between France and Germany, with Europe’s third great power, Britain, sometimes wisely and often mischievously maintaining the balance. Both of the 20th century’s ruinous world wars and several other destructive conflicts stemmed from Franco-Prussian enmity. It was primarily to bring this perennial conflict to an end that the EU founders – French diplomat Jean Monnet, French statesman Robert Schuman and the Belgian premier Paul-Henri Spaak – envisioned a Europe in which the nations were bound ever closer by an economic pact. The other unstated aim was to create a single European state to rival the United States in population and wealth, and, as time went on, to compete with the burgeoning economies of India, China, Russia and Brazil.

A huge leap toward those goals was made in 1999 with the establishment of a single currency, the euro, that replaced the national currencies in 17 of the EU’s 27 states. To speed up the euro’s birth, almost every EU nation – countries with fragile economies, such as Greece and Ireland, as well as rich nations like Germany, France and the Netherlands – flagrantly bent the rules of entry. The hurried shift from sovereign nations controlling their own currencies, interest rates and fiscal policies to a common-currency coalition with a uniform monetary policy determined by a central bureaucracy was pushed through with minimal public debate. Europe’s governing elite deemed this alliance so self-evidently beneficial that the end justified the means, but the wishful thinking behind the hasty creation of their single currency is now evident as the euro unravels.

The central – and perhaps fatal – flaw of the euro is that it is a common currency without a common fiscal policy. The world financial crisis of 2008-09 exposed a number of frauds, among them Bernie Madoff’s gigantic Ponzi scheme. Another revelation was the core defect in the design of the euro. Some anti-American Europeans, including Thorbjorn Jagland, chairman of the Nobel Committee, take cold comfort from the fact that an economic meltdown rooted in the United States exposed the euro’s inherent instability, but it is little solace to the Greeks, the Spanish, the Portuguese and the Irish that the tight fiscal conditions and long-term misery they face might have been avoided had that meltdown not taken place. Had those countries rejected the euro, they could have devalued their currencies to weather the financial storm. As it is, they face a Hobson’s choice: to stay in the euro zone or leave and be driven into bankruptcy and destitution.

The looming currency war

Nicholas Wapshott
Jan 23, 2013 20:34 UTC

Are we about to be sucked into a currency war? As the world economy continues to splutter, countries are looking for ways to break out of the mire. One way of gaining popularity is to promote growth through making exports cheap. The key to an export-led recovery is to devalue a national currency, thereby lowering the prices of exports. By allowing its currency price to slide, a nation can launch a surreptitious trade war against its commercial rivals. Western nations have for years accused China of taking an unfair trade advantage by keeping its currency, and therefore export prices, artificially low. By allowing their currencies to devalue, Western countries are fighting back.

There are indications that the early skirmishes of a currency war have begun. This is a dangerous business. If countries undercut their competitors’ prices by devaluing their currencies, the stability of the world economy is put at risk. A full-fledged currency war invites deflation, a ruinous downward spiral of prices that in turn invites a worldwide recession. The cause of the conflict lies in the failure of the chosen measure to offset a Great Recession since 2008: wave after wave of “quantitative easing” (QE) by central banks to beat stagnant growth. QE was intended to funnel cheap money into national economies to boost economic activity and increase aggregate demand, thereby creating growth and jobs. But persistent QE has had an important unintended consequence. It has removed a key measure by which traders judge sovereign interest, or the ability of a country to pay its way.

Before the financial freeze of 2008-9, traders who worried about a country’s solvency would decline to buy government bonds or insist on a punishingly high return. That mechanism became confused when, to head off a precipitous Great Recession, finance ministers from the leading industrial nations agreed to pump vast amounts of newly minted money into their economies until the danger had passed. QE, or the buying of government bonds by central banks, was intended to reduce general borrowing costs and allow businesses to borrow cheaply to invest, and thereby employ the jobless.