Britain backs the euro

The headline above may seem a little odd, given the UK’s longstanding antipathy to Europe’s common currency, but it is nonetheless true. Britain would be up an even shittier creek outside of the European Union, and without a strong strong euro. Sterling is weak, and while freely traded on the open market, it tends to follow the euro in its dance with the dollar.

Chancellor George Osbourne’s claim that the UK is a “safe haven” in the world’s volatile financial markets is laughable, but he is on stronger ground when calling for tighter fiscal union in the eurozone to resolve the debt crisis.

“I was against Britain joining the single currency. One of the reasons … was because I thought the remorseless logic of having a single currency is you end up having something akin to a single budget policy. You can’t have one without the other.”

“An unstable euro is very bad news for us, we have to ensure that our influence on important decisions like financial services is not undermined. But we do yes have to allow greater fiscal union while protecting our own national interest.”

So there you have it. What Osbourne is saying, in essence, is: “If you fail, we go under”.

Simply calling for fiscal union is short on substance, though I guess that is only to be expected from a politician with no reputation for economic literacy. So what do proper economists think of the euro crisis? Not being a business journalist, I don’t keep up to date with the details, but occasionally I come across interesting contributions to the debate.

Take, for example, a recently published paper by Yanis Varoufakis and Stuart Holland, whose “modest proposal” is accompanied by a critique of existing policy…

“The European approach of extending expensive loans to fiscally stricken sovereigns on condition of savage austerity is deeply flawed.”

“Europe is labouring under a twin debt mountain and must extricate itself from it. It must do so by tackling both manifestations of that debt at once. It must realise the opportunities presented to it by the fact that the EU itself has next to no debt. And it must seek ways to re-design its common currency.”

Varoufakis and Holland’s two-part plan starts with a tripartite agreement between member states, the European Central Bank, and the major bond-holding banks. The private banks would limit their demands over the debt of high deficit countries, and the latter would implement structural reforms that reduce waste, inefficiency and corruption, but not with savage austerity measures. They would also operate tax systems that actually work, and reduce agricultural subsidies. The ECB’s role is to use the European Investment Bank to increase productive investment throughout the union, but concentrating on recession-hit regions.

The biggest problem here is the banks. High deficit countries such as Greece and Ireland are borrowing at interest rates of over five percent in order to pay off their debt to the banks, yet the banks are borrowing from the ECB at less than one percent, and are all the while hoarding funds and refusing to lend to businesses at affordable rates.

The second part of Varoufakis and Holland’s plan involves a redesign of the eurozone’s economic architecture, and this is where the politicians come in. The problem there is that the debate has so far focused on fiscal union alone, and that, say Varoufakis and Holland, is missing the point. The eurozone’s triptych of ‘no default, no bail out, no exit’ is no longer credible, nor is the German proposal to allow default while the other two clauses remain intact.

A federal European Union is a solution, but not a practical one to implement in the midst of the current crisis. Instead, say Varoufakis and Holland, we should devise a mechanism for the central management of sovereign debt, and another for recycling surpluses and savings. This could be achieved with a tranche of 60 percent of the sovereign debt of all member states, with the EIB embarking on a large-scale investment in green technologies, efficiency increases, infrastructure enhancements and poverty reduction. All this would be funded by ECB-issued bonds that do not count toward member states’ debt. The package would rely on new rules regarding fiscal discipline among member states.

I am not qualified to comment on the details of this proposal, but, given the poverty of the current political debate, it strikes me as being worthy of serious discussion.

Further reading

Yanis Varoufakis & Stuart Holland, “A modest proposal for Europe: a two-part plan for overcoming the eurozone’s crisis, redesigning its crumbling architecture, and reinvigorating the European Project”, Int. J. Pluralism and Economics Education 2, 227 (2011)