Barry Eichengreen

Barry Eichengreen is Professor of Economics and Political Science at the University of California at Berkeley, and a former senior policy adviser at the International Monetary Fund. He is renowned …
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Europe’s Divided Visionaries

BERKELEY – Europe’s leaders, unlike former US President George H. W. Bush, have never had trouble with the “vision thing.” They have always known what they want their continent to be. But having a vision is not the same as implementing it. And, when it comes to putting their ideas into practice, the European Union’s leaders have fallen short repeatedly.

Illustration by Barrie Maguire

This tension between Europeans’ goals and their ability to achieve them is playing out again in the wake of the recent EU summit. Europe’s leaders now agree on a vision of what the EU should become: an economic and monetary union complemented by a banking union, a fiscal union, and a political union. The trouble starts as soon as the discussion moves on to how – and especially when – the last three should be established.

CommentsBanking union, Europe’s leaders agreed, means creating a single supervisory authority. It means establishing a common deposit-insurance scheme and a mechanism for closing down insolvent financial institutions. It means giving the EU’s rescue facilities the power to inject funds directly into undercapitalized banks.

CommentsLikewise, fiscal union means giving the European Commission (or, alternatively, a European Treasury) the authority to veto national budgets. It means that some portion of members’ debts will be mutualized: individual governments’ debts would become Eurobonds, and thus a joint obligation of all members. The Commission (or Treasury) would then decide how many additional Eurobonds to issue and on whose behalf.

CommentsFinally, political union means transferring the prerogatives of national legislatures to the European Parliament, which would then decide how to structure Europe’s fiscal, banking, and monetary union. Those responsible for the EU’s day-to-day operations, including the Board of the European Central Bank, would be accountable to the Parliament, which could dismiss them for failing to carry out their mandates.

CommentsVision aplenty. The problem is that there are two diametrically opposed approaches to implementing it. One strategy assumes that Europe desperately needs the policies of this deeper union now. It cannot wait to inject capital into the banks. It must take immediate steps toward debt mutualization. It needs either the ECB or an expanded European Stability Mechanism to purchase distressed governments’ bonds today.   

CommentsOver time, according to this view, Europe could build the institutions needed to complement these policies. It could create a single bank supervisor, enhance the European Commission’s powers, or create a European Treasury. Likewise, it could strengthen the European Parliament. But building institutions takes time, which is in dangerously short supply, given the risk of bank runs, sovereign-debt crises, and the collapse of the single currency. That is why the new policies must come first.

CommentsThe other view is that to proceed with the new policies before the new institutions are in place would be reckless. Mutualizing debts before European institutions have a veto over fiscal policies would only encourage more reckless behavior by national governments. Proceeding with capital injections before the single supervisor is in place would only encourage more risk taking. And allowing the ECB to supervise the banks before the European Parliament acquires the power to hold it accountable would only deepen the EU’s democratic deficit and provoke a backlash.

CommentsEurope has been here before – in the 1990’s, when the decision was taken to establish the euro. At that time, there were two schools of thought. One camp argued that it would be reckless to create a monetary union before economic policies had converged and institutional reforms were complete.

CommentsThe other school, by contrast, worried that the existing monetary system was rigid, brittle, and prone to crisis. Europe could not wait to complete the institution-building process. It was better to create the euro sooner rather than later, with the relevant reforms and institutions to follow. At the slight risk of overgeneralization, one can say that the first camp was made up mainly of northern Europeans, while the second was dominated by the south.

CommentsThe 1992 exchange-rate crisis then tipped the balance. Once Europe’s exchange-rate system blew up, the southerners’ argument that Europe could not afford to postpone creating the euro carried the day.

CommentsThe consequences have not been happy. Monetary union without banking, fiscal, and political union has been a disaster.

CommentsBut not proceeding would also have been a disaster. The 1992 crisis proved that the existing system was unstable. Not moving forward to the euro would have set up Europe for even more disruptive crises. That is why European leaders took the ambitious steps that they did.

CommentsNot proceeding now with bank recapitalization and government bond purchases would similarly lead to disaster. Europe thus finds itself in a familiar bind. The only way out is to accelerate the institution-building process significantly. Doing so will not be easy. But disaster does not wait.