How to save Italy: Dont
Im sick of these never ending euro crises. Arent you? The fight over how to manage the European Unions single currency seems destined to go unresolved. That decade-long debate about the size of Greeces primary budget surplus? Still going on in corners of the European Commission. All of those “crisis” summits about Ireland, Greece, Portugal and others? Just another reincarnation of the euros structural weaknesses, which have come back to haunt us yet again — this time in the form of a furor over Italys budget.
On Thursday, the European Commission once again accused Rome of spending beyond its means, especially given its high level of public debt. Unless Italys populist government changes its draft budget, the Commission warned, the countrys budget deficit would balloon to 2.9 percent of GDP next year and rise to 3.1 percent of GDP in 2020, putting it in breach of the EUs public spending rules.
But lets be honest. The European Commissions role as a kind of fiscal sheriff, presiding over a centralized currency area and imposing its rules on member countries, is neither sustainable nor desirable. As were seeing with Italy, this approach fans Euroskeptic and populist sentiment, just as it did in Greece.
The EUs Stability and Growth Pact (and all its expanding, complicated add-ons) is now perceived as a debtors tool and a creditors punishment. The euro will eventually collapse if this model is not changed.
Why has the EU not changed its approach? Surely not every member country south of the Alps is full of fiscal crazies determined to shake down their thriftier northern neighbors. When it comes to the euro, it seems the EU is slow to learn from — or even acknowledge — its mistakes.
Even if the euros house is only half built, it already requires significant remodeling.
Brussels would do well to look at current political realities. Neither EU citizens, nor the majority of their national governments, support a eurozone model based on centralized authority.
Fiscally conservative states — in the medium term at least — will never accept the development of the eurozone into a full-scale transfer union. This reflects the public mood in these countries.
Meanwhile, for other member countries, the current recipe of monetary centralization and Brussels-based enforcement of fiscal rules is a recipe for economic stagnation and political fragmentation. Structural reforms can only go so far. To deny this is both dangerous and, ultimately, futile.
Beyond these technical economic arguments, a look at history also shows that fiscal centralization is not required for the eurozone to function sustainably. Instead, the core objective should be to decentralize the implementation of fiscal rules, while restoring a credible, easily understood no-bailout rule (as set out in the Maastricht Treaty). The EUs side-stepping of this rule has been a key ingredient in the never ending parade of euro crises and policymakers misguided push for further centralization.
This may sound like science fiction to dedicated economists, who view any deviation from established fiscal rules as the end of modern civilization. But politically (and lets not forget the euro is a political project), this model would remove the EU as the focus of populist rage against “austerity” and put the onus on national governments to implement sound long-term fiscal and structural reform policies.
Look at the United States, where a decentralized monetary union has functioned for over a century. When a bank in New York goes bankrupt it doesnt cause mayhem in Montana. States in the U.S. have not defaulted since the Great Depression owing to the credible no-bailout policy of the federal government, state level fiscal rules and a clearer understanding of default risk by the financial markets. This system didnt develop by accident: Federal politicians have resisted pressure (at times fierce) to bail out struggling states.
The eurozone had a successful start. It needs to pick itself up, reinvent itself and start anew.
This type of fiscal federalism wont be easy to replicate in Europe. Even if the euros house is only half built, it already requires significant remodeling.
There will have to be compromises — Germany on finishing a banking union with a common insurance scheme (Yes Berlin, it might be a fiscal transfer!); France on its wish for a centralized European super-state.
Yet, economists from the U.S. — a large functioning monetary union with some historic similarities to the development of the eurozone — have argued that this alternative path forward can act as a more realistic reform agenda. The completion of a banking union, measures to limit the holdings of government bonds by banks, the creation of a European Monetary Fund and a return to the principle of fiscal federalism — these can all be key steps in developing a truly sustainable monetary union.
The eurozone had a successful start. It needs to pick itself up, reinvent itself and — with national governments at its core — start anew.
Eoin Drea is senior research officer at the Wilfried Martens Centre for European Studies.