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|Take your Europoison. You´ll feel better later|
The Times - March 28th 2011
After his trial, Socrates was put to death by being forced to drink poison. His more modern namesake, Jose Socrates, the Portuguese prime minister, has just been put to political death because his parliament would not drink the fiscal poison demanded of it by the country’s international creditors, soon to include the European Union itself if Portugal is, as markets expect, forced to accept an EU rescue package. And this occurred just two days before EU leaders triumphantly agreed to reinforce their financial lifeboat service, to be known as the European Stability Mechanism, giving it an impressive 700 billion euros (£615 billion) fund to keep eurozone countries afloat.
For these are poisonous political times in Europe, whatever EU leaders might say about having everything under control. Even the most powerful among them, Chancellor Angela Merkel of
Nicolas Sarkozy of France is at an all-time low in the polls and hoping that his derring-do in Libya will save his presidency and win him re-election next year. Silvio Berlusconi of Italy, once Colonel Muammar Qaddafi’s best friend and bunga-bunga partner, will start his trial on April 6th on charges of using under-age prostitutes and abusing his office to get one of them out of jail. The “stress tests” which are to be carried out next Thursday, March 31st, might as well be on political leaders though actually they are on the eurozone’s banks.
It is all quite comforting if you are sitting in London, presiding over a budget deficit of 10% of GDP, and watching hundreds of thousands of people march through London in protest at your spending cuts: at least others are even worse off than us, Conservative and Liberal Democrat ministers might say, and the Tories among them will add that there is no way we are going to chip in to help with any euro bail-outs. The trouble is that neither of these views is quite right.
The odd thing about the euro, and the reason why its prospects and its politics can so easily be misjudged, is that it is both a success and a failure. The front-runner to become the next president of the European Central Bank this year, Mario Draghi, currently governor of the Bank of Italy, outlined the case for seeing it as a success in a speech in Milan last Monday: the euro “is not in question”, he argued, since its share of global currency reserves has risen from 18% when it was launched in 1998 to 27% now, and annual inflation in the euro area has averaged just under 2% during those 12 years, a better record than that of the Bank of England, while debt service costs for the zone’s big public debtors, Italy in their lead, has fallen sharply compared with the 1990s.
He is right: the currency has been an economic success. Its purpose was to achieve price stability and boost trade between members, and it has achieved both. The trouble is that it is also a political failure. It was expected to unite euro-zone members, and currently it is dividing them, ever more deeply.
That is why the political atmosphere is poisonous, as domestic woes are exacerbated by intra-European tensions. The richer, creditor nations of northern Europe, led by Germany, resent having to bail out their indebted southern neighbours (and Ireland), and would resent it even more if they had to hand over more of their tax money to support the southerners in future. The southerners, however, resent being told that there is no Plan B, and that there only option is to keep on cutting public spending and borrowing even if their countries’ recessions get worse as a result.
The atmosphere is being made worse because all the EU discussions have an air of unreality about them—at least in the opinion of German voters and most bond-market traders. The working assumption behind the European Stability Mechanism and the two rescue packages so far (for Greece and Ireland last year) is that all sovereign debts will be repaid in full: there will be no restructuring or default, in the Latin American manner.
So the bank stress tests to be made on March 31st will again omit the most imminent possible stress, namely sovereign debt losses. For the hope remains that as long as liquidity is provided by the bail-outs, and fiscal retrenchment occurs, all amid a “credible” framework for future fiscal policy, eventually economic growth will revive and the debts will recede.
Now, before British eurosceptics start sneering at this, it is worth noting that this is, leaving aside the bail-out, exactly the Cameron-Osborne policy. Greece, Ireland, Portugal and Spain, owners of the biggest debts and deficits, are being asked essentially to pursue the British course (though they began earlier). The only difference is that they cannot devalue their currencies, but so far sterling’s devaluation has not done Britain much good anyway.
The essential problem is that the course is not working. Growth is not reviving. In Ireland and Spain, bank losses from falling house prices are still getting bigger. Worse, the international outlook has taken a turn for the worse, with oil and food prices spiking, Syrians being shot in the streets, and the world’s third-largest economy, Japan, taking a big temporary hit from its tsunami-and-nuclear disaster. So the day of the debt renegotiation is coming ever closer.
There is no need for this to mean the end of the euro—in fact such an outcome is highly unlikely. But it will mean the mother of all European political rows, unless Mutti Merkel, as the German chancellor is not-very-affectionately known, shows great political courage and leads this process rather than waiting for Portuguese, Greek or Irish voters and politicians to lead it for her. Banks in Germany, Britain, France and other countries, along with other sovereign bond investors, are going to have to take some losses in order to reduce the debt burdens in the euro-zone. Those losses may well have to be made up by taxpayers, at least until fresh private capital can be raised.
Strange as it may seem, this debt-renegotiation will actually be costlier for Britain, a non-euro member but a big cross-border lender, than would be the further contributions to the euro bail-out fund that David Cameron has been resisting. Perhaps he realises that this hemlock is going to have to be taken, by all the European leaders and not just those in the euro-zone. The sooner that happens, the less likely it is to be deadly, either for the currency or for them personally.