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The Euro Endgame

August 1, 2011 — Published originally in The Weekly Standard

Billion by billion by billion, showdown by argument by ultimatum, Greece’s latest bailout is being put together by those who run the eurozone. The country’s finances are so bad, and its prospects so poor, that even the new $159 billion rescue package announced on Thursday will (assuming it comes into effect) probably only prove to be a reprieve.

Never mind. Buying time is the name of the game. If Greece can be kept going, and Portugal and Ireland too, financial markets might, fingers crossed, calm down, and the threat that panic might engulf Spain and Italy—two economies too big to bail—and the banks that have lent to them might recede. Then, come July 2013, the $1.1 trillion European Stability Mechanism will spring to life. It will be backed by the 17 members of the eurozone, be policed by Brussels, and it will inherit the proto-IMF powers now being proposed for the European Financial Stability Facility that it will succeed. Well, that is the plan (at the time of writing), complete with a hint of Ponzi, a dash of Micawber, and dire warnings of what the alternative might be.

There’s a lot that needs not to go wrong, but of all the elements that could, the most dangerous may come from a source that Brussels has long tried to write out of the plot: the ballot box. There’s an irony to that. If there was anything (other than misplaced Carolingian nostalgia) at the heart of the project for a European union it was the idea that, after the wars of the first half of the twentieth century, the peoples of the old world could no longer be trusted with their own sovereignty. It’s never been much of an argument, but it’s worked well enough for the EU’s emerging technocratic elite.

The establishment of the euro is thus best understood as just another stage in the progressive disenfranchisement of Europe’s voters. The replacement of domestic currencies with what was, in effect, foreign money meant that, as a practical matter, the countries (and particularly the weaker countries) of the eurozone lost much of what was left of their fiscal and economic autonomy. Previously a nation with subpar finances and/or an uncompetitive cost base could allow the depreciation of its lira, its drachma, or its escudo to restore some balance. Its standard of living might fall relative to its international competitors’, but it could usually muddle along in the fashion that its people had, one way or another, chosen.

Now that option was closed. Forget the voters; once a country could no longer print its own money it had to run itself in ways that ensured it could keep international creditors—which is to say all creditors—happy. More generally, it had to manage itself in a manner that allowed it to keep reasonably close to the pacesetters of the monetary union in which it now dwelt—and if that country was Greece and the pacesetter was Germany, that was only going to be possible (if at all) with wrenching political and cultural change. That change might have been desirable, but to think that external discipline alone would be enough to set it in motion was a fatal conceit.

After 10 years in the currency union, Greece needs to devalue its currency by perhaps 50 percent. With no drachma to debauch, the only alternative is drastic austerity, and that is where politics may spoil the unlovely technocratic party that is now being thrown for the Hellenic Republic. In early July, Jean-Claude Juncker, the Luxembourger who presides over the organizing committee of the eurozone’s finance ministers, announced that Greece’s “economic sovereignty” would be “massively limited.” But what if the Greeks say no? So far, their parliament has voted through what it has to, but the opposition is not on board, and the economy is being pulled down ever further by debts that cannot be repaid and a currency that Greece cannot afford. With unemployment at an official 16 percent (or 43 percent of those under 24) and further street disturbances a certainty, how long will it be before Greece decides that it has less to lose than its creditors from the “selective” default it is now to be permitted? The crisis has already brought down the Irish and Portuguese governments and contributed to the humiliation of Spain’s ruling Socialists in recent local elections. For all the Brussels chatter of additional “structural funds” to be deployed in the “relaunch” of the Greek economy, how much do Greece’s politicians really have to lose by calling Juncker’s bluff?

Faced with a future that offers, at best, a bleak and humiliating road ahead, their counterparts in other PIIGS (Portugal, Ireland, Italy, Greece, and Spain) may come to feel the same. Thus the Irish are reexamining the wisdom of guaranteeing the liabilities of their broken banking system to the extent that they have—a promise that, at this stage, may be worth more to foreign creditors than anyone at home.

Those who have found themselves feeding PIIGS are unhappy too, nowhere more so than in Germany, the country that is effectively underwriting the euro, a currency that—true to Brussels form—its electorate was never truly asked to endorse. As for the risks, they were barely discussed with voters, and when they were discussed, they were denied. German taxpayers would not be on the hook for anyone else, oh no. But that’s not how it has turned out for them, and they are not well pleased.

This has put German chancellor Angela Merkel in a spot. Without German support for the eurozone’s crumbling periphery, decidedly unselective defaults will trigger the financial contagion that policymakers are trying to avoid. For all her disapproval of PIIGS sty failings, the pragmatic Merkel understands this perfectly well, but her power to force through another round of assistance is not what it was. She still commands a comfortable majority in the Bundestag, but, in part thanks to the controversy over German participation in earlier bailouts, she has lost her grip over her country’s upper house. There may be worse to come. Polls taken before the announcement of the latest rescue plan showed that over 60 percent of Germans opposed extending further money to Greece, and this discontent is penetrating her governing coalition.

And opposition to bailouts has been mounting amongst voters elsewhere in the eurozone’s richer north for quite some time. That’s ominous. The new Greek package, and the changes to the European Financial Stability Facility that accompany it, require the approval of every member of the coalition of the unwilling that is meant to be providing the funds. Earlier bailouts have already riled voters in Austria, divided the ruling Dutch coalition, and helped propel the True Finns, a once-small populist party, to third place in April’s Finnish general election with 19 percent of the vote. Under the circumstances the notion that the Greek rescue plan will sail smoothly through all the national parliaments involved looks like fantasy.

The politics will be rough, and they will get rougher. Neither this bailout, nor the expanded European Financial Stability Facility, nor its successor, will be enough to unwind the imbalances now ravaging the eurozone’s periphery. The best chance of achieving that will be to move on to a quasi-federal budgetary, fiscal, and “transfer” union. That will be a hard sell to electorates in those countries that will be footing the bill (probably in excess of an annual $150 billion), and after the fiascos of the last year or so it will be politically too dangerous to try, once again, to bypass them.

Voters may well start to count after all.