The Corner

The Euro Is Dead, Long Live the Euro

European finance ministers are meeting in Brussels for what is advertised as a last chance to save the European Monetary Union, but which is actually a pronouncement of last rites. The euro, as currently constructed, is dead. But it will be back.

The euro’s demise may seem an odd pronouncement given yesterday’s action by major central banks, including the U.S. Federal Reserve, and the equity markets’ buoyant response. In fact, through their coordinated preparatory action of ensuring financial markets have adequate liquidity through the upcoming crisis, the central banks were ringing the chapel bells for the euro’s funeral.

To be sure, European leaders could cobble together another set of financial band-aids to muddle along a while. Europe’s ascendant technocrats are very good, Europe’s laws evidently malleable, and the poor European Central Bank not up to the task of defending its independence from political strong-arming.

And Germany may be able to force even more severe austerity measures onto the growing list of fiscally failing states, becoming the international version of how Newt Gingrich once described Bob Dole: tax collector to the welfare state. However, in the now inevitable and rapidly approaching end, all such emergency actions by the technocrats will be full of sound and fury, signifying nothing.

Why such a dour outlook? Because the EU’s problems are not susceptible to technocrats’ wiles. They are deep, and they are fundamental. And while official Europe busies itself with the latest financial fire, it assiduously ignores the underlying rot in the economic framework. This rot, most apparent in the so-called peripheral countries, extends even to Europe’s last flickering hope for rescue, Germany itself.

Consider the following: Countries heavily indebted to foreign lenders must run external surpluses to service the debt, let alone pay it off. This is an inescapable, fundamental economic fact.

To run surpluses, debt-laden countries must be quite competitive in global markets. However, the common calculation, which seems about right, is that the wage and price structures in countries like Greece and Italy are 30 percent or more out of line compared with France and Germany. This misalignment can only be corrected by a crushing, sustained decline in domestic wages and prices over many years, or by a currency devaluation. But devaluation can only occur by leaving the euro.

As many have observed, leaving the euro will be a disaster for Greece et al. However, remaining in the euro under any imaginable circumstances would be economic suicide. Game, set, and match.

This is the rot in the attic, but there’s even more rot in the foundation, and this rot extends all the way to Germany. When opining on Europe’s misfortunes and needed remedies, it is commonplace to observe that EU members need to adopt policies that will get their economies growing again. Indeed they must. But they have no idea what to do. And even if they did, these policies could not deflect the coming recession, as effective remedies take too long to have a meaningful effect.

Europe’s network of crushing regulations, stultified labor markets, high taxes, and unaffordable social spending have left much of the continent’s economy stuck in neutral — and this was before the austerity-induced tax increases. What growth has occurred in recent years in the periphery was largely debt-driven.

And in Germany, the supposed strong man of Europe, what growth occurred was largely due to net exports to the debt-levitated periphery; net exports that will likely soon dry up as the periphery withers. Credit markets, and the German people, will be in for quite a shock when Germany’s high debt-to-GDP ratio — north of 80 percent — which appears manageable with a growing economy, becomes a teutonic albatross in recession.

Today’s euro has already failed. It is now on technocratic emergency life support, its permanent rescue beyond the ken of mortals. But if Europe’s leaders insist, a new euro can and will rise from the ashes of the old. Whether this is wise or not is another matter. One can only hope that in constructing the new euro, Europe’s leaders will have the wisdom and fortitude to establish the institutional structures necessary for the new currency to avoid the fate of the old.

— J.D. Foster is the Ture senior fellow in the economics of fiscal policy at the Heritage Foundation.


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