During several trips to Europe in the late 1990s, I had occasion to speak with numerous business executives and government officials. A common topic was the migration of European Union currencies to the euro, set to take place on January 1, 1999. The momentous event had been decades in the making. It promised to solidify the EU as a powerful trading and economic bloc that could compete on equal terms with the U.S., which had joined with Canada and Mexico in the North American Free Trade Agreement (NAFTA) five years earlier, and China, which had taken back Hong Kong from the British in July of 1997 and was well on its way to becoming an economic superpower. Unifying the EU under a single currency, while tearing down trade and business barriers between its members, just seemed to make good sense. So why did nearly everyone I spoke with at the time express deep doubts about the plan?
My random conversations would hardly qualify as a scientific sampling of opinion. Still, I was struck by how many business and government leaders viewed the coming of the euro with trepidation. German executives in particular feared that their dominant economy would be undermined by weaker partners, who would essentially be getting a free ride on the back of the continent's true economic engine. There was also much talk of various EU members ginning up the numbers, in order to meet the requirement that their budget deficits not exceed 3 percent of gross domestic product. Nevertheless, everyone seemed to view the common currency as a fait accompli, like a runaway train on a track without sidings.
I wonder now whether those leaders wished they had never boarded that train in the first place. Today, the euro is in deep trouble, threatened by massive government debt and budget deficits in Greece and, to a somewhat lesser extent, Portugal, Spain, Ireland and even Italy. If action isn't taken quickly by the stronger members of the community, the whole 17-member eurozone will blow up, and possibly the EU along with it. The ramifications for the global economy are incalculable.
How did it get to this state of affairs? Start with the reason behind the formation of the EU, which was political in nature, not economic. "Europe was devastated twice in the first part of the 20th century by huge wars," says Johan Van Overtveldt, an author and economist based in Brussels, Belgium. "There was an enormous drive among European politicians to prevent that kind of thing from happening again." In particular, they wanted to put an end to the centuries-old conflict between Germany and France.
Fine in theory - except bringing together a couple of dozen sovereign nations, each with its own language, customs and culture, is no easy task. Economic unification turned out to be the sole policy area in which common ground could be found. At the end of that road - or so most members assumed at the time - was the prize of monetary union.
And now, the mess. By sharing a currency with big, creditworthy economies like that of Germany, Greece was able to borrow at extremely low rates of interest, causing it to be saddled with massive public debt. Today the burden stands at approximately 370bn euros, or nearly $500bn, representing more than 142 percent of GDP. Compare that with Russia's debt of "only" $79bn, when that nation defaulted on its obligations in 1988. Similar action by Greece seems likely now. Meanwhile, its economy is further threatened by the need to slash government spending, raise taxes and lay off thousands of workers. Consequent protests by Greek citizens threaten to destroy the social order.
The seeds of the crisis were planted early on. In 2004, Greece admitted that it had lied about its budget deficit back in 1999 in order to meet the 3-percent-of-GDP requirement for joining the eurozone. (Not a very convincing lie, it turns out. Several European finance ministers have since admitted that they knew at the time that Greece's deficit figure wasn't accurate.) The actual amount, the country revealed, was closer to 3.38 percent - and that was before it spent billions on preparing for the 2004 summer Olympics. Matters, of course, have only gotten worse since then.
It's likely that Greece wasn't the only country in the EU to fudge its deficit numbers in order to adopt the euro. But there were larger problems in place prior to economic unification - problems that virtually assured that the experiment would be a failure.
In retrospect, Van Overtveldt wonders why it took more than 10 years for the effects to be felt. He says the monetary union was "set up with a very incomplete, even faulty construction." To make such a grand scheme work, members of the EU first needed a functioning political union, through which they could impose convergent economic policies. Nothing of the kind was in place. (And no, issuing a rule on bent cucumbers doesn't count.)
They also needed flexible labor markets. "When entering into a monetary union," says Van Overtveldt, "you give up interest rates and currency-exchange rates as policy tools. In order to compensate for that loss, you need other means to help your economy absorb shocks that will come along the road. More flexibility in your labor market is the way to achieve that."
In other words, a Greek worker within an economically cohesive Europe should be able to pull up stakes and move to another country with ease. A glance at today's EU reveals how far the region is from achieving that dream. The shell of unification has done nothing to alleviate the tension caused by jobless immigrants from poorer countries seeking work in Germany, France and Great Britain. (The last, of course, has wisely joined nine other EU members in opting out of the euro.)
Cracks in the EU's foundation were concealed for a time, thanks to the inevitable honeymoon in the first few years, along with worldwide economic expansion following the 9/11 attacks on the U.S., and recovery from the bursting of the dotcom bubble. But with the coming of the Great Recession of 2008, the flaws were laid bare.
Now the problems of Greece are rapidly spreading to other debt-laden economies of the region, raising the prospect of a continent that is split between the economic haves and the have-nots. A solution to bind the community back together will have to be found. Or not.
Next: The possible scenarios.
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