Last week's elections in France and Greece have caused so much economic and political turmoil throughout Europe that the grand eurozone experiment might be on the verge of collapse.
Europe's central bankers thought they had it all sewed up. Eurozone members had crafted a rescue package that would write down 21 percent of Greece's $550bn in public debt, which represented a whopping 142 percent of that nation's GDP. Greece would have access to a $600bn bailout fund administered by the European Financial Stability Facility (EFSF). In exchange, the nation would have to submit to a draconian program of deficit slashing, including a $15.5bn reduction in the government's budget over the next two years. For Greece, austerity would be the order of the day - and for many days to come.
Greek citizens, it turns out, were having none of it. The two major political parties, New Democracy and the Socialists, both of which had backed the loan agreement, suffered big losses in the parliament last week, and were unable to form a governing coalition. The election followed weeks of protests and rioting in the streets over the fiscal treaty. Even more disturbing was the growing power of the far-right Golden Dawn party, which is seen by many as exhibiting neo-Nazi tendencies and whose symbol looks alarmingly like a swastika. To put it bluntly, Greece's political system is in the grip of chaos.
In France, meanwhile, President Nicolas Sarkozy lost narrowly to Socialist challenger Francois Hollande, who opposes the European Union's single-minded focus on austerity and seeks to pursue a path of economic growth instead. Hollande's program includes higher taxes on both business and citizens earning more than one million euros a year, accompanied by fresh government investment. His position puts him on a collision course with German chancellor Angela Merkel, perhaps the leading advocate of the "bitter-medicine" approach to reforming the economies of Greece and other troubled EU nations, including Spain, Portugal and Italy.
It remains to be seen how much success Hollande will have. Merkel and the European Central Bank have declared themselves adamantly opposed to loosening the noose around Greece's neck. They argue that the nation is responsible for its current plight, and that thrifty Germans shouldn't have to suffer for Greece's profligate ways. At best, Merkel might agree to an addendum to the rescue package that includes a vague commitment to growth. But she's not likely to budge much more than that - she has her own voters to whom she must answer. So, on top of the instability plaguing smaller EU nations, France and Germany, the eurozone's two biggest cheerleaders, could experience a rift in their longtime relationship.
The source of all this misery is, of course, the formation of the eurozone itself, and the EU's relentless push for a common currency. Advocates argued that the euro was the next logical step after a region-wide free-trade agreement. So 17 EU member states dumped their individual currencies and tied their economic future to monetary union.
A fine idea in theory. Unfortunately, at the time the euro came in being in 1999, the EU lacked the political system to make it work. The same holds true today. Economic strategy, including tax policy, is still being dictated by individual states. There is no built-in mechanism for protecting the various banking systems. Workers lack the mobility to cross borders easily, in order to meet shifting needs for labor. Differing cultures and languages continue to stand in the way of real unity. And glaring economic disparities among the EU's members can't be papered over by a single currency. Even Otmar Issing, the German economist who was one of the intellectual forces behind creation of the eurozone, later acknowledged that "starting monetary union without having established a political union was putting the cart before the horse."
As a result, the EU has no real way to enforce practices that were intended to keep the euro stable. Individual countries, some of which had manipulated their economic numbers in order to qualify for inclusion in the eurozone, can violate guidelines with impunity in such key areas as government spending and budget deficits. In fact, Greece took full advantage of low interest rates that were made possible by the creditworthiness of Germany, creating the massive public debt that threatens its stability today. So much for the discipline promised by the much-ballyhooed Maastricht Treaty, the EU's founding document.
At the same time, the individual countries that make up the eurozone lost the flexibility to deal with their own problems in traditional ways, such as devaluing currencies to spur exports. The weaker members seem doomed to years of painful recession, creating a drag on the entire region. It's no wonder that economists are predicting slow to no growth for the EU in the near term.
Several scenarios are possible, from sticking with the "rescue" plan to Greece dumping the euro and returning to the drachma. All involve a great deal of pain. Here in the U.S., meanwhile, we can do more than play the role of disinterested bystander. We can question the proposition that austerity automatically breeds growth, or is the best way to cope with an economic crisis. To be sure, budget deficits are a concern, and government spending needs to reined in, but is a recession the right time to do it? If demand is sluggish in the private sector, does it make sense to kill it in the public sector as well? Or should we be thinking about policies that will spur growth and employment, such as the rebuilding of our nation's infrastructure? Let's not follow the example of the EU, by doubling down on a bad idea.
- Robert J. Bowman, SupplyChainBrain
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