EU: Grexit or Dexit ?

 July 19, 2015

Some seventeen centuries ago, emperor Diocletian realized that the Roman empire had grown too big and too diverse to be ruled from a single centre. Diocletian therefore decided to split it in two, the west ruled from Rome by a fellow army officer and the east controlled by himself. The east-west division became more or less permanent during the reign of Constantine. It was a wise administrative decision, which saved the integrity of the empire for another hundred years.

Fast forward to the present. The European Union, built on the ruins left behind by World War II, is experiencing a similar if not identical predicament. The citizens within its 28 member-countries, are growing more and more disenchanted with the Union’s leadership by the day. Truth be told, the EU has become much too big, too culturally diverse and politically unresponsive to continue to be viable in its present form.

One of the chief characteristics of the current political arrangements in the EU is Germany’s hegemonic status over its economic and political structures. As we can all recall, the Union was formed in the wake of WWII in order to prevent yet other military conflicts on the continent, involving again mainly Germany and its neighbours. To that end, an initial nucleus of six states (France, Italy, West Germany, Belgium, the Netherlands and Luxembourg) created an economic union which helped all of them rebuild their war-shattered economies and prosper. The victorious powers led by the United States forgave Germany most of its debts, opened up their markets to German-made goods and supplied the seed capital necessary (Marshall Plan).

For six decades the European Union grew, expanding southwards and eastwards, while the German economy became a powerhouse on the continent. In the wake of the fall of communism and the implosion of the USSR, West Germany had reunited with East Germany, and started to dominate not only the continent’s economy but also its political and – since the introduction of the euro- its monetary affairs.

The latter developments have unfortunately proved to be an unmitigated disaster for all its other EU partners. In truth, events over the last decade – the financial crisis, the sovereign debt crisis, austerity policies – have conclusively proved to many specialists that Germany, with a group of northern Protestant countries, has a vastly different set of economic responses and values, which are at odds with those prevalent in the southern part of the EU.

Thus, while Germans and their allies highly value a strong currency, low or zero inflation, low or zero budget deficits, a culture of thrift and the continuous reduction of public debt, countries like Italy, France and Spain – not to mention Greece, Portugal or Ireland – would prefer a significantly weaker euro, flexible budget deficit targets, higher inflation, the resorption of public debts through economic growth instead of austerity measures, and a massive reduction in the unemployment rates affecting them.

So far, Germany has succeeded in forcing all EU members to adopt its “six-pack” and “golden rule” and to maintain inflation close to zero. The outcome of these policies on the continent has translated into economic stagnation, social strife and a never-ending obsession with austerity and public debt reduction measures.

The current Greek crisis has merely highlighted the folly of such policies, as well as the unshaking determination of the German leadership to push the entire continent towards economic ruin. To avoid this, which could only lead to an USSR-type implosion of the Union, it would be more rational for Germany to leave it, reintroduce its beloved deutschemark and form an economic and political union of its own in the north of the continent. In other words, for the European Union to be saved from impending collapse, a “Dexit” option – and not “Grexit” – is what is currently needed. (Greece would not be able to threaten the survival of the EU the way Germany does.)

A Dexit should by no means be an acrimonious affair, or a disorderly one. Angela Merkel herself had alluded to the possibility of forming a Baltic Union as early as 2008. Starting with 2012, economists such as Alfred Steinherr, Anatole Kaletsky, Michael Mross, Aleš Michl, Kenneth Griffin, Anil Kashyap, Guillermo Nielsen, Ashoka Mody , Rolf Weder and Pedro Braz Teixeira have started recommending Dexit as the solution to the EU’s current economic and political predicament. The advantages of Dexit are clearly explained in a Time article from 2012:

 

“By contrast, if Germany were the one to leave, the euro would be the currency that falls in value, relative to Germany’s new national currency and also to the dollar. The weaker European countries would get to keep the euro but still get the devaluation they need, which would reduce their labor costs far less painfully than through wage cuts. In addition, the value of their outstanding debt would decline along with the value of the euro, and they would be more likely to be able to make payments on that debt and avoid defaulting.”

 

Viewed in this light, the third Greek bailout about to be concluded is rather of secondary importance. What is now needed is to start planning for an amiable and orderly Dexit, one which would benefit all EU member states. Failing to agree with the partition of the current Union into two entities – namely, an European Union centered around France and Italy and a Baltic one centered around Germany – could only result in a violent, USSR-type disintegration, accompanied by social strife, the revival of nationalism and xenophobia on our continent. Fortunately, such a partition will not lead to military conflict between the two sides further down the track, as NATO will still be there to prevent any such developments.

Is the Eurozone Shrinking ?

 September 14, 2011

Over the next few days, EU political leaders have to decide what to do about the Greek debt crisis. Leading economists and quite a number of EU politicians are deeply divided when it comes to putting together another large financial rescue package. Economists like Professor Hans-Werner Sinn and Professor Kenneth Rogoff argue for a shrinking of the eurozone in order to save the common currency. Romanian-born French professor Florin Aftalion was kind enough to answer some of my questions regarding the euro crisis and the possible shrinking of the eurozone.

Author of The French Revolution: An Economic Interpretation (Cambridge University Press), Mr. Aftalion is Professor of Finance at ESSEC (L’École supérieure des sciences économiques et commerciales), and has taught finance at New York, Northwestern and Tel-Aviv Universities.

Q: In an article published in May this year, “Let’s Save the Furniture”, you have advanced the solution of saving the euro by suspending countries like Greece, Portugal or Italy from membership in the eurozone. Why do you think that both southern European countries and the eurozone’s core countries, France and Germany, would benefit from adopting such a solution?

Prof. Florin Aftalion: – Given that with insufficient growth its debt can only inflate, whatever “help” Greece gets, at the end of the day it will have to leave the euro, restructure its debt and devalue its currency. This being the inevitable outcome, it would be less costly for everyone concerned to have it happen sooner rather than later.

Q: The qualifying criteria for membership, as outlined at Maastricht, have been ignored when countries like Italy or Greece were admitted in the euro-club. Italy’s public debt, for example, was from the start far above 60 percent of GDP, and apparently so was Greece’s.

Was this a case of sound economics being overridden by political considerations?

F.A: – Remember that the whole “single currency” project was essentially political. When, in 1998, it came to be decided which countries were ready to join the euro, if I remember well, only Finland should have been admitted. All the other countries used creative accounting in order to satisfy the Maastricht criteria. When even that wasn’t enough to qualify a country, it became sufficient for that country to have criteria tending towards the Maastricht norms.

However, in 1998 the case of Greece was beyond any possible compromise and this country was allowed to join the euro only in 2001. It is not that its economic situation had changed radically in the meantime, but more “sophisticated” accounting techniques have been used. Everybody should have known that Greece was cheating.

Q: Forking out hundreds of billions of euros in order to try to avoid the risk of country default for Greece and possibly Ireland, Portugal and Italy, seems like a losing strategy. For how long do you think EU politicians can prolong the moral hazard situation that is touching a raw nerve with German, Dutch or Finnish taxpayers?

F.A.: – Two outcomes are possible. Either Greece decides to leave the euro (and at the same time restructures its debt and devalues its new currency) because it doesn’t get all the “help” necessary for remaining solvent, or Germany and the other “Nordic” countries decide to restrict the euro zone to solvent economies like their own.

Q: In the long run, do you believe that a truly solid European monetary union could be viable in the absence of some form of fiscal policy convergence among member countries?

F.A.: – Even financial centralization wouldn’t be enough to keep the eurozone together. That’s because it wouldn’t solve the problems of inflation differentials and heterogeneous labor legislations (among other problems).

Q: According to professor Hans-Werner Sinn of Munich University, the interest rate convergence which followed the introduction of the euro has saved Italy some 6 percent of its GDP for the last decade, owing to reduced interest payments on the country’s public debt. It was calculated that if the windfall had been used to pay Italy’s national debt, this would have been reduced by about two thirds by now. In your opinion, who is responsible for not enforcing the fiscal discipline among the eurozone member countries?

F.A.: – At the time nobody seemed to care about enforcing the Maastricht criteria. France and Germany for instance ran “excessive deficits”, didn’t pay any penalties and nobody objected.

Q: Coming back to your May article, you have decried the fact that the politicians of the day at the time the euro was introduced have ignored the warnings of many economists who considered the initial group of countries as too heterogeneous to make the common currency be viable in the long run.

In your experience on both continents, how big a challenge is it for economists to contribute constructively in shaping policy, given that many politicians seem to misunderstand macroeconomic theory ?

F.A.: – Politicians use political means in order to attain political objectives. Given that economists never agree among themselves, politicians will always find some professor who will approve their positions and claim against all evidence that the euro zone is an optimal currency area.

Uncertainty Plagues the Eurozone

 September 9, 2011

Major trouble, we learn from the Chinese, can be likened to a tunnel we have to go through until we reach the other side. It is hard to say whether the sovereign debt crisis that hit the eurozone two years ago is about to be dealt with more decisively this fall. To be sure, a few austerity packages and hundreds of billions of euros later, Greece’s public debt is as high as at the beginning of the crisis. Even more alarming, the size of Italy’s public debt has started to worry the international markets in August, and the United States has been close to defaulting on its 14,000 billion dollar debt, losing its coveted AAA credit rating.

There are a few glimmers of hope, if not as yet light at the end of the tunnel. The new IMF chief, Christine Lagarde has strongly urged western governments to soften austerity measures and to adopt pro-growth policies instead. On the other side of the Atlantic, Warren Buffett has publicly called on his fellow billionaires to accept a 50 % tax rate in order to help reduce America’s debt. In France, sixteen prominent billionaires have published a manifesto stating their agreement with the introduction of a temporarily higher tax rate for the rich – a call supported by many leading French industrialists. The Italian, Hungarian and even Romanian parliaments – believe it or not – are considering introducing a special tax payable by those with incomes of 25,000 euros or more (Hungary) or of 90,000 euros or more per annum (Italy). For now, however, the Italian government has quickly withdrawn its proposal, while the Romanian 1 percent “solidarity tax” (a rather ridiculously low rate, considering that for the past twenty years the country’s “business” elite has achieved this status by pillaging Romanian banks and enterprises and by systematically siphoning off funds from the national budget) still needs debating…

At the EU’s periphery, austerity is slowly but surely choking off growth, in both the UK and Greece. Undaunted, the British government wishes to buck the trend and reduce the 50 % top tax rate for the rich, in spite of popular discontent which has erupted beyond expectations in August. Greece has recorded a second year of negative growth, but again, any talk of imposing extra taxes on the rich is still taboo.

Economists and bankers worldwide are hotly debating the euro’s future. Scenarios on the table range from an imminent implosion (Roubini, Alan Greenspan), to a possible shrinking of the eurozone (Kenneth Rogoff, Florin Aftalion) which would leave some of the Mediterranean countries – unable to reduce their public debt – out. American historian Harold James strikes a more optimistic note, pointing out that over the past two years the exchange rate of the euro has held steady despite the turmoil around it. Ironically, the most affected currencies have been the Swiss franc, the Australian dollar and the Japanese yen.

The eurobond issue seems dead and buried after the German Constitutional Court decision handed down on September 7, and the fiscal policies’ convergence seems to be in. At this point in time it is far from clear, however, whether the light at the end of the eurozone tunnel is within reach. We will probably find out by the middle of next year. (sources: Reuters, Le Monde, Deutsche Welle, La Vanguardia, Courrier International, Project Syndicate, The Economist).