Thursday, 27 November 2014

Floating free from Germany

Mario Drahgi has called for more integration and “sweeping powers” for the ECB to control fiscal policies and efforts to reform the Eurozone's economy. Is this “joined-up” thinking is a throw-back to the darkest days of the Euro crisis, when it became obvious that there was lack of cohesion between member states?  Or is this a power grab by the ECB, using the interminable recession, as an excuse to take control of a “fiscal and economic union”.  Currently the ECB owns interest rates and sets budget targets (roundly ignored by all but Germany), in this new and enlightened world the EBC would like set tax rates and drive to through supply side reforms to drive productivity and competiveness.

Drahgi believes in the “importance of each country sticking to its commitments under the stability and growth pact “and that this should now be beyond debate”.  He would like to go further by saying that in matter economic “sovereignty should be exercised jointly” – what a great line!!  What are the things that could do with harmonisation?

1. Actual interest rates
2. Rates of business taxation
3. Minimum wages and hours of work
4. Actual spending limits (properly enforced)

Living in Harmony

There has certainly been a lost opportunity for the EZ member states to have coherent policies across the whole fiscal and monetary landscape and if more had been done in the first 10 years of the Euro’s life we might be in a better place than we are today.  The great credit boom of 2002-08 might have been avoided, the huge government deficits might be lower and uneven competitiveness might be less of a problem – but none of this is at all certain.  In the UK where we had absolute control of all the levers we still mucked things up badly – losing control of public spending and the current account.
The call for greater centralisation is the normal knee jerk reaction from bureaucrats when faced with any problem, but I am not sure that the timing is good – having missed the opportunity to have a more joined up economy what Europe needs now is less cohesion.  The over-riding problem in Europe is lack of competitiveness in the Southern States (including France) compared to Germany and other northern European countries.  The only way to sort this out is to have deflation in the South and Inflation in the North over a significant period (say 5 years), this will resolve structural imbalances that are causing so much pain.  It is pretty obvious that Europe is too tightly coupled by the shared currency to achieve this structural change.

What is now required is a period where all Euro “currencies” float free against the German Euro for a fixed period and then re-join the single currency at more competitive rates, this would allow the EuroZone to avoid years of pain associated with the re-balance that is now a necessity.  This organised revaluation would probably be linked to the ejection of certain “currencies” from the EuroZone where a longer term fix might be required.  Without a strategy to re-balance in an orderly way the politics will become too painful and then anything might happen.  Once those re-joining do rejoin the German Euro the new harmonising institutions and mechanisms should be in place to sustain a new single currency.  The only alternative to this is for Germany to leave the Euro and leave the less productive and less prudent nations to sink gently into the abyss together - which is probably the first best option!

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