As an Italian, I developed a true appreciation of the benefits of the euro. Those benefits may be regarded – on balance – as the merits of the European Central Bank (ECB) versus the more profligate national central banks that existed in many parts of the EU. Alas, the current situation calls for a bit more political and economic imagination than has been displayed so far by international institutions, including the ECB. The proposal we outlined in this article is linear and allows for the survival of the eurozone as a monetary area. The current allergy to a Greek default on the part of the ECB appears instead to be consistent with short term preoccupations concerning the central bank’s own exposure, but inconsistent with the need for a proper institutional framework for the credibility and the long time survival of the euro.
Philip Booth and I tried to outline a strategy to allow at the same time for the survival of the euro, and for a decentralized and responsible solution to the current impasse. The ideas we outline are clearly at odds with the current thinking in Brussels and Frankfurt. But, paradoxically, they are more realistic, in outlining a possible solution for saving the best of the euro experiment. The original article is republished below.
No more monopoly money for Europe
Why not let the euro compete alongside national currencies?
Philip Booth and Alberto Mingardi
Back in the 1960s, Ronald Reagan famously said there were no easy answers to the US’s then growing problems, but that there were simple answers. In a way, today’s Europe may resemble Reagan’s view of America.
The future of the eurozone doesn’t look bright. Still, there are simple answers to the problems in the eurozone, although we lack leaders with the political courage to pursue them. At every turn, Europe’s political elite demonstrate shortsightedness and a desire for the easy route.
The first question the EU must address is how to untangle the mess in which the euro zone finds itself. The adoption of the euro brought some benefits to its members. In particular, it depoliticised monetary policy in a number of countries in which governments had traditionally debased their currencies. Arguably, however, the adoption of the euro has prevented monetary policy from adjusting to shocks and has led to economic dislocation in some of its members.
Eurozone members have only two options – both are simple but neither is easy. The first involves radical liberalisation, in particular labour-market liberalisation, to ensure that eurozone economies are flexible enough to respond to shocks. The second is to contemplate a eurozone breakup.
So, if the EU’s leaders stubbornly refuse to liberalise labour markets, we must contemplate an unwinding of the eurozone as a single currency area. This could happen in a disorderly fashion, when unemployment and indebtedness reach levels that lead to severe social unrest, but it would be preferable for it to happen in an orderly fashion.
Unfortunately, the EU’s treaties do not allow for an orderly change to the way in which monetary policy operates within the eurozone. A member of the eurozone cannot withdraw from the euro without also withdrawing from the EU.
If euro break-up becomes inevitable yet is not constitutionally permitted, a black cloud will hang over the single currency and the eventual outcome could be catastrophic. Furthermore, investors would have no confidence in the new currencies of exiting members if break-up were to happen, making inflation very difficult to control in those countries.
But there is an alternative to wholesale destruction of the eurozone: monetary competition. The euro should be made a competing common currency – as envisaged by the UK government in the 1990s – and not a monopoly single currency. The treaties should be amended to allow any eurozone government to make any other currency it wishes legal tender alongside the euro – including a new local currency, privately issued currencies, sterling or even the dollar. Germany, for example, may opt to keep the euro and only the euro. Ireland may opt to have sterling, a new punt and the euro all as legal tender. No country would be able to opt out of the euro but no country would be forced to have the euro as a single legal-tender currency.
The existence of competing currencies within the EU would ensure that pressure was kept on the ECB to ensure that the euro is a low-inflation currency. Under this plan, businesses could still use the euro, contracts could be written and settled in euro and so on – but contracts could also be written in new national currencies. Transactions costs would be kept low and trade within the EU would still be facilitated by the existence of a common currency. Currency competition and a common currency would replace monetary monopoly and a single currency.
While this might provide a smooth way out of the EU’s monetary problems, it will not deal with the problem of government indebtedness. Greece has outstanding debt of 126.8% of GDP and Italy 118% of GDP. Ireland also has a growing national debt though it does not have the same underlying structural problems as the other indebted countries. It is both undesirable and impossible for the eurozone to bear these burdens centrally.
It is commonly thought that exiting the euro would provide an easy way of inflating away the debt burden. It will not. The liabilities of these countries are denominated in euro and will remain so even if a country exits the euro. The method we propose to bring the single currency zone to an end will ensure this fact is explicit.
With regard to fiscal policy, there must be no bailing out of indebted states by any central EU entity. The simple answer to the problem of indebtedness – one that does not require any moves toward fiscal centralisation – is to keep government debt entirely a matter between governments and their creditors. Governments might default on existing debt and creditors may wish to – as Professor Robert Barro has suggested – take action to seize assets in compensation. Future debt may be issued in any currency a government wishes: debt management by nation states should be of no concern to the EU or the ECB.
All these measures will promote competition, monetary stability and decentralisation within the EU. We need to recognise bad debts for what they are. We can no longer package and repackage them pretending that some future generation of taxpayers will be able to pick up the bill. We need a European Union that puts decentralisation and competition at its heart rather than centralisation and monopoly. This process should start with monetary and fiscal policy – the need is urgent.