Government and Institutions

False claims about the Eurozone from the Brexit camp

As the debate on British membership of the European Union gathers steam, the Eurozone is getting a fair amount of bashing from Brexiteers. This is of course to be expected. Monetary union was sold by EU supporters as the crowning achievement of integration, so its performance – particularly during the sovereign debt crisis – has been seized upon by EU opponents as both symbolic and symptomatic of the failure of the European project.

The problem is that the euro is blamed for many things that are not actually the fault of the euro. How many times have you heard that the single currency has condemned a quarter of the Spanish population – and half of its young people – to unemployment? And how often do we come across the claim that Italy has not grown since it joined the euro?

The first claim is blatantly untrue, the second one highly misleading. Spain’s high rate of unemployment is not due to the single currency. If that were the case, other countries equally badly hit by the financial crisis and the bursting of housing bubbles, such as Ireland and Portugal, would be facing similarly eye-watering rates of joblessness. But they are not. Their unemployment rates are a third to half of the Spanish rate.

Nor are such rates unprecedented in Spain. As recently as 1994, joblessness reached 24.66 per cent of the population, and the symbolic 25 per cent mark had previously been surpassed in the late 1970s. Even at the height of the housing boom, the rate stood at 8-10 per cent, double the UK rate over the same years.

The problem of Spanish unemployment is structural. Hiring and firing is expensive, social security contributions are among the most onerous in Europe, and the education system is old-fashioned and of poor quality. Not only do these policies mean that unemployment is consistently higher than in peer countries in both boom and bust times. There is also an upward elasticity in recessions, meaning joblessness rises disproportionately when crisis sets in. Hence the jump from 8 per cent in 2007 to over 20 per cent in 2010.

The notion that Italy’s stagnant economy is primarily – let alone exclusively – a result of euro membership is equally implausible. To begin with, Italy has lagged behind its OECD and EU peers since the early to mid-1990s, a full decade before the introduction of the euro. Furthermore, studies of the Italian economy have repeatedly shown that its deficiencies lie primarily on the supply side, with hugely burdensome administrative processes, heavy taxation, onerous product and labour market regulations and uncertainty regarding the protection of property rights. As Martin Sandbu from the FT shows, Italy’s problems are of a domestic, not monetary, character.

Similar arguments apply to other Eurozone laggards, from France – its structurally high unemployment rate driven by a byzantine labour code – to Portugal – burdened by red tape inherited from its dictatorship and subsequent socialist governments.

The one outlier in the discussion is Greece, where it does appear that euro exit could ease economic recovery. That is not because of any inherent flaw in the euro, but rather because the degree of internal price devaluation needed for Greece to recover has proved hard to achieve so far, given the rigidity of product and labour markets and large share of the state in GDP. But even in Greece, the reasoning assumes that the reforms needed would happen after its exit from the euro, which is unlikely if Syriza is given free reign over economic decisionmaking. That is part of the reason why Greeks are overwhelmingly against euro departure – that, and the hyperinflation that would be sure to follow Grexit.

And this is a crucial point that Eurosceptic analyses of the southern Eurozone miss. These economies were plagued by high inflation before the single currency, which led to the erosion of savings and pensions, and the misallocation of resources. The euro put a decisive end to this inflationary bias by national central banks and spendthrift governments. Brexiteers now like to claim that the euro is to blame for the economic malaise in these countries. Those who do are either misinformed or intellectually dishonest.

Diego Zuluaga is the IEA’s Financial Services Research Fellow and Head of Research at EPICENTER.

Policy Analyst at the Cato Institute's Center for Monetary and Financial Alternatives

Diego was educated at McGill University and Keble College, Oxford, from which he holds degrees in economics and finance. His policy interests are mainly in consumer finance and banking, capital markets regulation, and multi-sided markets. However, he has written on a range of economic issues including the taxation of capital income, the regulation of online platforms and the reform of electricity markets after Brexit. Diego’s articles have featured in UK and foreign outlets such as Newsweek, City AM, CapX and L’Opinion. He is also a frequent speaker on broadcast media and at public events, as well as a lecturer at the University of Buckingham.

5 thoughts on “False claims about the Eurozone from the Brexit camp”

  1. Posted 01/03/2016 at 20:13 | Permalink

    First up, thanks for the article. It is important for people to understand that economic problems in, for example, the Southern European countries did not begin with the Euro and cannot be fully explained by it. However, I would query one point, you say the following:

    “The one outlier in the discussion is Greece, where it does appear that euro exit could ease economic recovery. That is not because of any inherent flaw in the euro, but rather because the degree of internal price devaluation needed for Greece to recover has proved hard to achieve so far, given the rigidity of product and labour markets and large share of the state in GDP.”

    You state that Greece could be aided by leaving the Euro, and speak about devaluation, and simultaneously state that there is no “inherent flaw in the euro”. There is a massive inherent flaw in the structure of the Euro, the attempt to unite monetary policy across very different economies without fiscal union. It is certainly true that Greece et al had problems before the Euro, but it is disingenuous to imply that the Euro has absolutely nothing to do with the current situation. Monetary union across diverging economies without fiscal union can only lead to significant problems.

    Also, it should be noted that the adoption of the Euro by, for example, Greece, facilitated further Greek borrowing because they had an artificially lowered interest rate on borrowing from adopting the Euro. Lenders assumed that Greece was, in effect, backstopped by Germany. However, Germany has proven unwilling to take the necessary steps towards fiscal union, meaning that the only path for Greece has been major rapid austerity measures.

    In other words, I’m saying that there are many factors in the economic malaise in Southern European countries like Greece, factors that include byzantine labour regulations etc. However, the Euro is part of that story, it is one of the factors. It is right to inform people of other factors, but entirely disingenuous to imply that the Euro is some tiny, small, insignificant factor – when it, in fact, is a significant factor – along with others.

  2. Posted 01/03/2016 at 23:55 | Permalink

    So, assuming everything you’ve said there is correct. The Eurozone has done nothing to make things better?

  3. Posted 02/03/2016 at 11:52 | Permalink

    Actonian – Thanks for the comment. My view regarding Greece, and indeed the whole structure of the euro, differs from yours. Greece entered the euro with an overvalued exchange rate. It also lied about the state of its public accounts. This was then followed by a borrowing splurge by a state which has a much bigger role in the economy than any other euro member. Of course, it was the banks’ mistake to lend at such low rates to what was historically an unreliable borrower. But when trouble hit, Greece should have been allowed to default in line with Stability and Growth Pact rules, and also in line with what other currency unions (such as Switzerland) have done when a region had an unsustainable fiscal balance. I tend to think that the whole fiscal union argument is a red herring – we have been led to assume it is a sine qua non of working currency unions, but it isn’t.

    So, in a way, you are right that Greece’s inability to recover has something to do with its adoption of the euro, but the structural problems themselves are the result of deliberate domestic policy choices, domestic regulation and the lack of a free and functioning economy. All of these are not related to the single currency.

  4. Posted 02/03/2016 at 11:59 | Permalink

    Diego, you are right to point to the structural problems of Spain and Italy. There is a nice piece on Italy’s problems in the October 2015 issue of Economic Affairs which brings this out.
    I’m not a fan of the euro, though!

    PS it’s ‘free rein’ not ‘free reign’.

  5. Posted 05/03/2016 at 20:10 | Permalink

    The major problem with the euro is how it has facilitated the accumulation of debt that never gets (and never can be) paid off. I recommend Philip Bagus’ book ‘The Tragedy of the Euro’ for more on that.

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