The Euro Is Here to Stay

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News of its immediate demise is premature: the euro is here to stay, for two very simple reasons. First, no member country can be forced out of the eurozone, and none will choose to leave voluntarily. The consequences would be disastrous -- for that country itself, but also for others across the globe. Any government contemplating leaving the eurozone would confront immediate and massive costs, with uncertain gains at best. None of the present member countries, not even Germany, could be reasonably confident that it would be better off on its own in this world of turbulent financial markets.

Second, European governments and European institutions are working on the eurozone's problems, both individually and collectively. Portugal, for example, has passed no less than three austerity programs last year, including tax increases, across-the-board cuts in public sector compensation, and a public sector pension freeze. In Ireland, public sector pay has been slashed by 20 percent. Greece and Britain have also undertaken reforms to reduce government deficits. Germany has introduced a brake on public sector debt to its constitution.

The European Union is also taking collective steps to deal with the problems. Fortunately, the eurozone actually has an independent central bank with excellent leadership, which so far has been remarkably successful in managing financial market turmoil. Perhaps most importantly, however, there has been, after some initial fumbling, strong political leadership from Germany, most of it pushing in the right directions, namely:

• a deepening of European financial integration through provisions for bailing out eurozone members in trouble, as well as through strengthened fiscal surveillance and co-ordination,
• arrangements for resolving insupportable sovereign debt burdens, and
• provisions to deal with European banks' bad debts (here, Germany itself represents a large part of the problem thanks to its troubled Landesbanken).

German leadership has been, and will continue to be, crucial. Not only is Germany the most obvious candidate for such leadership, given its economic weight and its performance in the past. It also happens to be in a particularly strong position right now; German export industries are booming, and the economy has begun to steam ahead not only on the basis of its exports, but also fueled by domestic consumption and investment. It is thus beginning to help pull other European economies; the most recent trade data show that imports from other EU countries are growing more rapidly than German exports to them.

To recognize that there has been significant progress on reforming the eurozone is not to say, of course, that all problems have been solved. There are two important caveats. The first is the need for new growth perspectives for Ireland and the Southern periphery. Policies of fiscal belt-tightening alone are self-defeating, as lower growth will undermine the prospects for fiscal correction, no matter how hard governments try (and their electorates would be unlikely to allow them to try very hard for very long). Fiscal belt-tightening will therefore have to be complemented urgently with policies that promise growth.

The second critical ingredient is political. The dimensions of the problem are such that they call for a redefinition of politics and the articulation of new visions for the future of European societies. This task needs political leaders who are willing and able to explain their policies persuasively to their electorates, in Germany as in Greece, in Spain or in Italy. Yet here, too, there are some hopeful signs.

As a result, the eurozone and the European Union as a whole are presently moving in the right direction. And by wrestling with the issues in their own, messy, and typically European way, Europeans are arguably just ahead of the pack. The United States, Japan, or China assume that they will be able to cope with their problems by relying on sovereign national policy efforts. Yet China holds close to $2 trillion worth of U.S. debt, much of it in the form of treasury bonds. It is thus easy to predict that at some point in the not too distant future, China will insist that the United States deals with its debt problems responsibly or face consequences. In fact, China and the United States, when dealing with debt and macroeconomic policy interdependence, confront structural tensions at a global level not unlike those tying Germany to Greece, Portugal, Ireland, Spain, and Italy within Europe. In both instances, excessive levels of debt have been allowed to accumulate by a politically convenient combination of reckless borrowing and imprudent lending. Now they must be reduced through a mixture of fiscal discipline and conditional credit supply.

Those problems cannot be resolved simply by central banks that print money and call their actions "quantitative easing." European economies are at least beginning to face the need to go beyond national solutions; others are still assuming that adjustment can be postponed behind the shield of national sovereignty.

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