When the euro was launched 11 years ago, it was celebrated as the culmination of a vision of postwar Europe that was erasing borders and dismantling its nationalistic past. It was heralded as a great unifier of nations with common interests and equally cherished values.
But a series of financial crises is shaking Europe’s core and raising fresh questions about its single currency as well as the solidarity of a union whose cooperation and stability date to the aftermath of World War II.
From the Greek financial disaster earlier this year, to an Irish bank debt crisis that has pushed Ireland to accept up to $120 billion in bailout funds, Europe is struggling to rescue a currency so closely linked to its unity that German Chancellor Angela Merkel recently said, “If the euro fails, Europe fails.”
Mrs. Merkel, who has been dubbed Germany’s new “Iron Chancellor” for her tough approach to Europe’s flagging economies, has been pushing for greater fiscal responsibility in the eurozone. This is the new age of European austerity, after all.
In October, she proposed amending Europe’s unifying Lisbon Treaty to create a permanent bailout mechanism, which would come with requirements that government spending would be cut and taxes raised. Ireland and Greece have been fuming since.
Irish officials and some leading economists say other Merkel comments have undermined Ireland’s financial position. She insisted, for example, that private investors suffer some losses (“take a haircut,” in financial-speak) when poorly performing bond markets lead weaker states to ask for EU loans. That set off an Irish bond selling frenzy that brought the debt-stricken country to its knees.
In early November, Merkel even questioned whether Greece, whose January crisis led to the creation of a $1 trillion stability fund, should have joined the
eurozone in the first place.
At home, Merkel is facing a German populace that’s increasingly uneasy with bankrolling its less disciplined neighbors. A German official on Nov. 16 said the European Union cannot simply “throw money from helicopters.”
A two-tiered euro?
While the euro was meant to unify, the current economic turmoil is causing wealthier eurozone members – Germany, the Netherlands, France, and Scandinavian states – to reconsider how the eurozone operates. The notion of a two-tiered euro – one for the north and one for the south – has emerged. The idea of nations withdrawing from the euro has also been floated.
To be sure, the economic woes of Ireland and Greece as well as that of debt-strapped Portugal aren’t identical. Irish banks are blamed for engaging in risky lending during the real estate boom. Banks there are holding about $90 billion in bad loans. Greece reportedly cooked its books for years. Portugal has consumer, public, and corporate debt.
But bond markets don’t care about the unique causes of a country’s fiscal woes, and investor unease can rattle the entire eurozone. Europe’s financial ministers worry that Ireland’s troubles may spread to Portugal and even Spain, the fourth-largest economy in the eurozone. A fallen Spain, many observers say, would make the current crisis seem tame.
EU and International Monetary Fund officials are now in Dublin examining Irish bank books and discovering that in recent weeks at least six banks have had difficulties, including loan-to-deposit ratios of more than 160 percent, according to The New York Times.
Philippe Waechter, chief economist for Natixis Asset Management in Paris, says that ways must be found to keep individual economies from collapse in order to protect the euro. “Investor behavior must change, and now is better than later, when restructuring could be more painful, including for bondholders, he says.”
The broader concern stems from two issues: Much of Ireland’s debt is held by governments and large banks in the eurozone. An Irish default could trigger concerns about the financial stability of those institutions. A bailout for investors who provided much of the cash that fueled Ireland’s real estate bubble could create what economists call a “moral hazard” – a perception among debt investors that they can roll the dice within the eurozone without much risk, because the European central bank or the stronger economies will, in the end, ensure that they are repaid.
If the perceived risk behind investments is removed, more money may be pumped into bad investments, all but assuring future bailouts or more calamitous defaults.
While bad debt in Ireland and the fiscal woes of Greece have set off alarms over the euro, Iain Begg at the London School of Economics says the sheer size of the $1 trillion EU safety net should stave off a larger crisis. “I’m reasonably optimistic. The EU is an institution that will walk to the precipice, look down, and say ‘We’re not going to jump.’ ”
Irish Prime Minister Brian Cowen – who announced Monday that elections could be held early next year – had resisted EU pressure to take any assistance, possibly out of pride and concern about the conditions that might be attached to the aid. Ireland’s 12.5 percent corporate tax rate (the third lowest in Europe, after Bulgaria and Cyprus), a key lure for foreign investors, is a prime EU target.
Germany, which now feels that it’s being asked to indirectly finance Ireland’s government spending, has been among the loudest critics of the country’s low corporate tax rate.
And while aid for Ireland may ease investor jitters, it may not solve the longer-term issues of guarding the euro from the woes of individual members.
“What we are all talking about now is whether these bailout packages answer the question,” says Rym Ayadi at the Center for European Policy Studies in Brussels. “I’m not sure the packages provide a fire wall at all. Greece is not yet out from the turmoil, and it isn’t clear that bailout will solve the problems that next cases like Portugal have.”
While Merkel and other advocates of greater austerity argue that bailouts should come with more fiscal belt-tightening, including deep cuts in social welfare and pensions, the political effect of such cuts is unclear.
Bruce Stokes of the German Marshall Fund in Washington worries that clashes among member states in this new era are bound to be significant. “The Irish crisis is a reminder that Europe is involved in a slow-motion train wreck,” Mr. Stokes says.
Gabor Steingart, chief editor of the German financial daily Handelsblatt, went further. He called Merkel's policy the equivalent of "Versailles without war."
"The 72 million Greeks, Irish, Spanish, and Portuguese owe 1.5 trillion euros to European banks," wrote Mr. Steingart, adding that “states in distress can scrimp and save to the point of self-strangulation...."
Indeed, the euro crisis comes as the romantic idea of a postwar Europe moving ever closer to complete unity is increasingly in question – even as EU membership expands to 28 when Estonia joins next year. That vision is succumbing to a new populist spirit and a new antiforeign sentiment. Times are tough. Europe must adjust. And that seems to be the new normal.
Not everyone sees that emerging view in a positive light.
“We are going back not only to the nation, but to the tribe within the nation,” says Karim Emile Bitar at the Institute for International and Strategic Relations in Paris. “We are moving from a postnational society to a Middle Ages mentality almost overnight.... The euro crisis is taking place in a European identity crisis.”