The future of the euro

Poll outcomes in France, Germany could have a bearing on the common currency

In last week’s article, I had referred to Italy and Greece as the two member countries most likely to withdraw from the single currency because of economic problems. (The other members of the PIIGS Group, which too faced a sovereign debt crisis in 2008, namely Portugal, Ireland and Spain, are doing much better.) Incidentally, the euro has no provision for a member country to withdraw, like Article 50 of the European Union, which provides for a member to negotiate its exit and has been invoked by the UK. 

There are other candidates as well, in particular France, which is scheduled to have a presidential election next month. The first round, in which there are 11 candidates, is later this month and the final round will have the two contestants, who get the highest number of votes in the preliminary round. There is a good chance that the leader of the ultra-right may well be in the final round — and her agenda includes withdrawal of France from both the euro and the European Union (EU). Should she win that may well sound the death knell for European integration: The Franco-German alliance is the foundation of the project. And, one cannot rule out her win given how voters surprised most economists and analysts in the Brexit referendum and the US presidential election. In both cases, immigration was a major issue — as it is in France and, indeed, many other EU member countries.

Recently, the European Commission released a white paper on “reflections and scenarios for the EU by 2025”. It lays out five possible scenarios: “carrying on”, “nothing but the single market”, “those who want more do more”, “doing less, more efficiently”, and “doing much more together”. Obviously, total disintegration is not one of them. The irony is that the fissiparous tendencies in Europe and problems with the euro are becoming news exactly when the zonal economy is recovering after years of monetary easing by the European Central Bank (ECB). Unemployment is at an eight-year low, inflation is marginally above the ECB’s target of two per cent. And, recent statements suggest that the negative rate will continue through 2017.

The other side is whether the single currency project was itself unviable given that those who joined are sovereign nations. (We in India have seen how difficult it is to have a “common market” in the sense of a single goods and services tax even in a single country, despite states not being “sovereign”.) Many economists are questioning the viability of the single currency project in the absence of a federal structure. 

In an article in Le Monde last month, Cedric Durand and Sebastien Villemot, members of the European Research Network on Social and Economic Policy, commented that “no European sovereign, no real budget: no budget, no viable economic policy… If a budgetary federation is out of reach, it is crucial that we can adjust exchange rates in order to give dynamism to growth and employment. And this requires leaving the currency union”. In The Euro and the Battle of Ideas, Markus Brunnermeier, Harold James and Jean-Pierre Landau have criticised euro zone governments for not realising that their euro-denominated public debts are in effect denominated in a foreign currency — and they have no lender of last resort with a supranational central bank. In a Project Syndicate column, George Soros has argued that, after the sovereign debt crisis of 2008, “Germany emerged as the hegemonic power in Europe” and “the EU and the euro zone became increasingly dysfunctional”. (Incidentally, Soros had made a billion when the pound was forced out of the exchange rate mechanism in 1992.) Joseph Stiglitz, in an article in the Financial Times (August 17, 2016), advocates a two-euro solution: “A strong Northern Euro and softer Southern Euro. Of course, none of this will be easy. The hardest problem will be dealing with the legacy of debt. The easiest way of doing that is to redenominate all euro debts as ‘southern euro’ debts”. Dani Rodrik, in a Project Syndicate column, believes that “either political integration catches up with economic integration, or economic integration needs to be scaled back. As long as this decision is evaded, the EU will remain dysfunctional”.

Whatever the scenarios, nothing much will happen until the French (next month) and German (September) elections. Meanwhile, the uncertainties prevent the euro from replacing the dollar as the world’s principal reserve currency. Will China’s CNY be the “default option”, if Trumponomics continues to rule or “misrule” the US?

The author is chairman, A V Rajwade & Co Pvt Ltd; avrajwade@gmail.com