Home > Eurozone, Eurozone Crisis, Political Economy > The new political economy of the Eurozone

The new political economy of the Eurozone

I might be boring the pants off you with my European Central Bank Posts – but what’s happening in Europe is going very fast and it’s important. Power (lots of it) is shifting towards Frankfurt and Brussels. How will this power be used?

First, the shift. A quote from a recent speech from José Manuel González-Páramo, member of the board of the European Central Bank:

In other words, the euro area is responding to the crisis by creating a new and more comprehensive model of economic governance. This is aimed at preventing imbalances in all policy areas before they can trigger crises – and managing crises more effectively when they do arise. In many ways, this response is sui generis and departs from the template we associate with political federations. For example, the “two pack” gives the Commission the power to demand the kind of reforms that the U.S. federal government could not demand of a U.S. state. Moreover, the federal government would not be able to sanction a state if, for example, its tax code was leading to a local housing bubble. This is now not excluded in the euro area under the Macroeconomic Imbalances Procedure.

The reason for this is political economy. According to economic textbooks, nations have the ability to conduct monetary policy, fiscal policy and exchange rate policy. But the Eurozone has neither. As Eurozone countries may not be in the same phase of the business cycle, monetary policy is sometimes just not an option. Unified fiscal policy is hard to achieve. And exchange rate policy is also not an option for an area as large as the Eurozone, as it will lead to repercussions of the USA and China. This was clear from the beginning, but for quite some time we chose to believe that low inflation would solve all problems. To quote José Manuel González-Páramo again (with theory he of course means Lucas/Greenspan/Bernanke style neo-classical economics):

From its conception the euro was and has been a unique and ambitious project. It combined a centralised monetary policy with decentralised economic policies, and to paraphrase Tommaso Padoa-Schioppa, created a currency that did not belong to a single nation-state. A key finding for the euro area, arising from the crisis, is that this construction was not complete. In particular, the euro area did not have certain institutions we associate with political federations and that act as shock-absorbers against the negative effects of imbalances. The key lesson from the crisis, therefore, is that the euro area needs to compensate for these “missing institutions” by establishing a much stronger economic and financial union. A central area where the absence of shock-absorbing institutions has been felt is via intra-euro area current account imbalances. These imbalances existed for many years prior to the crisis, but were largely ignored as theory told us that they could always be financed through cross-border financial flows. However, it is now clear that current account imbalances – while not being the only proximate causes of the crisis – are not benign and imply vulnerabilities which can be transmitted to the euro area as a whole.

And if things still go wrong, we always will have the European heads of state to save us (read the thing)!

But how will this power be used?  Well, at the moment, while the present crisis is not yet solved, the official position still seems to be that for instance in a country like Spain 23% unemployment can be solved by, at the same time, contracting the economy and reforming the labor market (read: more power for mediocre managers). Now, I can understand that being able to fire somebody at will is a token of manhood in the USA – but this kind of flexibility did not lead to high job growth in the USA, post 1998. To solve Spanish unemployment we will have to think of something slighty smarter, like investing in a modern economy and real flexibility of labor, i.e people who for instance have the right to part-time work.

  1. March 17, 2012 at 11:34 pm

    This is going to go badly wrong. And flexibility of labour without flexibility of land is a recipe for social and political unrest.

  2. March 18, 2012 at 4:56 am

    An ancient recipe is being followed in the Eurozone: Continual crisis to facilitate an ongoing powergrab. It has been very successful to date as national politicians are being spooked and
    progressively replaced by “technocrats” (servants of the oligarchs).
    Before we know it, we shall all be building pyramids again, by hand!

  3. robert r locke
    March 18, 2012 at 6:37 am

    The crisis is in the inability of “Europeans” to be Europeans, whether conservatives or socialists. And the chief culprits in this respect are those outside the Eurozxone, named the Brits. They play the roll of spoilers, constantly complaining about the ineffectuality of the Eurozone institutions to solve the crisis, and doing everything to stop the European Union from adopting the innstitutions that would help them to “solve” theiir crisis. The “problem” could be solved in a moment if there were enought “Europeans” in Europe. Just look at how well the Euro exchange rate holds up even in the chaos.

    • March 18, 2012 at 7:07 am

      What “Europe” looks like depends on where one is standing. Very different from Scandinavia, or the Mediterranean, or the offshore islands, or the central core.

      Different histories, different cultures, different economies, different geographies.

      If it is to hold together, differences must be acknowledged and accommodated.

      • robert r locke
        March 18, 2012 at 6:08 pm

        What America looks like or what China looks like depends on where you are standing. The difference is that the Europeans are not sufficiently united to get on with it like the Americans or the Chinese.

  4. March 18, 2012 at 9:58 am

    The European problem is not an institutional one in the first place. It is the unability to work out a new promising growth model for the European Union as a whole. Austerity is not an answer to this problem, nor is monetary policy. Of course this is what has been done in the past two years and this shows us everyone still seems to believe the old growth model can be fixed and mainstream economics is a good guide to achieving this.

  5. March 18, 2012 at 3:21 pm

    Good article, completely agree, the euro seems flawed in it’s design to help each economy. Policy has seemed to favour central nations rather than the periphery states.

  6. educator
    March 18, 2012 at 8:08 pm

    “If the American people (applies to Europe as well) ever allow private banks to control the issue of their money, first by inflation and then by deflation, the banks and corporations that will grow up around them (around the banks), will deprive the people of their property until their children will wake up homeless on the continent their fathers conquered.” …Thomas Jefferson

    • Alice
      March 19, 2012 at 9:24 am

      That is exactly what they are in the process of doing – “depriving the majority of people of theior property and making theiur children homeless” – enough talk aboyt labour flexibility. Look to the paltry decisions of the FOMC in the US as to why most US corporations are now producing in China and exporting back to the US where tarriffs are two percent compared to Chinas 25% against imports. Give the US corporations a tax break? No way – where are they investing China – just so as to drive down wages in the US and starve the US of jobs . But it wasnt the US people that voted for this. It was the FOMC, decsions made in secret for five years. Decisions to benefit the already wealthy at the cost of destroying US manufacturing and job anmd labour protections in a very short space of tim so they could make more profit” by taking advantage of globilsation as fast as they could”.
      This is all so much garbage, Discussing the things the already wealthy firms wan (globalisation, smashing unions, make labour more flexible) – there is no end to their greed but there is a past historical example of where this quest for efficiency can take us – death camp inmates sequestered to work for nothing for IG Farben during WW2. Thats where the end of flexibility is. Thats where the majority of US corporations want to take workers (and it matters little to them which country they do it in) – some place where their labour is so cheap its ultimately slavery and thats what the federal Reserve has been helping US coporations do.

    • Marilu
      March 20, 2012 at 12:58 am

      ‘educator’

      Thomas Jefferson didn’t say that – according to Snopes.com. It’s from an email ciculating the i’net for several years that put words into his mouth. However, it seems he DID not trust banks.

  7. Dave Taylor
    March 19, 2012 at 8:32 am

    “The crisis has proved that the euro area is a political entity which is not self-adjusting; it needs to be actively governed, and this cannot happen without Member States sharing more powers with each other. In other words, there has been a belated recognition that monetary union entails political union. This shift has profound implications for the involvement of all levels of governments in the European project: EU institutions, national governments, national parliaments, and even local governments are all required to participate in the common governance of the euro area.” [Conclusion of Gonzalez-Paramo speech].

    The key lie in this is “this cannot happen without …” . . Active government is not about States, it is about the actions of people in Government. “This” can also happen – as was originally intended – by Member Governments agreeing to cooperate with each other generously, helping weaker and developing States to live decently while prosecuting the directors of institutions who perpetuate fraud.

    I’m seeing here a repeat of what happened in a multi-level management information experiment I participated in. That was set up (following agreement) to highlight not only problem areas and people but also ways in which more competent managers could help less experienced staff. What happened with the turnover of senior management was reversion to the understanding of the role of management as “kicking arses”. Thatcher called it “the right of the manager to manage”.

    Merijn, you are not boring the pants off me, and you are right, this is important.

  8. March 19, 2012 at 11:57 am

    I totally agree on putting CA imbalances at the center of the stage. The problem is that this should logically imply that adjustment be symmetric, with surplus countries expanding domestic demand while deficit countries contract it.
    Instead, we assist to the victory of the “Berlin View”, of fiscal profligacy, and adjustment is imposed only to deficit countries (I just wrote on this). This is hampering short as well as long term growth prospects. We are heading towards disaster…

  9. Ignacio
    March 22, 2012 at 9:17 am

    I totally agree with your recipe for Spain. If you just facilitate firing but you don’t facilitate hiring (by investing in a growing economy) you are just making things worsen in an already depressed economy. Also, bear in mind that the new labour rules apply only to new contracts not to previously existing contracts, so thal labour “flexibilitation” neither works to facilitate restructuring of the hypertrophic banking system. It is not only that we have a bad situation but we, and our politicians, are unable to figure out which policies may help to,at least, ameliorate an already dire situation. These days we have unemployment rates not seen in Spain since the late 80s. In this sense it looks like the euro experiment has not been successful at all. In terms of total employment (absolute numbers of employed persons) Spain has gone back to 2004, Ireland to 2003 and Greece to 2000. But remember that we have done just part of the fiscal compact and at the end of the process, not only Greece but Spain, and probably Ireland, will have gone back about 2 decades in terms of total employment numbers. To me, this looks like a total fail for the euro. Too much for central bankers not noticing that current account imbalances matter. They were paid too much for not noticing the imbalances and bubbles, and now they are still being paid too much for focusing in meaningless variables like unit labour costs. Were did the french leave their guillotines?

    • Alice
      March 23, 2012 at 7:02 am

      LOL at above…. “where did the French leave their guillotines”??

  10. June 1, 2012 at 7:16 am

    Helge Nome :
    An ancient recipe is being followed in the Eurozone: Continual crisis to facilitate an ongoing powergrab. It has been very successful to date as national politicians are being spooked and
    progressively replaced by “technocrats” (servants of the oligarchs).
    Before we know it, we shall all be building pyramids again, by hand!

    • June 1, 2012 at 9:10 am

      robert r locke :
      What America looks like or what China looks like depends on where you are standing. The difference is that the Europeans are not sufficiently united to get on with it like the Americans or the Chinese.

      It is not a matter of not being sufficiently united and not being able to get on with it, whatever “it” is. The policy that is right for Northern Sweden is not right for Southern Sweden! Or Scotland or England. You cannot get united when you are in very different circumstances.

    • June 1, 2012 at 9:11 am

      The national politicians do not know what they are dealing with so this is bound to happen. Not that the technocrats know either. This will end badly.

  11. June 1, 2012 at 10:47 am

    What makes me very pessimist is precisely the lack of vision of our politicians. Let’s not forget that the EU delayed action for 6 months in the winter of 2009, because Mrs Merkel was facing a local election (that she ended up losing, by the way). What would have happened if instead of trying to save her political career, she acted swiftly to solve the Greek problem, with a guarantee on its debt in exchange for reform? The cost for Europe of the crisis would have been orders of magnitude smaller. Lack of vision, small politicians, ill-conceived doctrines, are dooming Europe. http://fsaraceno.wordpress.com

    • June 1, 2012 at 11:14 am

      Francesco Saraceno :
      What makes me very pessimist is precisely the lack of vision of our politicians. Let’s not forget that the EU delayed action for 6 months in the winter of 2009, because Mrs Merkel was facing a local election (that she ended up losing, by the way). What would have happened if instead of trying to save her political career, she acted swiftly to solve the Greek problem, with a guarantee on its debt in exchange for reform? The cost for Europe of the crisis would have been orders of magnitude smaller. Lack of vision, small politicians, ill-conceived doctrines, are dooming Europe. http://fsaraceno.wordpress.com

      Yes but WHAT reform? Not any old reform, surely? All the EU countries from Sweden to Spain are in need of tax reform. They need tax systems that are both robust and have no deadweight cost. That requires a total re-think about how public revenue is raised. And the libertarians who want a minimal state have nothing useful to contribute to this argument, for their views are self-contradictory. Outfits like the influential British Taxpayers’ Alliance, have nothing better to propose than to continue with the same, but reduce the dose.

      • June 1, 2012 at 12:27 pm

        I think that the solution is USE. Everything short of that is bound to run into insormuntable problems. Heterogeneity, both economic and political, within the US has been managed through the interaction of fiscal and state levels. This is why we need leaders with a vision. Jean Monnet was capable to foresee the Carbon and Steel Community when half of the European households were still mourning for the destruction inflicted by Nazi Germany. This is what I call vision, and this is what we desperately lack today. Can you think of anybody, TODAY, with Europe so unpopular, pushing for more federalism?

      • June 1, 2012 at 7:19 pm

        Whatever the solution is, Europe has got to get its economics and tax systems right. There is not sign of that happening or even being seriously discussed.

      • June 1, 2012 at 2:19 pm

        I rewrite it because of a couple of typos (sorry!):
        I think that the solution is the United States of Europe. Everything short of that is bound to run into insurmountable problems. Heterogeneity (both economic and political) within the US has been managed through the interaction of federal and state levels. This is why we need leaders with a vision. Jean Monnet was capable to foresee the Carbon and Steel Community when half of the European households were still mourning for the destruction inflicted by Nazi Germany. This is what I call vision, and this is what we desperately lack today. Can you think of anybody, TODAY, with Europe so unpopular, pushing for more federalism?

      • davetaylor1
        June 1, 2012 at 4:38 pm

        See my comment at #11. In light of Henry’s comment at #19, I would suggest the problem is not Federation as against Union (which in the USA, incidentally, has left some states rich and others ravaged); it is that a single currency implies the need for a single tax policy, i.e. a single currency is inconsistent with Federation.

        However, a multiple currency is not. Using the Euro only for inter-European wholesale trading, with the traders responsible for maintaining their own international balance of payments (i.e. not off-loading that responsibility onto states), local work could be done (as it should be) cooperatively, by local people using local money, and public services paid for either by local taxes or loans justified and written off by the services being provided. So, like Monnet, I am a Catholic with vision. We still need leaders (including economists and teachers) who understand the financing of the Nazi’s war via America’s ‘Federal’ Reserve banking system (and the Bush family bank) well enough to see the need for it. http://www.guardian.co.uk/world/2004/sep/25/usa.secondworldwar.

  12. June 1, 2012 at 12:39 pm

    Reinventing Government:
    Fast Bullets
    and
    Culture Changes
    By Robert P. Hillmann
    Following are just 3 points made by Mr. Hillmann:

    1) “They can also be the physical, economic and philosophical borders between sovereign nations. In fact, Mechling and company say that one of the major obstacles in the way of public-sector reengineering is “America’s constitutionally embedded reluctance to authorize governmental innovations (the checks and balances which constrain government)”,,,

    This is why they require open borders.

    (2) “As it turns out, large banking interests and others of great wealth, in Britain and the United States, were thinking along similar lines—of course their brand of socialism would have two classes not one. In 1918, with the help of Albert Bushnell Hart, Follett wrote a book called The New State: Group Organization the Solution of Popular Government. In which she outlined the social, political and educational requirements necessary to build a world government and it was the banking interests to which it was addressed“…

    “By the late 1890’s American educators such as John Dewey, J.E. Russell–both of Columbia University–and Woodrow Wilson of Princeton University joined with wealthy businessmen such as Andrew Carnegie, J.P. Morgan and John D. Rockefeller in pursuing this globally oriented agenda“.

    More evidence that the Federal Reserve/ World Bank is involved…We need to return to sound money to weaken the power of the Federal Reserve to pursue these goals.

    (3) “The Council on Foreign Relations (CFR) and the Royal Institute of International Affairs were only the first of many such organizations to come-all of which had as their primary goal: the education of people in the necessity of world government.”

    Check out the membership of the CFR. Prominent Republicans and Democrats belong…John McCain is one of several.

    The full article at this link: http://www.sovereignty.net/p/gov/hillmann-book2.html

  13. davetaylor1
    June 2, 2012 at 7:41 am

    Again I should have thanked Merijn for a very significant post. My #11 of course responded to his last para. It is interesting to compare #22 with Merijn’s para starting “The reason for this is political economy”.

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