A new eurozone bond looks the most likely solution to stop the euro blowing apart.
By Daniel Hannan
9:03PM BST 20 Jul 2011
While Britain was chuckling about custard pies this week, the debt cancer was metastasising across the Mediterranean. Bond yields in Spain and Italy have surged, leading to doubts over whether those countries can meet their existing liabilities. For the first time since the euro turmoil began, EU leaders are panicking. While Greece takes up just 1.9 per cent of the EU’s economy, Spain and Italy account between them for 24 per cent. A default in Athens might be a controlled explosion, but Rome and Madrid cannot repudiate their debts without blowing the entire European banking system to smithereens. The effects of such a blast would be felt far beyond the eurozone. The Bank of England, dispensing with its normally staid vocabulary, describes the turbulence as a “serious and immediate risk” to the United Kingdom. The IMF frets that, if EU leaders carry on with hand-to-mouth bailouts, the resulting crash might trigger a global recession.
The markets are starting to anticipate a euro break-up. The reason that borrowing costs in Spain and Italy have shot up is not that those countries are inherently destitute, but that investors are demanding a premium to compensate for the possibility that they might revert to devalued and inflationary currencies. Such fears have a way of becoming self-fulfilling. Italy must roll over €69 billion in August and September; it needs €500 billion by the end of 2013. If it cannot borrow at lower rates, it will struggle to remain solvent, and the entire European monetary system might become unsustainable. This is the tempest long foretold, slow to make head, but sure to hold.
EU leaders are meeting in emergency session today, groping for a way to prevent an unplanned collapse of EMU. They have two options: one is to oversee an orderly unbundling of the euro into more manageable units; the other is to establish what José Manuel Barroso calls “fiscal federalism”. Economic logic points to the first option. The reason Europe is in this mess is that it turned out to be ruinous to apply uniform monetary policies to widely divergent economies. The low interest rates dictated by the needs of the core economies were calamitous for the periphery, encouraging an artificial boom and a crash. Now, as the wheel turns, those countries are getting high interest rates just when they need low ones.
Sundering the single currency would allow Spain, Italy, Portugal, Ireland and Greece to export their way back to growth. One idea doing the rounds in Brussels is that, rather than expelling the southern countries, Germany and its satellites might withdraw and establish a new, hard currency, bequeathing the legal carcase of the euro to the Mediterranean states (and possibly also to Ireland, though a currency link with sterling would almost certainly suit Dublin better).
Monetary union, however, was never about economic logic. Rather than admit that the euro was a mistake, EU leaders are preparing the mother of all bailouts. One-off grants are no longer enough. What Euro-federalists now plan – what, indeed, they have been demanding for years – is a single eurozone bond market. Holders of junk national bonds will be invited to exchange their debt for new EU-backed bonds. The European Central Bank, or perhaps some new legal entity, will assume the bad debts of some of the stricken governments.
Such a scheme will be expensive: it’s hard to see it costing less than a trillion euros. It will also be colossally unpopular: taxpayers in the donor countries will resent being made to pay for more profligate governments, while voters in the recipient countries are already protesting about the loss of economic sovereignty. Most serious of all, it will be illegal. Article 125 of the European Treaty could hardly be clearer: “The Union shall not be liable for or assume the commitments of central governments, regional, local or other public authorities, other bodies governed by public law, or public undertakings of any Member State.”
No one even pretends that such bonds are permitted under the existing rules. As Angela Merkel put it last year: “We have a treaty under which there is no possibility of paying to bail out states.” Now, though, she is taking a different line. “Europe,” Mrs Merkel declared on Tuesday, “is unthinkable without the euro.” One wonders what existed at the western tip of the Eurasian landmass before 1999, but leave that to one side. The Chancellor’s point is clear. The survival of the single currency is a political goal for which she is prepared to pay any economic price – or, rather, to make her people to pay.
Some analysts believe that Germany has an interest in keeping the euro going, so that its exporters continue to benefit from an artificially cheap exchange rate. What suits Germany, they argue, is for the euro to struggle on, battered and cheapened. This underestimates the reverence that politicians of Mrs Merkel’s generation have for the European ideal. They are so used to citing the EU as the antidote to fascism and war that they cannot bring themselves to re-examine the premise. Younger Germans don’t fall for it, but their constitution was more or less explicitly designed after 1945 to be immune to public opinion.
Many EU leaders see economic integration, not as an emergency response, but as a desirable goal in itself. As J M Keynes put it: “Who controls the currency controls the government.” Where, though, do such plans leave Britain? While keeping the pound saved us from Ireland’s fate, we risk being drawn into the maelstrom. Our EU budget contributions rose by 74 per cent in 2010, and we have additionally taken on liabilities of £12.5 billion – some £500 for every family in the land – to bail out Greece, Portugal and Ireland.
The Government’s first objective must be to end this exposure. While some British banks are vulnerable to sovereign defaults in Europe (just as Brazilian, Canadian and Taiwanese banks are), there is no need for our taxpayers to prop up a currency that we declined to join. More than this, we ought to establish ourselves as a haven for those fleeing the uncertainty of the euro – a position which, despite our advantages of size, geography, language and global commerce, we currently cede to the Swiss.
We need to withdraw from EU regulations that inhibit our recovery: burdensome employment laws, rules on mutual access to social security which inhibit welfare reform, the Common Agricultural Policy, the 48-hour week. We should, in short, aim for a form of associate membership, an amplified free trade deal as enjoyed by Norway and Switzerland. And we should make our agreement to the legal changes which the eurozone leaders want contingent on securing such a deal.
The trouble is that we have no list of demands. In the run-up to the general election, politicians in all three parties convinced themselves that even to talk about renegotiating our membership was extreme, swivel-eyed, blah blah. That, of course, was before the crisis hit; but they are now trapped by their decision not to quarrel with the EU in any circumstances. Our officials encourage this attitude, having confused their personal stature in Brussels with the national interest.
The events of the past week ought to have jerked us from our torpor. The calculations made before the election have been overtaken by events. A perfect opportunity is presenting itself; yet we remain convulsed in a row about events which took place under the last government. It is our besetting national vice to ignore what is happening on the Continent until almost too late. We shall pay a price for our complacency.
Daniel Hannan is a Conservative MEP for South East England