For an Ever Closer Union

While searching for a solution between three opposing interests, each party has the choice of joining with another and using this alliance to impose a solution on the third party. There are three possible alliances with a solution for each of them. With only two parties, however, short of war there is only one possible solution, namely the one the stronger party can impose on the weaker one. This elementary and quite unsophisticated explanation of why a three party conflict has more solutions than a conflict between only two contestants may have a lesson we can draw about some of the possible consequences of European Union, with or without Great Britain.

The trap of the currency Union

The post-war generation of Europe which escaped Soviet occupation was animated by two basic instincts: first, that the “last European war” was really to be the last one, with France to be liberated from German domination by the English and the Americans; and second, that America, with its political power increasingly concentrated by a federal government in Washington, was rather a success and that Europe should follow its example with a “federal” government concentrated in Brussels. This was the way of the “ever closer union.”

In one of the bloodiest conflicts of the 19th century, two halves of America failed to resolve their conflicts peaceably and thus fought the Civil War of 1861-1865 that gave rise to this federal union. Apart from the liberation of the slave, the Civil War decided for freedom of interstate commerce within the federation and from its tariff wall against foreign imports, but above all by giving the power to the federal Congress to collect all the main taxes and distribute revenues, handing to Washington the supreme power over the individual states. The question of a federal monetary union was decided without having to make a decision about it, for the greenback of the federation automatically suppressed the Southern “grey back” when the latter lost all its value as the Confederacy lost the war. The greenback even maintained its role as a unique currency without the support of a central bank, for it had to wait half a century for Washington to establish the Federal Reserve System.

The political and economic cheerleaders for a European Union have been convinced that a monetary union was a decisive step for the “ever closer union” and the perpetual peace between Germany and France. As a cherry on the cake there was also the promise that monetary union would lift the economic growth of its members by 0.5 or even 1 per cent by virtue of eliminating transaction costs due to using different currencies.

Among the cheerleaders there were realists who were of two minds about transaction costs being so substantial in a world where interest rate arbitrage and other features of civilised banking are well developed, but who thought a monetary union could not survive without the member states more or less abandoning their fiscal independence and transferring to Brussels the main powers of taxation and redistribution. They want to enter monetary union with the “conspirational” thought that the member states would soon realise that the union without fiscal powers under their independent sovereignty would lead to unexpected troubles and malfunctions and they would choose to escape them by transferring their power, raising taxes and distributing expenses to a federal centre to be developed under the “ever closer union.” As realists, they should have known that politicians in the member states would face any “monetary crisis” in the union before giving up their own power of raising taxes and distributing welfare among the electors of their own countries. They refuse to be trapped into virtue by the exigencies of the monetary union.

The Maastricht treaty of 1992 to establish the euro was finalized under the illusion that if the member states kept their fiscal deficits at what seemed to be a reasonable limit, the monetary union will function without the member states having to give up any other power to Brussels. The allowed deficit of 3 per cent per year, however, was set without any regard for how a member state was already more or less in debt because of past liberties. With 75 per cent of accumulated debt and a 3 per cent annual deficit, a 3.80 per cent average yield on a national debt would just suffice to keep the state from a further increase to its debt, and establish the growth of national income by a princely 0.0 per cent. Keeping to the Maastricht treaty under such prospects would be super human, and was indeed regularly broken.

After the disastrous fourteen years of President Francois Mitterrand in France and then his successors who continued socialist policies by calling themselves centre right or centre left, Paris continued to respect the treaty by having a 3 percent budget deficit, but only next year and not this one. It continues to have an unemployment rate of 10-11 percent of the labour force and does not look likely to improve it substantially as long as the country’s labour laws flatter the unions at the expense of the unemployed. In fact, at times France seems to be governed by the apparatchiks of the CGT (Democratic Confederation of Labour) union and not by the legal government. At the same time, Germany after some financially painful years where it had to bear the burden of the reunification with formerly Soviet East Germany, has drastically reformed its labour laws and after starting with unemployment in the same range as France, has gradually reached full employment of 6.7 percent at present.”

“It is the fault of the Germans”

Germany this year has a federal budget in equilibrium and a current account surplus of over 8 percent of gross national product. This is widely regarded as not playing the game because it implies an equivalent current account deficit with the rest of the world, with more than half of that being a deficit with its Eurozone partners. Germany is regarded as the guilty party and its partners the innocents because they do not resist the attraction of buying German products. Some left wing economists are now predicting that the growing asymmetry between Germany and the rest of the Eurozone, with only a few exceptions, is almost certain to lead to “crisis.” Joseph Stiglitz is currently forecasting a collapse of the Eurozone and recommending that Germany should quit it in order for the rest of the currency union to survive.1

Various relatively simple measures, including those that today hinder the free functioning of the economies of the member states, would recommend themselves. They cannot be meaningfully discussed in this brief column. An alternative to freer economic arrangements for the Eurozone could well be its voluntary liquidation in an orderly manner, with the member states reverting to full sovereignty over their currencies, their internal price and wage levels, and therefore their balance of payments. The most likely alternative for the future, however, is that nothing much will be done. We will then be looking forward to a world of the muddle-through, a muddle-through which we always have occasion to live with.