The black humour of the credit crunch has it that the only difference between Ireland and Iceland is one letter and about six months. At Davos, Peter Sutherland, the BP Chairman and former EU Commissioner took a different view – that the thing that stands between the Irish economy and an Icelandic style meltdown is Ireland’s membership of the Euro.
His opinion appears to have traction in Reykjavik where there is talk of a fast-track application to join the currency bloc. But if he is right, why is there increasing talk about the mounting problems that face Ireland and the other PIIGS: Portugal, Italy, Greece and Spain within the Eurozone?
The irony is that while signing up to the (relative) discipline of the European Central Bank could restore some confidence and credibility to Iceland’s tiny Nordic economy, the PIIGS, are doing everything in their power to escape those self same fiscal rules.
Economies that have suffered from an inappropriate monetary policy set
in Frankfurt, and which find themselves in deep recession without the
life raft of a freely floating currency of their own, have only one way
out – they are continuing to spend and to borrow at alarming rates.
Ireland was already running a deficit of 6.3% last year (more than
double the 3% allowed under Eurozone rules) and the EU has launched
formal excessive deficit procedures amid fears that this is heading for
13% if current policies are maintained. Even these figures take no
account of a potential exposure estimated at EU440 billion through
Dublin’s bank guarantee scheme.
Faced with such rapidly declining public finances, the Eurozone’s PIIGS
don’t necessarily need to worry about a collapsing currency or rampant
inflation (Frankfurt still has some control over monetary policy) but
what happens if they can no longer fund their deficits? What if Dublin
defaults? This question has prompted much excited speculation that
over-borrowed countries might decide that the price of Euro membership
outweighs the benefits – that we could see one or more of the PIIGS
flying out of the Eurozone. This is unlikely in the extreme, but the
truth is even more revealing.
Peer Steinbruck, Germany’s Finance Minister, has made it clear that the
fiscal rules will be ignored. The treaty obligations were carefully
crafted to try to lock member states into fiscal responsibility.
Governments running excessive deficits would face embarrassing
intervention from Brussels and if they couldn’t finance their
borrowing, there was no provision made for a bailout. On Monday, Mr.
Steinbruck took a very different stance:
“The Eurozone treaties don’t foresee any help for insolvent countries,
but in reality the collective world would have to be helpful to those
If the Euro really was about sound economics, about wrapping little
countries like Iceland in a blanket of German fiscal and monetary
rectitude, the countries that have consistently flouted the fiscal
rules of Euro membership would be facing ejection from it. Many of us
have always seen the Euro as a political project rather than an
economic one. Peer Steinbruck has confirmed this view but in doing so
he has let another enormous cat out of the bag.
It is now crystal clear that the Eurozone’s biggest economy thinks any
country, however small, leaving the Euro would cause unacceptable
damage to the credibility of the currency as a whole. Surely, it is
only to prevent this reputational damage to Germany’s own currency that
the German tax payer would be prepared to stand behind the budget
deficits of other countries in the way Mr. Steinbruck describes.
Technically, it would be simple for the ECB to buy government bonds
from the less responsible Eurozone states but this exercise would set
the imbalance between the political and economic integration of the EU
in sharp relief. The creation of a currency union in Europe was a
massive step towards economic integration but in the years of growth
and easy money, its architects thought the political structure to
underpin it could be left to develop over time.
Now the financial
crisis may be forcing the development of a currency union into a debt
union in which the taxpayers of the strong economies carry the weight
of other countries’ debts. Is it not inevitable that in return, they
will seek real political control over tax and spending decisions in
those other countries?