September 27, 2017
On the future of the eurozone
We noted two contributions on the future of the eurozone this morning. One came in a letter to FAZ by a group of 15 French and German economists, most of them well known to us, urging France and Germany to take decisive action to fix the eurozone. They argue that the eurozone remains fragile for three reasons. The first is that stabilisation depended on the ECB, and the expansive monetary policy will eventually end. The second is that the legacy debt from the global financial crisis and the eurozone crisis remains formidable. And the third is that the instruments currently used - like the stability rules - have proven largely ineffective. The authors rightly note that France and Germany mean very different things when they talk about a European budget, or a European finance minister. These differences reflect deep divisions between the positions of both countries. If both sides stick to their position, the most to be expected would be "small solution" as the authors call it, a PR stunt (our expression) that will not solve any problems because it will not address the underlying issues.
Germany and France should instead aim for more ambitious goals. The authors say one way to overcome the division over transfers and common budgets is to create non-fiscal and non-monetary instruments, like a common deposit insurance (is this not fiscal?), or further integration of capital markets. They will also need to take decisions on legacy debt, especially in view of the exposure of national banks to the government debt of their host countries. This will also have to include a discussion of eurozone-wide debt instruments.
A compromise would require Germany accepting a greater degree of risk sharing, while France accepts more market discipline.
It is clear from the tone of the letter than not all of the signatories agree with all of the points - so this is meant as a compromise not only for the French and German governments, but also between the economists' own different positions on this issue. We would agree that this would be a good way forward. We agree in particular that the eurozone will remain fragile unless these issues are addressed.
We also noted from Martin Wolf’s FT column a more specific suggestions by Adam Lerrick of the American Enterprise Institute, who proposes a scheme to deal with asymmetric fiscal shocks arising when sovereign bond yields diverge, as they did in 2012. He proposed a financing-cost stabilisation account, whose funds would go to members experiencing difficulties. We believe this is a non-starter because the ECB already put an instrument in place for this eventuality, the OMT programme, and there is no desire by northern member states to load this instrument with a fiscal capacity.
The approach chosen by the group of Franco-German economists seems to us a more promising route.