Saving the Euro Zone
by Gordon Brown
Posted August 15, 2011
[I never imagined in my wildest dreams that I’d be posting a piece by Gordon, an elitist insider by some accounts, and who famously sold the UK’s gold at the lowest possible price back when he was Chancellor, but this is not bad at all, and is linked to the previous post by Jeremy Warner here on QP: Collapse in German growth will lead to Euro rebellion. – Aurick]
LONDON — How could a group of nations that came together with such promise and commitment more than half a century ago, prepared to surrender their currencies and much of their political sovereignty to strengthen integration, now find that their union has been brought to the brink by the small state of Greece, economically and geographically one-fiftieth of Europe? And how can we now prevent a European crisis from writing a new chapter in what will be called “the decline of the West”?
For months we have been told that Europe’s salvation lies in austerity, in the whole Continent applying Germany’s prescription of fiscal discipline to its deficits. We have been told that if austerity does not work it is just because there is not enough of it.
But when Chancellor Angela Merkel of Germany and President Nicholas Sarkozy of France meet in Paris on Tuesday they will find all around them evidence of what they did not expect — failing banks, waning growth and capital flight.
This confirms what many of us have argued from the outset: that Europe’s difficulties have arisen not merely from the one-dimensional issue of deficits, but from a disastrous, three-dimensional configuration that is financial and economic as well as fiscal.
These past few weeks have demonstrated that Europe has a deeply flawed banking system, a widening competitiveness gap, and a debt crisis that cannot get much better if the economy gets worse. It is an already lethal cocktail that becomes more deadly when mixed inside the euro, a currency created without the resilience to withstand difficult times and which has no structure for effective decision-making.
In the normally quiet month of August we have seen these difficulties escalate so rapidly that little now stands between Europe and a decade of low growth, high unemployment, industrial decline and popular discontent, the nearest modern economic parallel for which is the 1930s.
Some time ago I reached the conclusion that there was no solution possible within the existing euro structure. Either the euro has to be fundamentally reformed by Europe’s political leaders and the European Central Bank or it will collapse. After the events of the last few days I know for sure there is not even a chance of a middle way.
I was present at the first meeting ever held of the euro zone heads of government in October 2008, in the immediate wake of the Lehman Brothers crash. Although not a member of the euro, Britain had been invited to explain its decision to restructure and take ownership of some of Britain’s banks. I explained that Europe’s banks were under-capitalized by billions and that the prospect of them collapsing jeopardized the safety of the entire European economy — we could not run capitalism without capital.
I remember the skeptical looks when I explained that European banks were in fact more vulnerable than American banks, that they were far more highly leveraged and far more dependent on short-term wholesale funding. In fact, half of America’s toxic sub-prime assets had been bought by reckless institutions in Europe. Worse still — as we have subsequently discovered — the greater the European banks’ problems, the poorer their insurance coverage, the worse their leverage and thus the more dangerous the risk to us all.
Yet even as the crisis grew, it was difficult to get Europe’s leaders to accept that it was anything other than an Anglo-Saxon one. By convincing themselves that the problem was simply fiscal, they have drawn back from taking proper action.
Europe’s leaders are also handcuffed by an inadequate treaty of Union, by the problem of getting a coherent response from 27 different nations, and by a rise in anti-European sentiment in their home countries (particularly in Germany), which has deterred them from sanctioning collective action beyond that which protects short-term national self-interest.
The exigencies of domestic politics have locked the euro zone into an impossible set of economic constraints — no defaults, no deficits, no stimulus and, of course, no devaluations — which mean that there can also be no banking stability, no lasting growth, no sustained job creation and no boost to competitiveness from their currency.
There is no escaping the basic fact that Europe’s difficulties are indicative of deep structural defects — its declining competitiveness, aging population and persistently high unemployment. Its share of world output, which has already halved, is set to halve from 20 percent today to around 10 percent over the next two decades.
Yet as the world’s financial crash has evolved — expanding through Europe into an economic downturn, and then a debt crisis, the Continent has, at each stage of the process, remained doggedly behind the curve. Even as recently as a month ago it could have avoided the events now driving it to breaking point. A European stabilization fund of some €2 trillion could have convinced the markets that Europe meant business wherever it was confronted with problems. A Brady bond solution for Greece, Ireland and Portugal — in which private creditors restructure their holdings — might have cauterized the issue of insolvency in Europe’s periphery. (Forcing Spain and Italy to join the new precautionary facility might have worked as late as two weeks ago as a solution to the cost of financing their loans). A root and branch recapitalization of the banks would have sent out the desperately needed signal that the Continent was serious about the underlying weaknesses in its financial sector. Demanding private sector involvement not just in Greece but across Europe would have produced a lasting framework for sharing the Continent’s burdens.
But Europe has flinched at every turn from showing the decisiveness that its problems require — and in the market panic of the last few days its leaders have been caught out once again trying to stem the fallout from yesterday’s disasters instead of planning the pre-emptive action that will avert the problems of tomorrow.
The time for extemporized solutions is gone. The Continent has to commit to a plan that accepts difficult realities and underpins the several trillions in funding needed to ensure that governments from Greece, Ireland and Portugal to Spain, Italy and Belgium are adequately funded from now to 2014.
So there is no way out except through the biggest recapitalization of the banks in European history and a wholesale reformation of the euro, which will require the coordination of its monetary and fiscal policy, fiscal transfers from rich to poor nations and a commitment to a common European debt facility.
Of course no single country, not even Germany, can afford to bail out all the banks and underwrite all their neighbors. It will require an undertaking that is pan-European, involve commitment from the private sector, and will have to draw on support from the I.M.F., and possibly China and America.
These massive guarantees will necessitate a big shift in Europe’s thinking; that if the world used to need Europe, Europe now needs the world. And this global insight is also essential to equip us for global competition ahead. We will need a repositioning of Europe from consumption-led growth to export-led growth. It will require right across Europe the kind of radical capital product and labor market reforms only a few countries have tried.
The restoration of European growth will also depend on better global coordination, in particular a G-20 agreement with America and Asia to ensure financial stability and to coordinate a higher path for global growth. But for all this to happen Germany will have to take the lead.
Gordon Brown, a Labour member of the British Parliament, was Britain’s prime minister from 2007 to 2010 and chancellor of the Exchequer from 1997 to 2007.