Last Tuesday, the European Parliament finally approved a mechanism for restructuring and closing down failed banks across the euro zone. But the system, which will not be established until 2015, is unworkably complex and leaves a veto power with national governments. Six years after the financial crisis began, Europe has still not resolved its banking mess.
Despite the hoopla in bubbly financial markets, the crisis continues to inflict grave hardship. Zombie banks are still curbing credit to businesses in Southern Europe. Millions of people in sickly economies have lost their jobs or must scrape by on slashed wages, while they struggle with huge debts and pay higher taxes for worse public services. Many have lost that most precious commodity: hope for a brighter future.
Social tensions within countries are multiplying, as are political frictions between them. Support for the European Union is at an all-time low. Extremist parties are set to advance in European Parliament elections next month.
The primary cause of the crisis was the reckless lending of German and French banks (both directly and through local banks) to Spanish and Irish homeowners, Portuguese consumers and the Greek government. But by insisting that Greek, Irish, Portuguese and Spanish taxpayers pay in full for those banks’ mistakes, Chancellor Angela Merkel’s government and its handmaidens in Brussels have systematically privileged the interests of German and French banks over those of euro zone citizens.
Germany, in particular, remains in denial about its banks’ bad loans. Loath to cede control over its stricken banks, Berlin has used its clout to eviscerate the euro zone’s banking union. Worse, the German government, together with the European Commission and the European Central Bank, wrongly blamed the euro zone crisis on fiscal profligacy across Southern Europe. This self-serving misdiagnosis has inflicted lasting economic and political damage.
The massive austerity that Europe’s leaders enforced has caused deep recessions and soaring unemployment, while perversely destabilizing public finances. In Greece, the economy has shrunk by a quarter and the incomes of the poor by one-third; six in 10 young people are unemployed. By some measures, this is a worse slump than Germany suffered in the 1930s.
In my former post, as an economic adviser to the president of the European Commission, I argued against such measures, but to little avail. When European policy makers’ mistakes sparked a bond-market panic that brought the euro zone to the brink of collapse, their response was still more austerity. Only in the summer of 2012 did the European Central Bank finally quell the panic.
Thanks to the central bank’s action and an easing of austerity, euro zone economies have stabilized. Berlin and Brussels claim — wrongly — that their handling of the crisis has been vindicated.
The bungled decision to bail out German and French banks by lending to an insolvent Greece in May 2010, rather than writing down its debts, scarred the euro zone. It violated the legal basis on which the euro was formed: that a government in difficulty should not be bailed out by its peers.
Because Ms. Merkel agreed to breach this rule, Germany’s taxpayers feared that they were on the hook for Southern Europe’s debts. Ms. Merkel therefore demanded greater control over other countries’ budgetary decisions — and the European Commission was only too delighted to grab new powers. Countries that share a currency and an interest rate need greater fiscal flexibility, not less, but the commission now applies a fiscal straitjacket — including the right to demand that a government rewrite its budget before presenting it to parliament.
This centralization of fiscal powers is not just economically dangerous; it is also politically poisonous. When voters in a member country have turfed out their government, as they have done at almost every election since the crisis, Olli Rehn, the commission’s vice president and fiscal enforcer (currently on temporary leave), has popped up on television to insist that the incoming government stick to the old one’s failed policies. That a remote, unelected and scarcely accountable official in Brussels should deny voters legitimate choices about tax and spending decisions is undemocratic and alienates people from the European Union.
A crisis that could have united Europe in a joint effort to curb the mighty banks has instead divided the euro zone into creditor nations and debtor ones, with banks’ bad loans becoming intergovernmental obligations. European Union institutions have become instruments for creditors to impose their will on debtors, subordinating Europe’s southern “periphery” to the northern “core” in a quasi-colonial relationship. Berlin and Brussels now have a vested interest to entrench this system rather than cede power and admit to mistakes.
To get out of this mess, the euro zone needs a change of policies and institutions. Banks need to be restructured and unbearable debts written down. More investment is needed, along with bold reforms to boost productivity.
The “no bailout” rule should also be restored. Elected national governments must have much greater flexibility to tax and spend as they please, constrained by markets’ willingness to lend to them and ultimately by the possibility of default. A mechanism for the orderly restructuring of sovereign debt should be established for that purpose.
To avoid future panics, the European Central Bank’s role as a lender of last resort to solvent governments should be enshrined. The mechanism for restructuring failed banks also needs to be properly independent.
In the long term, a euro zone treasury accountable to both European and national legislators should be created, with limited tax-raising and borrowing powers. To persist with current policies and institutions will corrode support for the European Union and risks destroying it. We need a European Spring of economic and political renewal.
Philippe Legrain, a former economic adviser to the European Commission president, is the author of European Spring: Why Our Economies and Politics are in a Mess — and How to Put Them Right.