Fragmentation of the Eurozone could trigger another deep financial crisis and global economic downturn
The Eurozone is at a tipping point. EU leaders are in disarray and have no clear strategy for resolving the crisis. Fragmentation of the Eurozone could trigger another deep financial crisis and global economic downturn. LYNN WALSH analyses the crisis.
EVERTHING IN EUROPE has turned into its opposite. The euro was intended to speed the integration of the participants and create a stable currency zone. Instead, it has currently become the main immediate source of instability and crisis in the world economy. Following the subprime crisis and collapse of the banking system in 2007-08, with a flight from complex financial packages and derivatives, the banks moved into sovereign debt as a supposedly ‘risk-free’ investment. Now, the banks – including US banks – are faced with potentially catastrophic losses as a result of the eurozone sovereign debt crisis.
The European Union (EU), reinforced by the eurozone, was intended to overcome national antagonisms within Europe and insure the continent against any possibility of German hegemony. Instead, the problems of the eurozone and the EU generally, which are seen as being linked to the prolonged economic crisis, have led to an intensification of nationalism and tensions between the major EU states. Moreover, Germany is now the dominant power of the EU (barely concealed by the Franco-German partnership), laying down the law – but without any policies that can resolve a complex crisis that becomes more acute every day. The eurozone is at a tipping point and could fragment at any time, detonating another deep financial crisis and economic downturn.
Saving the euro
GERMAN CHANCELLOR Angela Merkel and the Bundesbank have blocked the European Central Bank (ECB) from large-scale purchases of eurozone government bonds, the only immediate measure that could – possibly – shore up sovereign debt in the short term. This is despite pleas from eurozone governments, including French president Nicholas Sarkozy, for ECB intervention. At the same time, the European Financial Stability Fund (EFSF – which has only around €250 billion left) has not been turned into an effective vehicle for intervention (it has failed to raise additional funds on financial markets). Merkel has also rejected the introduction of mutually guaranteed eurobonds to secure the position of the weaker eurozone countries.
ECB intervention or eurobonds would, in the view of Merkel, let the ‘profligate’ eurozone governments off the hook regarding further austerity measures. They would create ‘moral hazard’, allowing them to run up further debts without any penalty. Meanwhile, the assault on eurozone bonds by financial markets continues, even threatening French sovereign debt. “Few doubt Ms Merkel’s good intentions”, comments Phillip Stephens (Financial Times, 22 November), “many more worry, with good cause, that her obsession with moral hazard could yet be the death of monetary union”.
The big bond traders have forced up the cost of Italian and Spanish sovereign debt, and are now turning against French government bonds. There is even the beginning of a sell-off of German bonds, despite the relative strength of the German economy. This reflects growing fears among Asian investors of a complete collapse of the eurozone.
Merkel’s response has been to propose ‘more Europe’, initially tightening the eurozone monetary union. This would be, according to her plan, another small, incremental step towards fiscal and political union.
Merkel’s proposals were reportedly put to Sarkozy and separately to British prime minister David Cameron in their meeting of 18 November. Merkel is proposing a tighter eurozone regime, with strict rules over taxation and spending. There would be the creation of a new body, a ‘European monetary fund’, that would have powers to intervene, supervise or even take over the fiscal and economic policies of national governments. Then, it is hinted, it might be possible to introduce mutually assured eurobonds and deploy other measures to support eurozone governments.
Merkel, however, has not welcomed proposals from José Manuel Barroso, president of the European Commission, putting forward plans for Eurobonds. The German version would be based on stricter conditions than are being proposed by the commission. This has raised fears among European leaders that the new eurozone regime would, in effect, mean German hegemony. This was particularly true after comments by Volker Kauder, Merkel’s parliamentary party leader, at the recent Christian Democratic Union conference that Europe “is now speaking German”.
The proposals put forward by Merkel would require a treaty revision. Although the revisions would affect only the 17 eurozone members, revisions would require the approval of all 27 EU members. In a number of countries this would require referenda. In her meeting with Cameron, Merkel, it appears, was eager to get the British government’s acceptance. In return for the Con-Dem government accepting the treaty changes (and, according to some reports, giving an undertaking not to call a referendum in Britain), Merkel would agree to further opt-outs for Britain on social and employment legislation.
Would the measures proposed by Merkel be enough to save the euro? The first problem is time. It would take quite a time for the eurozone leaders to draw up and themselves approve a new eurozone framework. But then there is the even bigger problem of gaining political acceptance in the eurozone countries. Mass opposition will undoubtedly be increased by further austerity measures, a downswing in the European (and most likely global) economy, and the fact that Merkel and others link these limited steps to the idea of political union.
Role of the ECB?
THERE ARE GROWING demands for the ECB to intervene and buy eurozone government bonds on a massive scale to bring down the interest rates on sovereign debts. Sarkozy is reported to have clashed with Merkel on this issue. Analysts linked to financial institutions are also calling for an ECB intervention. In their view, it is only the ECB that has the resources to stave off a series of defaults throughout the eurozone. However, Merkel has intransigently opposed this move, as has the new head of the ECB, Mario Draghi. In his view, supporting eurozone sovereign debt is the job of eurozone governments, not the ECB. “Where is the implementation?”, he asked of the agreement to activate the EFSF to support struggling eurozone governments.
The ECB has intervened on a limited scale to support the bonds of Greece and Portugal, and more recently Italy and Spain. But it has purchased only about $252 billion of bonds. The Bank of England, for instance, is aiming to buy £275 billion of British government bonds, while the US Federal Reserve has bought $2 trillion of US Treasury bonds.
The opponents of large-scale ECB intervention argue that it would be illegal under the EU treaties for the bank to intervene to support member governments’ debts. This, however, appears to be a debateable point. It is clearly ruled out that the ECB should directly finance member governments by buying newly issued bonds in the primary market. However, some argue that it would be legitimate for the ECB to buy bonds in the secondary bond market, in order to promote ‘financial stability’ throughout the eurozone.
No doubt these legal objections could be overcome if there was agreement between the major eurozone powers. However, the main objection comes from Germany, which has a historic, ideological objection to a measure they would see as inflationary. This is based on the experience of hyperinflation in the 1920s and again in the aftermath of the Second World War. It is far from certain, however, that ECB bond purchases would be inflationary in the current situation. The stagnation of production throughout the advanced capitalist countries and the weakness of consumer demand mean that there are generally deflationary trends (leaving aside the price rises caused by the import of fuel, food and other commodities, which have risen in price over the recent period). Moreover, the banks have been increasingly reluctant to lend money in the wholesale, interbank lending market and have instead deposited their liquid cash with the ECB. This has had the effect of counteracting (sterilising) the bond purchases made in the recent period.
However, Merkel and other inflation hawks appear to fear that ECB intervention would let national governments off the hook as far as further austerity measures are concerned. There is speculation that the German government favours holding out on ECB purchases until there is an imminent danger of default, in which case it might sanction intervention. By that time, however, it might be too late. The recent failure of the securities trader, MF Global (which held $6.3bn of eurozone debt) is an indication of the fragility of financial institutions linked to the eurozone bond market. ECB bond purchases (like quantitative easing in the US, Britain and Japan) would stave off a catastrophic sovereign debt crisis, though it would not overcome the deep-rooted causes of economic stagnation and unsustainable debt. But without rapid intervention by governments (like Germany) which still have reserves, there is clearly the possibility, as in 2008, of a chain reaction of failures by banks and other financial institutions that could lead to a systemic banking crisis. That would undoubtedly plunge the world economy into a new slump.
Banking crisis 2008: Northern Rock customers in Britain fled to withdraw funds
Unification of Europe?
MERKEL IS RAISING the question of political union as a long-term aim to be achieved by incremental steps. A fiscal union, with a central political infrastructure – a supra-national state apparatus – is the logic of a single currency. The present crisis shows the impossibility of sustaining a pure currency union without fiscal and economic coordination. The wealthier capitalist states are never going to underwrite the weaker economies without having a decisive say over their economic policies. To be successful in the long run, the currency union would require a common fiscal policy, common sovereign bonds and transfers from the wealthier to the poorer countries to avoid growing economic disparities and political tensions.
This implies a federal European state, similar to the federal structure of the United States. However, the US was formed during a period of long-term growth in the 19th century. US capitalism was consolidated as a result of the civil war against the southern slave-owners, who were based on a plantation economy. US capitalism was able to develop a common (or at least dominant) language and culture. In contrast, Europe (whether the 17 or the 27) consists of a collection of nation states with their own languages, histories and national consciousness.
During the period of the post-war economic upswing, the European states which joined the Common Market/EEC/EU attempted to overcome some of the limitations of the nation state to compete against the US and, more recently, Japan and China. They were prepared to surrender a limited element of national sovereignty. Nevertheless, capitalism historically developed within the framework of the nation state and every capitalist class remains rooted in the nation state, where their wealth and power are based. Moreover, historically the nation states have produced deep-rooted national consciousness, which cannot be overcome within the framework of capitalism. On the basis of economic upswing, national differences could be partially overcome, with a limited pooling of sovereignty. But the current, prolonged economic crisis, particularly the tensions within the eurozone and EU, has actually sharpened national antagonisms.
When capitalism could substantially and continuously raise living standards, there was the basis for a certain degree of unification on a European level. But in a period of economic stagnation and ferocious attacks on living standards, there is an upsurge of nationalism and even xenophobia among some layers of the population. It is not possible for capitalism to overcome the limits of the nation states through the construction of a European super-state, even with a loose federal structure. On the contrary. The forces unleashed by economic and social crisis will lead to a fracturing of the eurozone, with perhaps two or three currency areas. Only the timing is uncertain. Moreover, the crisis of the eurozone will at some point threaten the EU itself.
THE EUROZONE SOVEREIGN debt crisis and the austerity measures imposed by the EU and IMF are pushing the European and wider global economy into another downturn (when most economies are still below their 2008 peaks). According to the OECD, the advanced capitalist countries will virtually come to a standstill in 2012. The EU economy is only expected to grow at around 0.5% next year. Even Germany will come to a near standstill, with just 0.8% growth forecast. However, even these gloomy forecasts may prove to be optimistic.
Merkel and the ECB are calling for even more drastic cuts in Greece, Italy and Spain. They appear blind to the fact that cuts on such a massive scale are strangling growth throughout Europe and beginning to impact on the world economy.
Lawrence Summers, former US Treasury secretary, recently commented on this: “The greatest risk of sovereign credit crises comes not from profligacy but slow growth and deflation. Four years ago Spain and Ireland were seen as models of fiscal rectitude. Their problems come from a collapsing economy and financial system. For very indebted countries, a prolonged period when the rate of interest on debt far exceeds the nominal growth rate makes reducing debt to GDP ratios all but impossible. Analyses of austerity measures consistently overestimate their efficacy by neglecting their adverse effects on economic growth and inflation and hence on future tax receipts. If reasonable growth in the global economy is restored, deficit problems will be manageable. Without growth, it is likely to be impossible to ease debt burdens”.
“As Britain is now demonstrating”, Summers continued, “fiscal contraction leads to economic contraction. This situation is made worse if, as in Europe at present, the central bank does not act to offset the adverse impact of austerity on demand”. (Financial Times, 3 November)
Adam Posen, who is a member of the Bank of England’s monetary policy committee, makes a similar point (International Herald Tribune, 21 November). The present situation, he argues, calls for further stimulus, not more austerity. “Throughout modern economic history, whether in western Europe in the 1920s, in the United States in the 1930s, or in Japan in the 1990s, every major financial crisis has been followed by premature abandonment – if not reversal – of the stimulus policies that are necessary for sustained recovery. Sadly, the world appears to be repeating this mistake…
“The economic outlook has turned out to be as grim as forecasts based on historical evidence predicted it would be, given the nature of the recession, the cutbacks in government spending and the simultaneity of economic problems across the Western world”.
In fact, world capitalism faces a prolonged period of stagnation with, at best, a weak cycle of limited growth or, at worst, another slump even deeper than 2007-2008.
THE EUROZONE CRISIS is not only an economic crisis but a deep crisis of capitalist political leadership. In Greece, the George Papandreou government has been replaced by the ‘technocrat’, Lucas Papademos, while in Italy Silvio Berlusconi has been replaced by Mario Monti. In Spain, the PSOE government of José Zapatero has suffered a massive electoral defeat, with the coming to office of the right-wing Popular Party government under Mariano Rajoy.
In Spain, the landslide victory of the Popular Party was not an endorsement of the PP – Rajoy was virtually silent about the policies he would implement – but a rejection of the PSOE government, which presided over the collapse of the housing bubble, staggering unemployment and severe austerity measures. Despite their landslide victory, the PP will not enjoy a prolonged honeymoon but will soon face massive movements of the working class, students and sections of the middle class.
In both Greece and Italy, the ruling class has resorted to the appointment of ‘technocrats’, so-called non-party experts, bankers and bureaucrats. Papademos was a former vice-president of the ECB, while Monti was an EU commissioner. These autocrats represent the dictatorship of the market, and their role is to carry out further drastic attacks on the living standards of the working class.
Some of the political leaders will be pleased, for the time being, to hide behind these bureaucrats. Papademos and Monti may even enjoy a brief honeymoon as they represent a change from discredited political leaders. However, their policies will rapidly lead to renewed mass struggles, of strikes, mass demonstrations and other protests.
Protest against austerity cuts by Italy’s new Prime Minister Mario Monti in Naples on 17 November 2011
The appointment of these bureaucrats, while their position is far from strong, is an ominous development. As one commentator comments: “In effect, eurozone policymakers have decided to suspend politics as normal in two countries because they judge it to be a mortal threat to Europe’s monetary union. They have ruled that European unity, a project more than 50 years in the making, is of such overriding importance that politicians accountable to the people must give way to unelected experts who can keep the show on the road”. (Tony Barber, Enter the Technocrats, Financial Times, 12 November.)
A US commentator writes: “There were few tears in Italy and Greece for Silvio Berlusconi and George Papandreou, the prime ministers — respectively corrupt and hapless — whose downfalls were engineered by the Brussels-Berlin-Paris axis. But their forced departures, however welcome, open a troubling window on what a true European state would look like. Stability would be achieved at the expense of democracy: the rituals of parliaments and elections would endure, but the real decision-making power would pass permanently to the forces represented by the so-called “Frankfurt Group” — an ad hoc inner circle consisting of Germany’s Angela Merkel, France’s Nicolas Sarkozy and a cluster of bankers and EU functionaries, which has been spearheaded European crisis management since October”. (Ross Douhart, New York Times, 20 November 2011.)
The role of technocrats like Papademos and Monti reflects the complete discrediting of the bourgeois political leaders. But it also reflects the political bankruptcy of the left leaders of the traditional workers’ parties and the trade unions. Throughout Europe, there has been wave after wave of general strikes and mass protests, including mass movements of students and the middle class. But this elemental movement has not been matched by the existing left leaders, who are an obstacle to effective struggle. This is a new period, however, and even bigger struggles will bring mass support for anti-capitalist struggles and the aim of replacing capitalism with a socialist planned economy under workers’ democracy.
THE ‘TECHNOCRAT’ Papademos has been put in to head the new Greek government in order to carry through even more savage cuts, a mission he appears to have embraced with zeal. But there is already a slump in Greece, with at least a 5% fall in GDP this year and worse to come next. There is mass poverty among the working class and middle class, and services have been slashed to pieces.
Despite the programme of cuts, Greece is still likely to default. There is no way that it can reduce its debt burden to sustainable levels in the foreseeable future. This has been accepted by EU leaders, like Olli Rehn, the EU commissioner for economic and monetary affairs, who publicly admitted that Greece could leave the eurozone. Behind the scenes, there can be no doubt that eurozone leaders have discussed contingency plans for the exit of not only Greece but other countries like Portugal, Spain and Italy. At a certain point, it is likely that the leaders of German capitalism would prefer a smaller, more viable eurozone, including Germany, Netherlands, Austria, etc, but excluding fiscal ‘sinners’ like Greece, Portugal, etc.
Greek protest against austerity
When Papandreou, proposed a referendum on the cuts package, EU leaders threatened Greece’s expulsion from the eurozone. It became clear that, at this stage, a majority of Greeks strongly support remaining in the eurozone. This is because Greek participation in the eurozone is associated with the period of growth and prosperity in Greece. As one economist (Stergios Skaperdas) put it, most Greeks find it difficult to accept that their ‘euro dream’ might be over. “For most Greeks, including economists, adopting the euro was like marrying a dream spouse – beautiful, intelligent, caring, even rich. And then, rather suddenly, the marriage turned into a nightmare”.
There was a similar situation in Argentina in 1999-2001. Even when Argentina was being bankrupted, partly as a result of the dollar-peso peg, opinion polls showed that a majority strongly supported the preservation of the currency link. Again, this was because of the past association of the dollar-peso peg with a period of prosperity in Argentina. Only later was the illusion broken by the devastating impact of the collapse of the Argentinian economy.
In Greece, anyone who seeks to represent the interests of the Greek working class must call for the repudiation of Greece’s debts. The working class is not responsible for running these up. They were certainly not the main beneficiaries (who were property developers, capitalists, wealthy people who avoided paying taxes, etc).
A break from the euro and a return to the drachma would allow a devaluation of the currency, which would boost exports and allow Greece to implement its own monetary policy to support growth. In itself, however, breaking with the euro would not be an immediate solution for the Greek working or middle classes. It would take time for the economy to recover, especially if there is a global downturn. Many Greek capitalists and big property owners, moreover, have already deposited their money in foreign accounts (and many are busy buying up luxury property in London, for instance). As in Argentina, bank accounts would be partially suspended or even wiped out. Following a default, Greece would find it difficult for a period to raise loans to pay for imports, which would mean shortages of essential goods in the country.
Default, therefore, would have to be accompanied by the nationalisation of the banks, together with controls on capital flows to prevent a flight of capital. Key sectors of the economy would have to be taken under the control of the working class in order to secure essential goods and services. The Greek workers would have to make an appeal to workers in other countries to help secure the supply of key commodities, such as fuel, food, etc.
Such a policy, of course, would be a challenge to the capitalist ruling class and pose the question of moving towards a socialist form of society. At the moment, Greece is in the most extreme position regarding debt and austerity, but other eurozone countries, such as Portugal, Italy, Spain and Ireland, are not far behind, and the same urgent need for socialist policies to meet the Euro crisis applies to them.