Book Review: Europe's Unfinished Currency
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The financial media are full of news about the fluctuations of the euro, alternating between hope and despair amid accounts of complex European politics. Thomas Mayer’s new book, Europe's Unfinished Currency: The Political Economics of the Euro (Anthem Finance), covers the euro from its inception and helps to make sense of the turbulence. Mayer was chief economist of Deutsche Bank Group and head of Deutsche Bank Research; today he is a senior advisor to Deutsche Bank’s management.
The birth of the euro was political, coming out of the desire to bind Germany to Europe. Pushed by France as the price for approval of German unification, the euro was a “hugely ambitious political project pursued with an occasionally reckless negligence of economics.” Despite the lack of a sound underlying financial structure, it enjoyed a decade of a “fairly happy childhood,” becoming the second most traded currency after the US dollar. However, this childhood turned out to be an illusion. As many people didn’t realize, the fall of the Berlin Wall ended the very basis for the creation of the EU (European Union) and the euro: the fear of war. Germany began to sever its postwar connection to France.
The credit collapse, which began in the US and spread to Europe, further shattered the illusion. Before the meltdown, interest rates in the EU had “plunged to the German level." The story of the euro is the story of a credit boom and bust: “cheap credit was the glue that held EMU [Economic and Monetary Union] together during its first decade of existence.” During this period, “both the private and the public sector succumbed to the sweet temptation of easy credit and loaded the boat with debt.” We have seen the results in Ireland, Greece, Spain, and Italy.
Looking back, it seems almost unbelievable that banks would lend money to these countries and governments fail to intervene. But as we saw in the US subprime mortgage debacle, credit bubbles hinder realistic analysis and response across a wide spectrum of financial professionals and government officials. Those who gave into temptation received big bonuses and promotions—and got reelected. “[W]ith the exception of Spain, … no systematic attempt was made by national central banks or supervisors to lean against the growing house price bubble,” and “the build-up of large external current account imbalances went almost unnoticed."
The Eurosystem “offers balance-of-payments funding at a very low interest rate, in virtually unlimited amounts, without any conditionality.” National banks are not required to settle their balances with the European Central Bank on a regular basis. The EU responded to the euro crisis in the same way that the US reacted to its own financial catastrophe: “cheap credit from the private capital market was replaced by credit from official sources." This has been effective on a short-term basis, but it raises the fear of eventual inflation and causes unease about the poor credits now on the balance sheets of central banks. This may account for some of the current anxiety in the capital markets.
Mayer concludes that the EMU cannot be sustained. There is no prospect of a strong European government that could forge a lasting monetary union. Rather, the “halfway house” of Europe is likely to collapse “as economically and financially stronger countries resist the financial exploitation through joint debt liability and inflation created by the liberal use of the money printing press.” In simple terms, Germany is like a rich family using its financial resources to cover the credit card bills of a bunch of extravagant relatives—until its own credit is threatened.
This first-rate book offers a thorough historical review of the euro and an insightful analysis of its current predicament. I highly recommend it to all NYSSA members.