Alice in Euroland
At the initiation of any new venture one is always advised to consider potentially negative unintended consequences. But what about potential consequences that are the opposite of what was intended?
If I bought a new car in the expectation that it would go faster than my old car, and it actually went slower, I would be a wise man to admit my strategy had failed and change my car.
We've remarked before in this column that now in the euro zone we have capital controls – capital controls! – plus a reduction in cross-border cash flows by EU banks and divergence in borrowing rates between northern and southern euro countries.
All of this is the opposite of what the euro was intended to bring about. If it was part of a grand Delors-esque plan for eventual political union, then it is doing precisely the opposite. We're on the road to farther-apart (sic) union.
Last month the German sovereign issued a 2-year Schatz with a 0 percent coupon. It actually priced above par. So people are paying the German government to take euros off them. Five years after the crash this is not a healthy economic sign for the EU.
The ECB can reign in any further liquidity action, the euro zone is awash with euros. It isn't a liquidity crunch any more, and hasn't been for a while. The problems are more fundamental economic ones of low productivity, stagnant economic output, high unemployment and unsustainable public sector (read welfare) expenditure.
The Cyprus bailout sets some precedents on how future crises may be addressed, not least the way that draconian measures can be imposed overnight without warning and how individual savers might be penalised.
The parlous state of the bank sector in the southern euro zone, and the desire to break the connection between the banks and sovereigns is behind the plan for an EU banking union. This week The Economist writes,
" the turmoil in Cyprus demonstrates why a credible banking union is so urgently needed. With a central supervisor and bank-resolution authority, its banking problems might have been mitigated, or addresses sooner and at lower cost."
The critical word there is might. But assuming the above surmise was correct, can someone please explain how that would then address the wider economic problems we highlight above? The Economist article concludes "Only a proper banking union can repair [the euro]."
This is to completely miss the point.
People seem to think the euro's problems are essentially the euro zone's banking problems. They are much, much more than that. The fragmentation in fiscal policy, the monetary policy straitjacket that condemns low-productivity economies to years of recession and stagnation, the excessive public sector debt that will require years of bailout assistance from the northern euro zone – they are the real issues here. A banking union has no relevance to these problems.
The euro isn't working and neither is the southern euro zone. Literally. But let's talk about bonus caps, financial transaction taxes, banking union and Liikanen-style splitting of the banks.
"But I don't want to go among mad people," Alice remarked.
"Oh, you can't help that," said the Cat: "we're all mad here. I'm mad. You're mad."
"How do you know I'm mad?" said Alice.
"You must be," said the Cat, "or you wouldn't have come here."
- Lewis Carroll 1865
Professor Moorad Choudhry is at the Department of Mathematical Sciences, Brunel University and author of The Principles of Banking (John Wiley & Sons Ltd 2012).