Greenspan: Why the Euro Zone Is Doomed to Fail

The euro zone is doomed to fail because the divide between the northern and southern countries is just too great, former Fed Chairman Alan Greenspan told CNBC in a recent interview.

Alan Greenspan
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Alan Greenspan

"At the outset of the creation of the euro in 1999, it was expected that the southern eurozone economies would behave like those in the north; the Italians would behave like Germans. They didn’t," Greenspan said. "Instead, northern Europe fell into subsidizing southern Europe’s excess consumption, that is, its current account deficits."

Greenspan predicts that as the south's fiscal crisis deepens, the flow of goods from the north will stop altogether and southern Europe's standard of living will go down.

"The effect of the divergent cultures in the eurozone has been grossly underestimated," he added. "The only way to have several currencies from divergent nations lumped together is if they are culturally close, such as Germany, the Netherlands and Austria. If they aren’t, it simply can’t continue to work."

Greenspan feels that, to a very large extent, what’s driving the United States at the moment is Europe. "Today, there is one single integrated global stock market," he said.

He also expects the European crisis, coupled with a failure to address the U.S. budget deficit, may be severe enough to cause a bond market crisis if the market suddenly decides the U.S. is more like Greece than not.

"It is very difficult to predict when a bond crisis could happen," he said. But getting an agreement on the U.S. budget will be difficult, he added, because Washington is the most polarized he's seen it in his career.

Greenspan would like to see Congress address the revenue side of the budget problem by eliminating government subsidies through tax breaks, like the deduction for mortgage interest payments.

"Much fiscal policy is implemented, not through spending increases, but through tax credits and other so-called 'tax expenditures,'" he said. "The markets should respond to them as they do spending cuts, with little contraction in economic activity. We thus could get a very large positive impact on the deficit from such reductions, with minimum negative impact on the economy."

It is no surprise, then, that Greenspan supports the Simpson-Bowles deficit-reduction proposal, which came out last year. Though the plan was met with strong resistance in Washington, Greenspan believes "the presumption we can rein in our budget deficits without inflicting some fiscal pain is utterly unrealistic."

If Simpson-Bowles isn't enacted, Greenspan favors letting the Bush tax cuts expire and restructuring the tax code, moves he says could fairly easily put ove­­r a trillion dollars back into Uncle Sam's pocket each year.

Correction: An earlier version of this article incorrectly said Greenspan predicted the European Union would fail, when he actually said it was the euro zone, which is a subset of the European Union.