Tag Archives: Eurozone

Neutral Stupidity

The EU lawmakers are about to finalize rules for a single supervisory mechanism (SSM) coordinated by the ECB. The European Commission is expected to table legislation for a resolution mechanism to wind up ailing banks within the coming months. European Central Bank (ECB) chief Mario Draghi said on Monday in the European Parliament that a euro zone banking union will need a common resolution fund, and that it has to be “fiscally neutral over the medium term.” How can another European bank bailout fund be fiscally neutral?

 “The European Resolution Fund should be backed by a public backstop mechanism to ensure that it would be fiscally neutral over the medium term.”

Mario Draghi

gal_5113

Yup..neutral, but only over the medium term. Sooner or later the taxpayers will have to pay for this bailout, too…

Speaking with MEPs on the monetary affairs committee, Draghi said that the resolution fund should be financed via levies to safeguard against having to “recourse to taxpayer money,” the EUobserver.com reports.

Levies, hu?

ESMHere are some related words:

Also, the European Resolution Fund “should be backed by a public backstop mechanism,”  Mr. Draghi added, to ensure that it would be “fiscally neutral over the medium term.”

I’m sorry, but this sounds like pure nonsense to me.

There’s nothing new here – just another way to ensure that the bailout mechanisms already set up by the EU  leaders – the European Stability Mechanism (ESM) and the European Financial Stabilisation Mechanism (EFSM) – will still be in place when the European banking union becomes a reality.

But the need for a pan-European resolution fund is widely accepted among most EU lawmakers. However, some countries fear it could lead to their taxpayers financing bank rescues in other countries.

Well, I think they’re on to something….

Meanwhile, Draghi continues to kick the can, downplaying the recent diplomatic row over the exchange rate policy of the euro, dismissing it as “excessive” talks of a currency war involving the euro zone, Japan and the US.

He also said that the ECB did not regard the euro zone exchange rate as “a policy target, but it is important for growth and price stability.”

Important, but not a target….

And, according to the bank’s economic forecasts, the euro zone economy will fall by 0.3 percent in 2013, although Draghi indicated that he expected “a gradual recovery later this year.”

Heard that one, too…..quite a few times over the last five years.

bailout_packages

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A Tombstone Treaty?

There is no doubt in this bloggers mind that the EU leaders eventually will agree on, and sign, a new fiscal Treaty for the euro zone. But the really interesting question is; will it actually work? Or will this be the document that buries the whole EU idea once and for all?

“The new Treaty provides little enhancement with respect to the Stability and Growth pact and includes measures that are either too vague or likely to be ineffective.”

Massimiliano Marcellino

Well, according to Professor Massimiliano Marcellino at the European University Institute it will not. “This is surely not the right moment to spend so much time in drafting a new treaty that does little to address the most pressing short-term problems of the euro area,” Professor Marcellino writes in a commentary, adding: “But let’s assume for a moment that the Treaty is approved, and without major modifications.”

It’s a perfectly timed commentary, and raises some of the really fundamental questions around the plans for a new fiscal Treaty amongst the euro zone members.

Here’s the rest of the article, published today at the www.eurointelligence.com:

Why We Don’t Need The New Fiscal Treaty

The first goal in the treaty is to “foster budgetary discipline” and Title III of the draft treaty introduces measures aimed at achieving this target.

The key economic indicators used in Title III are the structural balance of the general government, which is required to be balanced or in surplus, and the ratio of the general government debt to gross domestic product (GDP), which in the long run should not exceed 60%, and if it does it should be reduced by an average rate of one twentieth per year.

The problem of a target in terms of structural balance is that this variable is not observable. It must be constructed by cyclically adjusting the actual balance.

There is no consensus about how to measure the business cycle even among economists,  so it can be expected that member states will have very different opinions about the state of their business cycle and hence about the meaning and measurement of “structural balance”.

In addition, it is not obvious from an economic point of view that growth promoting expenditures, such as investment in education and research, should be included in the computations.

Equally problematic is the debt to GDP ratio, considered by many as the prince of fiscal indicators.

However, it is a strange indicator: in the numerator there is a stock variable, the total amount of government debt, and in the denumerator a flow variable, the gross domestic product in a given period.

The latter is considered as an indicator of the capability of the government to repay its debt. But to reflect fully the financial conditions of a government, it would also have to include a measure of the total government assets.

In addition, the value of 60% for the debt to GDP ratio, inherited by the Stability and Growth pact, does not have any serious economical basis. And there seems to be little awareness that reducing the debt to GDP ratio by one twentieth per year, it would require continuous tightening of fiscal policy with negative effects on GDP growth, which would make this policy ineffective while the economic conditions of the country worsen.

Much more preferable are thus targets defined in terms of actual deficits, ratios of debt not only to GDP but also to assets, and more gradual convergence criteria.

The main concern remains however, namely that the procedures in case of a breach of the rules remain very long and complicated, and that the penalty system is unclear and insufficient to prevent future misbehaviour, in particular in the case of a large country.

The second goal of the new Treaty is “to strengthen the coordination of economic policies“, article 9 states that “… the Contracting Parties undertake to work jointly towards a common economic policy fostering the smooth functioning of the Economic and Monetary Union and economic growth through enhanced convergence and competitiveness”.

To this aim, article 11 clarifies that “With a view to benchmarking best practices and working towards a common economic policy, the Contracting Parties ensure that all major economic policy reforms that they plan to undertake will be discussed ex-ante and, where appropriate, coordinated among themselves.”

Here there is quite a bold statement: to work jointly towards a common economic policy.

Taken literally, this has major implications.

But how can we expect that member states are ready to do this after they so utterly failed in the past?

And does this imply that national parliaments should partly give up their authority?

And what happens in case of disagreement on how to foster growth or convergence?

And what is the actual role of other European institutions such as the European Parliament?

Finally, in terms of governance of the euro area, the Euro Summits are welcome but, according to their description in Title V, they seem to be just discussion fora, and in this sense their value added with respect to other existing fora is not clear-cut.

Massimiliano Marcellino

The new Treaty provides little enhancement with respect to the Stability and Growth pact and includes measures that are either too vague or likely to be ineffective.

It also fails to address the current crisis.

Financial markets are more worried about short and medium term solvency than about the enhanced long-term sustainability and policy coordination.

Without bolder actions to prevent a break-up of the euro area this new Treaty is likely to become redundant.

Massimiliano Marcellino is professor at the European University Institute in Florence.

This article is syndicated by www.eurointelligence.com.

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“Euro Zone Crisis is Germany’s Fault”

Now, this is an interesting point of view: According to Director of the Division on Globalization and Development Strategies at UNCTAD Heiner Flassbeck, the European financial crisis are all Germany‘s fault. Here at econoTwist’s, however, we belive that the responsibility should be shared among several others – like the incompetent EU parliament and the ridiculous artificial institution called the EU Council. But Mr. Flassbeck makes some valid arguments, and it’s certainly a theory worth taking into account.

“Since the end of Bretton Woods, Germany’s economic policy has been based on two main pillars: competition of nations and monetarism. Both are irreconcilable with a monetary union.”

Heiner Flassbeck

“There is no solution to the current euro zone crisis as long as no one effectively challenges the consistency of Germany’s economic policy strategy with the logic of a monetary union. Captain Merkozy’s boat approaches the rocks at high speed,” Heiner Flassbeck writes.

This commentary is syndicated by www.eurointelligence.com:

A German End to the Euro Vision

Once upon a time European leaders believed in a step-by-step approach of European integration.

Each step would bring Europe closer to the target of closely related but still independent states.

According to this vision states would be willing to relinquish more and more of their independence, in order to gain advantages of peace, global strength through political cooperation and economic strength as a result of a big common market.

“Germany is considered by many as the role model for the rest of the union. That is the biggest mistake and the real reason why Europe is committing economic suicide instead of tackling its problem at the root.”

In this approach, the creation of a monetary union was just one of these consecutive and unavoidable steps on the path to strengthen political cooperation and to completethe common market with its indisputable advantages for all European citizens.

Unfortunately, twelve years after the start of the European Monetary Union (EMU) reality tells a different story.

EMU is in troubled water and captain Merkozy is steering the boat towards some dangerous rocks that could mark the end to a long and peaceful ride of a formerly war torn region.

Much has been said about the folly of pushing countries to cut public expenditure, increase taxes and put pressure on wages in the middle of one of the deepest recessions in modern history.

However, even the outspoken critics of the Merkozy approach rarely discuss Germany’s economic policy approach.

To the contrary, Germany is considered by many as the role model for the rest of the union. That is the biggest mistake and the real reason why Europe is committing economic suicide instead of tackling its problem at the root.

“Since the end of Bretton Woods, Germany’s economic policy has been based on two main pillars: competition of nations and monetarism. Both are irreconcilable with a monetary union.”

A monetary union is in essence a union of countries willing to harmonize their rates of inflation and to sacrifice national monetary policies.

A country like Germany, fighting for higher market shares in international markets, tries to achieve the opposite. It has to undercut the cost and price level of its main trading partners by all means.

A monetary union formed by already closely integrated countries becomes a rather closed economy and needs domestic policy instruments like monetary policy to stimulate growth time and again.

German monetarism asks for the opposite, the absence of any discretionary action of central banks and relies solely on flexibility of prices, in particular wages.

Along these lines the story of EMU’s failure is quickly told. From the very beginning of the monetary union, German politicians put enormous pressure on trade unions to help realise an increase of unit labour cost and prices that was less than in other countries.

Since member states no longer could devalue their currencies to maintain competitiveness as they had done hitherto this was a rather easy task. The effects got stronger as small annual effects accumulated over time and, after ten years, created a huge gap in competitiveness in favour of Germany.

“Germany built up huge current account surpluses and Southern Europe and France accumulated the complementary deficits.”

The ECB, in good German monetarist tradition, celebrated the achievement of the two percent inflation target, while ignoring the fact that this was built on two-sided violation of the inflation target.

Without Germany’s undershooting of the target the overshooting in Southern European countries would not have been compatible with two percent overall.

The result is disastrous for the southern European economies as they are losing permanently market shares without being able to successfully retaliate the German attack. They would need a number of years with falling wages to come back into the markets.

However, the time to do that is not available.

Falling wages mean falling domestic demand and recession especially in countries like Italy or Spain with small export shares of some 25% of GDP. The resulting depression would be politically unbearable.

“Even a political tour de force would in vain as long as Germany is blocking the indispensable short and medium term relief measures.”

Until EMU as a whole recovers strongly, deficit countries will remain in current account deficits and will not be able to reduce their budget deficits.

What would be required is direct intervention by the ECB to bring down bond yields as well as Eurobonds to bridge the time until the deficit countries’ competitiveness is restored.

These measures are blocked by the German economic policy doctrine.

There is no solution to the current euro zone crisis as long as no one effectively challenges the consistency of Germany’s economic policy strategy with the logic of a monetary union.

Captain Merkozy’s boat approaches the rocks at high speed.

By Heiner Flassbeck

Director of the Division on Globalization and Development Strategies at UNCTAD.

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