The Malta Independent
Let me put it this way. Our joining the Exchange Rate Mechanism (ERM II) of the Euro on May 2nd, 2005 has not brought any luck to the common currency. The month of May and the first week of June have proved very turbulent not only for the foreign exchange value of the Euro, but particularly for concerns being raised about the sustainability of the single currency project.
A subject which was hitherto taboo and which no one was allowed to discuss not even informally, is now being deeply analysed all over the financial and political media around the world.
It culminated this week with suggestions coming from an Italian Minister that Italy should consider holding a referendum on the issue of restoring the Lira as the national currency, in order to get off the grip of the Stability and Growth Pact underpinning the single currency, which demands painful adjustment that Italian politicians seem incapable of delivering.
Just as we set to join the Euro others are openly discussing leaving it, whereas economists are openly expressing serious concern on its sustainability even if no country would dare to exit the system.` The question whether the euro is forever is a hot topic of debate in the economic press.
This is hardly surprising given the events we had these last couple of weeks. Monetary union depends for its success on a commitment for a political union. History shows that monetary unions that were not under-pinned by a political union proved short-lived.` The Latin Monetary Union involving Italy, France, Belgium, Switzerland and Greece collapsed in 1920 after 60 years because of lack of fiscal discipline amongst its members. A Scandinavian monetary union in 1873 proved short-lived as political circumstances pulled countries apart rather than closer together.
The` German Central Bank used to argue in the 1980`s that monetary union was to be the end result of a political union.` Eventually this view changed and the Germans accepted that monetary union could be a catalyst to bring about a political union. The official view is that monetary union can survive and function well without a political union if three conditions prevail: fiscal discipline, central bank independence and a high degree of product and labour market flexibility.
Two of these three basic conditions are currently unobtainable and the one which seems to prevail, at least nominally, i.e. the independence of the central banks, has been undermined by dilution at the political level of the Stability and Growth Pact following German and French inability to abide by its old version. Furthermore the independence of central banks can only be effective if set in context of a shared identity embedded in common political institutions.
The rejection of the Constitution Treaty in France and Netherlands signifies that this shared identity is missing and that` individual members countries seem more obsessed with defensive protection of their past gains rather than in sharing the EU-wide objective of seeking structural adjustments to make the Euro economy more competitive in terms of the Lisbon agenda.
Fiscal discipline seems to be becoming the exception rather than the rule and seven out of twelve euro countries are likely to breach he Maastricht fiscal criteria during fiscal year 2005. Product and market flexibility is being rolled back rather than pushed forward as the service directive continues to be resisted even though services account a large and ever increasing part of the Euro economies.
So doubts on the sustainability of the Euro project in its present form have solid foundations in history as well as in economics. But contrary to what many may think it is not the weak countries that may decide to leave the Union. It would be far too painful and expensive for Italy to actually exit the system given its high level of debt and the high interest premium they would have to pay international investors to maintain their appetite for non-euro Italian sovereign debt.
Italy would never leave the Euro by way of a free decision. But unless they reform they could be forced out by circumstances. Between 1999 and 2004 Italian labour costs rose 1.3% per annum more than the EU average. Their loss of competitiveness is evident and aggravating. The past option of restoring competitiveness through rate of exchange adjustments is not available anymore and yet the country`s employers and trade unions behave as if nothing has changed.
Unless they reform urgently Italy could be forced out of the Euro by a deep crisis as stronger members threaten to leave the Union as they become increasingly unwilling to expose their economies to Italian style inflation. The pressure to leave will come from the strong members not from the weak members.
These events are a timely eye-opener for us as to how dangerous it is to attempt to join a monetary union at an uncompetitive rate and without first conducting the structural adjustment necessary to render our economy globally competitive before locking into a single currency with other stronger countries. This lesson can only go unheeded at our own peril.
Let me put it this way. Our joining the Exchange Rate Mechanism (ERM II) of the Euro on May 2nd, 2005 has not brought any luck to the common currency. The month of May and the first week of June have proved very turbulent not only for the foreign exchange value of the Euro, but particularly for concerns being raised about the sustainability of the single currency project.
A subject which was hitherto taboo and which no one was allowed to discuss not even informally, is now being deeply analysed all over the financial and political media around the world.
It culminated this week with suggestions coming from an Italian Minister that Italy should consider holding a referendum on the issue of restoring the Lira as the national currency, in order to get off the grip of the Stability and Growth Pact underpinning the single currency, which demands painful adjustment that Italian politicians seem incapable of delivering.
Just as we set to join the Euro others are openly discussing leaving it, whereas economists are openly expressing serious concern on its sustainability even if no country would dare to exit the system.` The question whether the euro is forever is a hot topic of debate in the economic press.
This is hardly surprising given the events we had these last couple of weeks. Monetary union depends for its success on a commitment for a political union. History shows that monetary unions that were not under-pinned by a political union proved short-lived.` The Latin Monetary Union involving Italy, France, Belgium, Switzerland and Greece collapsed in 1920 after 60 years because of lack of fiscal discipline amongst its members. A Scandinavian monetary union in 1873 proved short-lived as political circumstances pulled countries apart rather than closer together.
The` German Central Bank used to argue in the 1980`s that monetary union was to be the end result of a political union.` Eventually this view changed and the Germans accepted that monetary union could be a catalyst to bring about a political union. The official view is that monetary union can survive and function well without a political union if three conditions prevail: fiscal discipline, central bank independence and a high degree of product and labour market flexibility.
Two of these three basic conditions are currently unobtainable and the one which seems to prevail, at least nominally, i.e. the independence of the central banks, has been undermined by dilution at the political level of the Stability and Growth Pact following German and French inability to abide by its old version. Furthermore the independence of central banks can only be effective if set in context of a shared identity embedded in common political institutions.
The rejection of the Constitution Treaty in France and Netherlands signifies that this shared identity is missing and that` individual members countries seem more obsessed with defensive protection of their past gains rather than in sharing the EU-wide objective of seeking structural adjustments to make the Euro economy more competitive in terms of the Lisbon agenda.
Fiscal discipline seems to be becoming the exception rather than the rule and seven out of twelve euro countries are likely to breach he Maastricht fiscal criteria during fiscal year 2005. Product and market flexibility is being rolled back rather than pushed forward as the service directive continues to be resisted even though services account a large and ever increasing part of the Euro economies.
So doubts on the sustainability of the Euro project in its present form have solid foundations in history as well as in economics. But contrary to what many may think it is not the weak countries that may decide to leave the Union. It would be far too painful and expensive for Italy to actually exit the system given its high level of debt and the high interest premium they would have to pay international investors to maintain their appetite for non-euro Italian sovereign debt.
Italy would never leave the Euro by way of a free decision. But unless they reform they could be forced out by circumstances. Between 1999 and 2004 Italian labour costs rose 1.3% per annum more than the EU average. Their loss of competitiveness is evident and aggravating. The past option of restoring competitiveness through rate of exchange adjustments is not available anymore and yet the country`s employers and trade unions behave as if nothing has changed.
Unless they reform urgently Italy could be forced out of the Euro by a deep crisis as stronger members threaten to leave the Union as they become increasingly unwilling to expose their economies to Italian style inflation. The pressure to leave will come from the strong members not from the weak members.
These events are a timely eye-opener for us as to how dangerous it is to attempt to join a monetary union at an uncompetitive rate and without first conducting the structural adjustment necessary to render our economy globally competitive before locking into a single currency with other stronger countries. This lesson can only go unheeded at our own peril.
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