Judging at least by the initial reaction of the markets, the deal eurozone leaders struck over a new Greek bailout on Thursday is a triumph. Stocks have soared and interest rates fallen. After weeks of bickering and indecision, with Armageddon prophecied if nothing was done, there is simple relief that a decision has been taken. As the former deputy governor of the Bank of England, Sir John Gieve, put it: everyone has earned themselves the August holiday. But is it a solution to the euro’s problems, or just a sticking plaster?
The immediate crisis was about Greece. Last year’s bailout of the hugely over-indebted Greek government hadn’t worked. Despite the tough austerity measures the Greek government was imposing upon its increasingly restive public, its debt burden was actually increasing, largely because growth had been choked off.
After last year’s package, the idea was that the Greek government would be able to start funding its deficit on the open markets from next year on, but that started to look hopelessly optimistic. Hence the need for a second bailout. The argument was about who should pay for it.
The German government, worried that once again it would be the German taxpayer who would be asked to cough up the lion’s share, demanded that the private sector – the banks which had made earlier loans to the Greeks – should contribute too, by taking a ‘haircut’. That’s to say, by agreeing not to demand all their money back, or at least not yet. The trouble with that is that it would look like a default, something that would spook the markets and make it worried about whether other, bigger eurozone countries, like Spain and Italy, might follow suit, defaulting on their debts and causing a massive European banking crisis.
What has been agreed, among other things, is that Greece, and the other two countries which have so far needed a bailout, Ireland and Portugal, will have the interest rate charged on their bailout funds lowered and Greece will get a new bailout worth 159bn euros. A third of this will come from the private sector which has ‘agreed’ to rollover 47bn euros worth of existing debt or exchange it for new debt. The ‘haircut’ is estimated to be worth about 20% of their holdings of Greek debt. It amounts to what, in the jargon, is called a ‘selective default’.
Whether all this turns out to be a sufficient breather for Greece remains to be seen. As for the fears of contagion to Spain and Italy, the response of the markets in lowering the rates of interest they require to buy those countries’ long-term government bonds suggests that the fear has gone away for the time being. But one day they, or other eurozone countries, could need help in the way that Greece, Ireland and Portugal already have, and the question is: who will pay for it?
Eurozone leaders had already set up a permanent bailout facility, the European Financial Stability Facility, with 440bn euros at its disposal and this was given extra powers on Thursday. But the big question is whether the private sector would be required to undergo more haircuts, whether Greece’s default sets a precedent?
On Thursday, President Sarkozy went out of his way to insist that the Greek haircut was an exceptional event and that it would never be repeated. The trouble is that, with great respect to the French president, few people will believe him. The eurozone has form with such promises. When the euro was set up in the 1990s, the German public reluctantly agreed to give up the Deutschmark in favour of the euro, but only once they had been promised that there would be no bailouts. That was even enshrined in law in the Lisbon Treaty.
But bailouts are exactly what there have been. Few would bet on this being the last and if Mr Sarkozy is to keep his promise, it will be eurozone taxpayers who will have to foot future bills alone. So it is unsurprising that German voters are angry.
Dealing with the debt problem, however, has never been the only problem facing the eurozone. Just as big a headache, if not a worse one, is the related issue of competitiveness. The difficulty facing Greece and other countries on the periphery of the eurozone, is that they have become uncompetitive in relation to the successful economies of the eurozone, notably Germany, with whom they do most of their trade. The Germans, with great self-discipline, have cut their costs. The Greeks, and others, have failed to follow suit.
In the old days before the euro, when the Germans had their Deutschmark and the Greeks their drachma, the solution to this problem would have been simple. The Greeks would have devalued the drachma against the Deutschmark. The result would have been that Greece would have sold more olive oil in Germany and more Germans would have flooded on to the Greek islands in summer because holidays there would have become cheaper. Similarly Greek manufacturers of washing machines would have sold more of them in Greece because German machines would have gone up in price.
This can’t happen within the euro because the two countries share a currency. To become competitive with Germany, Greece will have to slash its wage and other costs, imposing additional hardship on a population already having to face big cuts in public spending and substantial tax increases. Few people think this is viable on the scale needed.
So what’s the way out? The simple answer is that in a single currency, the strong have to help the weak. In other words, just as rich London and the economically strong south east of England subsidise other parts of the United Kingdom where the economy is less strong and unemployment higher, so that’s what’s got to happen in the eurozone. In return for imposing economic disciplines on economically less successful parts of the eurozone, like Greece, the powerful economies, like Germany, will have to put their hands in their pockets and permanently subsidise their weaker partners. In economic jargon, there needs to be fiscal as well as monetary integration within the eurozone. In ordinary-speak, the eurozone needs not just a single currency but also to become more like a single country.
Oddly enough, this is exactly what Britain’s chancellor of the exchequer, George Osborne, is advocating. He told the Financial Times on Thursday, that the idea of single eurozone bonds was 'worthy of serious consideration' and that 'greater eurozone integration is necessary'.
This may seem odd in that Mr Osborne, and the Tory leadership in general, has long opposed European integration, arguing for a union of nation states and against a United States of Europe. Mr Osborne’s point, though, is that the greater integration he’s talking about is 'the remorseless logic' not of the EU itself but of the single currency: the eurozone simply can’t survive in the long-term without it. He would then be quick to add that he remains adamantly opposed to Britain joining the euro: the greater integration is necessary for the eurozone, not for the EU itself. The alternative, after all, is the breakup of the eurozone which would be damaging for Britain.
But that raises a further big question. If the eurozone finds itself forced by its own internal logic to move towards greater and greater economic and political integration (which is exactly what its founders anticipated), then the eurozone, which embraces most EU member states, will increasingly come to be equated with the EU itself. It certainly will by the big boys in it, Germany and France. The question will then arise: what sort of relationship should Britain have with the newly integrated eurozone/EU?
It’s a question already being asked by Tory eurosceptics who want the government to exploit the coming developments to renegotiate Britain’s relationship with our European partners. Others see it as an opportunity for Britain to leave the EU altogether. But equally, others will fear that Britain could become isolated and lose influence outside an integrated eurozone/EU, and they will urge that Britain needs to go along with the greater integration, even to the point of thinking again about whether we should join the euro.
In other words, all the old issues about Europe are set to re-emerge in the coming months and years.
What’s your view?
- Do you think the new bailout deal for Greece will work or not?
- Was it right that the private sector should be asked to take a haircut?
- Do you believe President Sarkozy when he says, in effect, that default won’t be allowed to happen again?
- How do you think Greece should deal with its competitiveness problems?
- Do you think the logic of greater economic and political integration in the eurozone is 'remorseless' or not?
- Should Britain worry if the eurozone turns into something more resembling a single country?
- Should we encourage it?
- And should we be ready to think again about joining the euro?