Tuesday, May 25, 2010

The European Crisis Is the Latest Over Political Unification

The reports from Europe that the Greek debt crisis may bring down the Euro and/or the European Union (EU) must seem bizarre to most people. How did this one little country at the edge of Europe, storied ancient history notwithstanding, become so important? The short story line is that Greece can’t pay its debts, or at least that Greece has to pay higher rates to finance its growing sovereign debt, but this leaves open the question of how this threatens the European Union and the Euro. In fact, it does not…or at least it need not. But ancient and historical forces are at work to transform a Greek tragedy (sorry, I just couldn’t resist!) into a European crisis that either will propel Europe into a federalist direction or break it apart.

First, we need some recent history. Greece joined the European Union (EU) in 1981 and then the European Monetary Union (EMU), whose European Central Bank (ECB) issues the Euro, in 2001. As a member of the European Monetary Union, Greece abolished its central bank and exchanged drachmas, the national currency, for Euros. The Euro now enjoys legal tender status within Greece, meaning that only transactions denominated in Euros are legally enforceable. Greece qualified for joining the EMU by supposedly proving to the rest of the EMU members that its annual budget deficit would not go above three percent (3%) of GDP and that its total sovereign debt outstanding would not go above sixty percent (60%) of GDP. But now Greek debt is well above these numbers and climbing. When Greece had a central bank of its own, it could have solved its problem, in the short run anyway, by printing drachmas. But Greece does not have a central bank, so it must pay penalty rates to borrow Euros. It might even default. The Greek government has cut back spending somewhat and raised taxes somewhat, but these moves have angered the Greek people, who have rioted in the streets.

So far so bad for Greece but what has this got to do with the EU and the Euro, you might ask. Nothing, for there is no requirement in the various EU treaties that compels member EU countries to buy one another’s debt or that would compel the EU to eject Greece from its membership or force it to give up the Euro. Nevertheless, from the very beginning a powerful and vocal group within the EU has been calling for a bailout. Last week they succeeded in getting EU members and the International Monetary Fund (IMF) to pledge the Euro equivalent of one trillion dollars to bail out Greece and any other EU members who get into financial trouble, and there are several waiting in the wings. Why did this not make the crisis go away?

World War Two and the EU

Now we get to the crux of the latest crisis. For centuries the many European nations have been at war with one another. Empires have been ebbing and flowing across Europe for centuries, all the way back to the ancient Roman Empire, the Medieval Holy Roman Empire, then the Swedes, the French, even the Muslims, and in the 20th Century the Germans and the Russians. All wanted to unite Europe under a single government, some for religious reasons and some for reasons of naked power. At the end of World War Two there was universal agreement among the victorious allies, excluding the Soviet Union, and the new leaders of the defeated Axis powers that a permanent solution had to be found to prevent a future European war. France and Germany had fought three wars within a period of eighty years, each becoming more destructive and more vicious than the previous one. All could agree that it was important to unite Europe economically. The trade wars of the 1930s had destroyed international good will in addition to destroying production. The maxim that “when goods fail to cross borders armies will” was generally accepted by all. Not only was this sound economic advice for friends, it was even more important for enemies. Robert Schuman, considered to be the founder of the EU movement, stated that making France and Germany economically interdependent not only would make a future Franco-German war less desirable but it would make war an impossibility. In an age when coal and steel were essential for military might, it was recognized that Germany made the best steel and that France had the largest coal industry. French coal mines should feed German mills. Neither would desire to wage war or be able to wage war against the other without destroying the economic basis for being able to do so. Thus was born the European Coal and Steel Community (ECSC) in 1952.

Over the decades this initially modest economic integration of the coal and steel industries of six nations—France, Germany, Italy, Luxembourg, Belgium, and the Netherlands—was expanded into 27 members with free trade and free mobility of labor within their union. This major achievement does seem to have ended any hint of war among its members, which today includes almost all of Europe outside Russia. The crowing achievement of this movement was the establishment of a common currency, the Euro, and now most of the EU members are also either using the Euro, in the pipeline for doing so, or, as is the case with the U.K., have not ruled out completely the possibility of future monetary integration.

Europe today should be tranquil and prosperous. Its leaders should be finishing up the final details of its grand economic integration. Europe should be a peaceful continent, funneling its energies into competing economically with the most advanced nations of the world. Yet it is about to be pulled apart by another vision that has run in parallel with its economic integration, namely the vision of a politically united Europe. It is this vision that is threatening to tear apart all the good works of the economic integrationists.

Euro Federalists Co-op the EU Ideal

As successful as have been the economic integrationists, the political integrationists (or Euro federalists, on the America model) have been failures. The first failure was the French veto of a common European Defense Community (EDC) in 1954. Then Charles de Gaulle, a staunch French nationalist, pulled France out of Euratom, the European Atomic Agency, when he returned to power in 1958. Even today, long after the French nationalists (as opposed to Euro federalists) have exited the scene, the EU does not command any military forces of its own. One reason could be that most EU nations are also members of American-led NATO, and there is little real call in Europe to break up one of the most successful military alliances in history.

The most controversial proposal of the Euro federalists is to field an EU foreign minister that would be recognized as speaking for all of Europe. But this seems to be going nowhere. Amazingly there is even a question of who is the EU head of state. When President Barack Obama attempted to “call on Europe”, he eventually cancelled his visit when the EU could not tell him upon whom he should call. Nevertheless, there is a large bloc of Euro politicians who fervently desire to extend their power over matters that were previously strictly national.

Euro Federalism Vs Economic Liberalism

Whereas reducing internal trade barriers and allowing the free mobility of labor within the EU are truly liberating of capital and labor, the Euro federalists have sought to impose uniform economic and social policies. At first blush this sounds innocuous enough, but the purpose is to stifle economic competition so that EU bureaucrats can micro-manage the entire economy. The most egregious example is that of agriculture. Fully three-fourths of the EU budget goes to agricultural subsidies. I witnessed the result of these subsidies first hand last year in Strasbourg, France, one of the two (!) impressive headquarters of the EU. Farmers paraded through the streets, pulling large wagons with rather professional-looking displays, and even herding a few cows along with them. Later French television explained that the farmers were seeking increased subsidies from the EU Parliament. It seems that the previous increase in subsidies did not stop the free fall in the market price of farm products. So the farmers “needed” higher subsidies in order to survive. I regret to say that they found sympathetic sponsors. Of course, any economist could explain that subsidies lead to over-production, which leads to falling market prices, which leads to calls for more subsidies. Europe literally is eating its capital!

The Euro federalists are also campaigning to equalize taxes across the EU…at a high level, of course. Likewise with myriad regulations on just about every aspect of economic life imaginable, from the size of bananas that may be sold in stores (I kid you not!) to the number of paid holidays workers are guaranteed. When these interventions cause entirely foreseeable ‘unforeseen’ and adverse consequences, the root cause of the problem is never addressed; instead the Euro federalists see any problem as an opportunity to tax, regulate, and increase their own power. In effect, the Euro federalists are creating a corporate state along the lines of Mussolini’s Italy, with high tariffs to keep competing goods out and high welfare payments to salve the sting of high unemployment that is a source of dangerous unrest.

Now back to Greece. The small political entities are always the first to feel the adverse consequences of bad policy, for their opportunities to shift costs are limited. Greece is suffering from the combined poison of its own welfare state and added costs imposed by the European Union. As I stated at the top of this essay, Greece cannot inflate its way out of this crisis, because it does not have the ability force its captive central bank to monetize its debt. Its situation is similar to that of an American state like California. But the reader should see now that the problem is a bloated welfare state and EU policies that make things even worse.

Were Economic Integration and the EU Necessary?

In hindsight an outside observer of the Austrian school can say that Europe did not need integration of its economies as much as it needed to free its economies. It does not matter whether Germany gets its coal from France or some other country, such as Great Britain or America. France could buy its steel from Germany, Italy, or any number of countries, depending upon the best combination of price and quality. Competition among the independent European nations would illustrate that the freest economies were also the most prosperous, so that interventionist tendencies would be punished in the marketplace and could not be forced upon unwilling, captive citizens by an EU superstate. The Euro itself was not really necessary. After World War II there were many economists and finance ministers with memories of the gold standard, the only truly successful international currency that has ever existed in the history of the world. The Bretton Woods meeting of 1944 could have resulted in an agreement to reinstate the gold standard, reduce trade barriers, and free labor markets. Instead it established an untried monetary regime of fixed exchange rates that allowed one nation, the U.S., to inflate its currency until the regime collapsed with the world holding unredeemable dollars. Since the U.S. went off the gold standard in 1971, all the world’s nations have inflated their national currencies in order to monetize government spending sprees. Either through drastic collapse or through fundamental and substantial reform, the Era of Irresponsibility is drawing to a close.

Since no European government seems courageous enough to live within its means, the prospect for the Euro and the EU are dim indeed. Germans and Frenchmen are not interested in lending money to Greeks who have no intention of paying it back. (The Germans must be the most incensed over the matter. Germany was forced to join the EMU as a condition of reunifying the country. As one of the four occupying powers, France threatened to veto German reunification unless it gave up the vaunted deutschmark. France viewed joining the EMU as the ultimate integration of Germany into a united Europe.) The fabled trillion-dollar rescue fund will guarantee that the purchasing power of the Euro will fall. The European Central Bank will be forced to print the money that it lends--via the backdoor, of course—to Greece and other EU nations on the verge of bankruptcy.

None of this needs to happen. European countries could admit that they are broke and that their welfare systems are to blame. They could scrap their welfare systems, liberate their economies, reduce taxes, and open the EU borders to the world market. The result would be an economic boom that would restore Europe’s place in the world and make the current crisis nothing but a bad dream. It can be done, but the will must be there to do it.


  1. The problem with your proposed solution being, of course, that all of the elected officials both national legislators and MEPs were elected on the basis of promises that the castle in the air would be inhabited by their constituents. There are few things more threatening to a career legislator (or any career politician, for that matter) than having to admit the disappointing truth to those who elected him or her.

    It reminds one of the adage that it is "the neurotic who builds a castle in the air, a psychotic who goes to live in it, and the psychiatrist who collects the rent." The unwillingness of the voting public to understand economics may just classify as a form of collective neurosis of the electorate in the modern world.

  2. It seems fairly certain at this point that Europe has no intention of becoming a free market system no matter how bad things get. There will always be some "capitalists" either in the EU or in the US to blame for their economic woes and most people will believe it and vote for even more regulation and government interference to protect them from their own choices.

    Also, I thought one of the stated, or perhaps unstated goals of the Euro was to replace the U.S. as the world's reserve currency so that Europe could get the free ride that the U.S. since the 1970s, namely inflating its currency without as much damage to the value. The goal being that the EU could continue living the lifestyle to which it has become accustomed and inflate away for another generation. Hence the need for financial discipline now.

  3. Few realize, as does the author of the previous comment, that the U.S. has confiscated the wealth of other nations by the general acceptance of the dollar as a reserve currrency. By holding our dollars, the U.S. has been able to print money that is never redeemed. It is as if I could write checks for goods with the confidence that the checks would never be cashed. (I doubt that I would diplay much discipline.) Well, never say never...