The European project now appears to be defined by the euro which represents probably the biggest single risk to global financial stability in the world today.
Throughout history, alchemists have tried to turn base metals into gold. Unsurprisingly, they always failed. Today, something similar is being tried across the European Union — it is called the Euro.
This is not, however, an experiment whose failures would be insignificant. The Euro represents probably the biggest single risk to global financial stability in the world today. Its problems go back to its very creation. There were two intellectually defensible models for the euro.
The first was to say that it was such an important element of European “ever closer union” that everything possible had to be done to make it succeed. Some saw this as analogous to the American experience after the civil war.
With the abolition of the Confederate currency, the states’ debts were consolidated into the federal debt for the first time and free fiscal transfers were enabled between the federal and state governments if required.
The second model was a purely economic one. Currency union was to be available to those economically similar nations which could meet strict criteria for entry and maintain sufficient fiscal discipline to be allowed a say in the central bank.
In the end, neither model was followed; instead an unstable and unworkable hybrid emerged. Not only were countries who failed to meet the convergence criteria allowed to join anyway, but a lack of fiscal discipline meant that many countries broke through the barriers that were supposed to keep the currency on the rails.
Little wonder that some states operated in the belief that, whatever they did, a financial solution would be found for them from outside.
The Euro project needs to be de-risked before it causes more damage. The recent experience in Greece, with the election of a government that believes it can defy economic gravity, will be repeated elsewhere unless action is taken.
How can it be done? It seems to me that there are four potential mechanisms.