Anything to save the euro?

by Jacques Sapir

M. Mario Draghi, President of of the European central Bank, has declared himself "ready to anything" to save the euro. But does the ECB really have the means to save the euro?

I. The consequences of a direct action by the ECB

Let's suppose that the BCE could throw its status to the winds, or devise legal compromises which would allow it to massively buy up the sovereign debt of countries in difficulty; would this be a solution to the crisis of the eurozone? Let's have a closer look at the amounts which the ECB would have to shell out.

In the case of Spain, the needs would amount to 300 billion euros by the end of this year. But clearly, what would be done for Spain could not be refused to others. Greece would show up at the teller for an amount to be estimated at 60-80 billions. Italy too would be a potential "customer" with its own needs estimated at between 500 and 700 billion (depending on the date the operation). This amounts therefore to a sum of 860 to 1,080 billions of debt which the ECB would have to buy up in the fairly short term (less than 6 months).

These amounts represent between 3 and 4 times the amount (211 billions) of the buy-up of public debt already undertaken by the ECB since the beginning of the crisis in 2010.

The consequences for the balance sheet of the ECB would be sizeable.

Between 1,071 billions (860+211 already on the balance sheet) and 1,291 billions (1,080 + 211 already on the balance sheet) of public debt titles. Between one third and one half of these titles will never be paid back, neither within a "wild" nor within an orderly default. The ECB would either have to admit that it is engaging into monetary creation ex nihilo, or it would have to ask the governments of the zone for a recapitalisation included between 330 and 650 billions.

The problem with monetary creation ex nihilo lies with the compatibility of the functioning of the ECB with the German Constitution. The latter forbids the ECB to proceed to this type of monetary creation. One would therefore either have to modify the German Constitution (which would be politically problematic and encur the risk of failure), or submit to the necessity of recapitalization.

However, such an intervention would in no way solve the euro crisis. This crisis is not in reality a crisis of the sovereign debt. The liquidity crisis manifesting itself today is in fact the result of a crisis in competitivity. The latter is related to the heterogeneity of economic and demographic structures of the countries of the zone, which is exacerbated day by day by the functioning of the single currency. It is this competitivity crisis which triggers the worries which in turn cause interest rates to go up and provoke the crisis of liquidity. The competitivity crisis being fated to endure, it would inevitably trigger a reemergence of the crisis of liquity. As a matter of fact, since the ECB proceeded to the first buy-ups of debt on the secondary market in May 2010, not one of the countries which benefited from this operation has had a come-back on the financial markets. The politics of the ECB illustrate therefore a major diagnostic error.

Because it is presented as a debt crisis, political action concentrates on the restauration of a balanced economy. But the politics thus put into action aggravate the situation by plunging the states into recession, if not depression. Which reduce tax revenues, thus incrasing the deficit and the debt. Moreover, these policies considerably increase unemployment.

But if one is willing to attack the competitivity crisis at the roots, one must measure what this entails in matters of transfer costs for the countries invovled.

II. The crisis will bring about either the break-up of the euro, or the break-up of Europe.

It becomes apparent therefore that the ECB does not have it in its power to resolve the crisis of the euro, and even concerted actions with those the membre states do not offer much of an alternative.

Politics of reducing costs of salaries have alreayd been tried in some eurozone states (Greece, Ireland, Portugal, Spain, Italy) with catastrophic consequences, creating a violent contraction of domestic demand, which provokes not only a strong increase in unenployment but, on top of it, a reduction in productivity. The latter then calls for new measures of adjustment, the effects of which on unemployment cumulate with those of the previous ones.

Within two years, we must therefore expect unemployment rates of 52% of the active population in Greece, 35% in Portugal, 32 % in Spain and between 22% and 25% in France and in Italy. These levels of unemployment are the same as those of the "Great Depression" of the 1930s.

Another solution, coherent with the single currency, would be to intitute transfer flows from "excedent" countries to the deficit countries. But these amounts would be absolutely enormous. They can be estimated at 10.8% of GDP in the case of Spain, to 13.1% of GDP for Italy, to 12.3% of GDP for Portugal and 6.1% of GDP for Greece. Such a policy would end up costing Germany between 8% to and 13% of its (2012) GDP in budget transfers towards the 4 countries in difficulty.

Such measures would break the back of the German economy, whereas a dissolution of the euro, accompanied by devaluation in different countries, would only cost Germany between 2% and 2.5% of GDP. It is no wonder therefore that an absolute majority of Germans pronounce themselves today hostile to the euro (51% against, 29% in favor). Political opposition to transfers is therefore set to harden in Germany in the coming weeks.

If we persist with the current policy, the euro zone, and Europe with it, will enter into a recession, followed by a depression of long duration. The comparison with the crisis of the 1930s, the "Great Depression," cannot be eschewed. The political and economic weight of Europe will be considerably reduced and our continent will become "the sick man of the world." Countries will leave the euro, one after the other. Greece will probably be the first. It will be followed by Portugal and Spain. One after the other, all the measures constitutive of the European Union will be called into question.

To the contrary, should a coordinated plan of dissolution of the euro be adopted, it would become a European founding act. While making it possible for the countries concerned to realize necessary adjustments by the means of devaluation at a much smaller cost to them in terms of unemployment, it would allow to save the essential of the European Union. In the midterm, such a policy would offer the perspective to rebuild onto more supple bases a new form of monetary integration.

The policies defended by Mario Draghi, locking up the eurozone in its crisis, carries in itself the thread of a break-up of the European Union. In exchange for a few months or a few years gained, we would find ourselves confronted to a crisis much worse than the one we know today.

Several economists, among them two Nobel Prize winners, Joseph Stiglitz and Paul Krugman, have stated that pursuing this policy seeking to save the euro was criminal.
A dissolution of the eurozone between now and the end of 2012 is the only solution available today which would allow us to avoid disaster.

(translated from the French by Anne-Marie de Grazia, August 18, 2012)