Thursday, June 2, 2011

Greece, the Euro, and the Logic of Engrenage

As many have remarked, the Greek crisis could end in trouble for the euro and the European Union, generally. Germany is naturally reluctant to bail out a country considered to be fiscally irresponsible, but, if they and other European countries do not do enough to contain the Greek crisis, the result could end up in harming not only Greece but the rest of Europe as well. The U.S. is not immune.

I do not have any particular novel observations on how to solve the Greek crisis. But it does bring to mind a metaphor about the European unification project I first learned about during my undergraduate days. The metaphor had to do with small gears turning larger gears. This was the theory of "engrenage," which is associated with one of the early proponents of European unification, the Frenchman Jean Monnet. The idea was that European unity would start with relatively small steps, such as the European Coal and Steel Community, and that this would necessitate more coordination on other matters, eventually leading to more unification measures such as the establishment of the European Common Market.

To a large extent, this has worked. But there has always been the concern that, if the unification project moved too fast, the big gears might lock or reverse direction and the small gears would break. That is the danger Greece poses to the European Union ("EU").

Two decisions Europeans have made are critical – broadening the EU and establishing a common currency. One recalls that, in the early period of the European unification project, French President Charles de Gaulle blocked the United Kingdom from joining the original six members of the European Economic Community. The U.K., of course, is now a member of the EU, and the EU has vastly expanded to include 27 countries. There had been a debate about whether Europe should concentrate on "deepening" its unification or in broadening its membership. It has clearly been decided that broadening was a worthwhile goal.

However, with the decision to introduce a common currency for members that met certain criteria (which in some cases, such as Greece, appear to have been fudged), there has also been an effort at deepening. And here is the place that the logic of engrenage poses dangers. As has now become clear, monetary union is putting increased pressure to come up with a common fiscal policy. That is a difficult step, especially for a Europe with countries facing varied economic conditions and with different cultures. The big gears may slow down or grind to a halt, and the smaller ones may struggle under the strain.

I think the U.K. was right to stay out of the eurozone. As convenient as it is for much of Europe to have a common currency, the problems are now evident. To use a different metaphor, as Europe moved to introducing the euro, I thought that this was putting the cart before the horse. I was, though, both impressed and surprised with the progress the Europeans made and the initially successful replacement of national currencies with the euro.

The reason for my skepticism is that the eurozone does not appear to be an optimum currency area. For one thing, language and cultural barriers greatly impede the geographical mobility of labor. And, as mentioned, the different countries have different fiscal policies. (The different states of the U.S. also have different spending and tax policies, but the federal government does the majority of spending and taxing. Also, while there are certainly cultural differences among different regions of the U.S., they are nowhere near as great as in Europe, and there is a common language.)

While many now think that the euro was introduced in too many countries, it is now a fact. The worldwide economic downturn has revealed problems, and policymakers in Europe, the IMF, and, to an extent, the United States face difficult choices as they attempt to contain the Greek crisis. It is not merely a technical economic problem but also a political problem, both domestically in various countries, and, internationally, among countries. If it is not contained, the dangers to the global economy, including the U.S., are very real.

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