Published in The Tennessean, May 23, 2010
Political influence threatens the euro’s foundation
by Richard J. Grant
The currency that we now call the “euro” came into existence just over 11 years ago through the unification of the currencies of most European Union member states. The move to the single currency reduced the costs of trade and currency exchange, and eliminated exchange-rate risk from many investments and transactions.
From this perspective, the creation of the euro was a good idea and the currency is not under any threat from purely economic causes. The problem with any modern currency is its political foundations and the constant threat of political influence on its management and value.
The current weakness of the euro, compared to other major currencies, is generally attributed to the credit crisis facing EU member-state, Greece. But the Greek debt problems are not, and cannot be, a direct cause of euro currency weakness. The European Central Bank could easily maintain the value of the euro against what would normally be a localized economic problem. The currency weakness is a reflection of worries about the political forces influencing the actions of the ECB.
The founding treaties of the EU prohibit the European Central Bank from buying the sovereign debt, or lending directly to the national treasury, of any member state. But that is exactly what the ECB is being pressed to do through its involvement in the bailout of the Greek treasury and its creditors. The issue is bigger than pedestrian politics: the ECB is being pressed to break (or reinterpret) rules that are EU constitutional provisions.
A strict interpretation and enforcement of the treaties that created the EU would treat the Greek debt problems as a local issue to be dealt with by the Greek government and its creditors. These are the parties that would, if Greece were to default, have to bear the burden and readjust their future plans and actions accordingly. They might even learn something of practical moral value. Importantly, the effects of the default would be reasonably contained and diffused.
Similar to the restrictions on the ECB, the treaties that created the EU explicitly forbid the EU or any of its member states to “be liable for or assume the commitments of” any other member state. But the EU is now clearly breaching that provision by taking on the Greek bailout.
This is the real source of any contagion effects that we now witness. The political subverts the economic. Contagion originates and then follows the path of least resistance through states where the politicians have been the least prudent.
A currency's value is in danger whenever a central bank yields to the demands of those offering inflationist solutions. A nation's treasury is weak whenever the politicians spend more than its citizens are willing to provide, or tax more than its citizens are willing to bear.
Some economists suggest that Greece would be better off if it still had its own national currency so that it could inflate its way out of its debt and other troubles. But it was precisely to remove such a temptation that the ECB was proscribed from monetizing the debt (buying bonds by issuing new money) of member states. Now that the EU has been infected by such temptation, the euro will be inflated to buy such debt.
The ECB's sole clear purpose is to maintain price stability in the euro area. With its participation in the Greek bailout, the ECB's single objective will be compromised, even though it will attempt to "sterilize" its monetization by drawing some other euros out of normal circulation.
What started as a Greek problem is now an EU and IMF problem. More specifically, it is a problem of EU taxpayers, taxpayers in the major IMF countries, and all those who would be harmed by the weakening of the euro as a currency. The EU has failed to avoid the illusory easy way out. The contagion is not economic, but political – and ultimately moral.
Richard J. Grant is a professor of finance and economics atLipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail:firstname.lastname@example.org
Copyright © Richard J Grant 2007-2010