WHY DEBT RESCUES WILL BOOST THE SCENARIO OF A CLOSER UNION / THE FINANCIAL TIMES COMMENTARY & ANALYSIS ( VERY HIGHLY RECOMMENDED READING )

Why debt rescues will boost the scenario of a closer union

By Wolfgang Münchau

Published: June 12 2011 23:20


Last week, I promised to give further details for my end-game scenario for the eurozone crisis. My premise was that the eurozone will eventually agree another Greek loan this summer. Despite an incredible amount of noise, I still expect the European Union member states to reach a deal. They usually do.


Once they agree a debt rollover for Greece, second loan packages for Ireland and Portugal will surely follow. I argued why this would favour a closer political union in the long run – with a European treasury secretary, a centralised banking resolution policy and a eurozone bond.


So how should this be done? Let me say first how it should not be done.


In March, the European Council agreed a European stability mechanism, a permanent anti-crisis fund. The ESM is based on an inter-governmental treaty among the member states of the eurozone. In the parlance of Brussels, they went “outside the treaty”. This means that the ESM does not fall under EU law. Governments often prefer this. It is less bureaucratic and legalistic, and it secures their power.


But integration projects subject to inter-governmental co-ordination have a history of failure. Remember the Lisbon agenda and its goal to the turn the EU into the world’s most competitive economy? Whenever they go outside the treaty, they do not go anywhere.


The changes I propose are all “within the treaty” because they interact with existing institutions and processes. For example, my plan for a eurozone treasury secretary would be to merge the jobs of Olli Rehn, the European economics commissioner, with that of Jean-Claude Juncker, the president of the eurozone group of finance ministers. Such a merger has a precedent when the EU created the high representative for foreign affairs and security policy in the Lisbon treaty. A centralisation of bank resolution policies, and a eurozone bond would also require treaty change.


The good news is that the Lisbon treaty makes this relatively easy, procedurally. For the eurozone, the legal basis would be article 136 of the Treaty on the Functioning of the European Union. It allows members of the monetary union to establish eurozone-specific institutions to improve the co-ordination of their policies while remaining under the legal umbrella of the EU. Only the member states of the eurozone themselves would take part in the vote, and they can do so by a qualified majority.


The miniature fiscal union I describe does not rid a member state of its economic sovereignty, but it will involve some loss of political control. You cannot have total control and total co-ordination at the same time. Dani Rodrik*, the political economist, describes this problem in his “impossibility theorem”: there is an inescapable trilemma between absolute control by the national state, deep cross-border economic integration and full democratic control. You have to choose, or compromise.


If the EU were to choose a small fiscal union, would electorates accept? If you posed the question today, the answer would almost certainly be no.


But nobody is asking the question today. If we go down the route of permanent debt rollover, we will sooner or later arrive at a point where the periphery countries default – under my scenario. At that point, the creditor countries have to transfer billions of euros to the periphery. When that happens, I expect the pressure for greater centralisation to come from the creditor countries.


They will want to ensure that the eurozone is not going to turn into a permanent transfer union. The lukewarm inter-governmental agreement they previously sponsored – the euro-plus pact – will all of a sudden look less attractive. They will seek a treaty change to curtail the powers of renegade governments to break the rules of the system.


The miniature fiscal union I describe would do precisely that. It is an insurance mechanism to prevent abuse of the membership privileges, and to provide insurance against contagious defaults.

Whether electorates and their parliaments will accept a fiscal union will depend on their perceptions of the available alternatives. Clearly, there is a difference if your perceived choice is one between integration or a break-up, or whether it is simply between more integration or less integration. The political process will hinge on these perceptions.


A similar type of choice will also apply to the more immediate decision to roll over Greek debt. The German Bundestag and the Finnish parliament are not about to vote on whether they are happy to give another loan to Greece. I strongly suspect that their perceived choice will be between another loan, or a messy default.

Future perceptions are hard to predict, which is why my path to fiscal union is not a forecast but merely a scenario. And it is clearly an accident-prone process. But with each rollover, you will have to be progressively bold to vote no. This is why I believe that a debt rollover favours a political union in the long run.
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* The Globalisation Paradox: Democracy and the Future of the World Economy, WW Norton and Co, 2011


Copyright The Financial Times Limited 2011.