NGS agency Fitch was reported yesterday as predicting that Greece would default but not leave the euro. The reality now is that the kind of long-term solution that will be necessary to save the euro requires a euro of which Greece is not a member. The longer a Greek default and euro exit are delayed (a scenario that will inevitably also mean Cypriot exit from the euro), the longer a proper solution to the euro crisis is delayed, and the greater the risk that the euro will collapse altogether.
The way the euro will ultimately be saved is by the wealthy euro members agreeing to contribute monies to a Brussels-administered fund that then spends those monies in low-growth parts of the Eurozone such as certain Italian and Portuguese regions. That will raise the growth rates of Italy and Portugal by just enough for these economies to be able to service their own debts over the long-term. Portuguese and Italian GDP combined are about €1.8 trillion. So adding half a per cent to GDP would cost the wealthier parts of the Eurozone about €9bn per year. Perhaps twice that might be required in the first three years – so we can assume a total bill of around €9-18bn per annum. The €9bn figure would probably be required for decades, in much the same way that wealthier parts of the UK (such as London) have, at times past, subsidised less wealthy parts (such as Liverpool) for decades at a time.
Spain and Ireland have banking sector problems – they don’t really have sovereign debt problems at all, so as soon as they disentangle their governments from their banking sectors, there will be no issue for either of these states. What they need to do is simply to introduce, early, the bail-in procedures that the European Commission has already proposed from 2013. That will of course impose losses on bondholders of Spanish and Irish banks – which includes French and German banks. But why the Spanish or Irish taxpayers should be interested in bailing out French or German banks on any long-term basis is beyond mortal ken.
It would be by no means unprecedented or legally problematic for wealthier parts of the European Union to send money via Brussels to less wealthy parts. It has happened for decades (and is still going on) through what are called structural funds. In the 1990s, Ireland received around half a per cent of GDP per year through the structural funds, so even the sums involved in saving the euro would be by no means unprecedented. Obviously, new Eurozone-only structural funds would only be funded by Eurozone members. Initially, they would probably be funded by direct government contributions, but eventually there would probably be special Eurozone taxes to fund them, and perhaps even debt issued one day. To increase democratic accountability for such fiscal coordination, there would have to be a Eurozone finance minister – perhaps even one day directly elected.
Obviously, though, no country in the wealthier parts of the Eurozone is going to agree to sending tens of billions every year to Greece. Slovakia didn’t even agree upon the 2010 bailout, the Finns, Slovakians, Slovenians, Austrians and Dutch have demanded collateral in respect of the 2011 bailout, and the mutual animosity in the Greek and German press is long past the point of no return. So there cannot be any long-term arrangement of this kind while the Greeks remain in. Once the Greeks have left, matters can be resolved.
Many in financial markets appear to imagine that there is going to be a solution involving debt pooling or Eurobonds. Ain’t. Gonna. Happen. Debt pooling solutions would involve the Germans and French committing to additional exposures of some €2-3 trillion euros, as they took on responsibility for Italian, Spanish, Belgian and other debt. That would raise French and German debt servicing costs by more than €30bn per year – vastly more than the €6-12bn that would be their share of a Eurozone structural fund. It would also either involve the Germans agreeing to send money off to Silvio Berlusconi to spend as he saw fit, or the Germans instructing the Italians what they could spend money on – abandoning fiscal discipline or accepting the total overriding of sovereignty. Neither of these arrangements is going to be palatable. Furthermore, debt pooling has been ruled in violation of the German constitution. Forget it.
The drawback of the Eurozone structural funds scheme is that it involves committing to parting with real, tangible money. Current bailout schemes have allowed the pretence that no money is actually lost. Eurozone leaders will have some tough explaining to do to their electorates. However, an extension of the EU structural funds to save the euro is an extension of what already exists, and naturally extends ever-closer union. But not to Greece.
Andrew Lilico is an economist with Europe Economics and a member of the Shadow Monetary Policy Committee.
Countries in the Eurozone are not going to send tens of billions every year to Greece.