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Chapter 7 focuses on the consequences of the EMU institutional set up. It shows that the signals and information about the imbalances that can arise do not flow evenly and effectively across states, contrary to what happens within them, and are often noisy or carry wrong messages to markets and governments. Thus, they do not offer sufficient incentives for change in the right direction. This is in contrast with both the orientation of the founding fathers of the Union and the literature before the creation of the EMU, which practically delegated most of the burden for integration, alignment, reforms, etc. to private institutions (markets). The common currency and the common monetary policy should be conceived as a tie to the action of private and public agents, not only because of the constraint imposed by the single currency (the external tie), but also for the conservative orientation of the ECB. These should have imposed a strong network of ties in particular on the conduct of the agents in the countries with higher inefficiencies, by indicating – almost naturally – the route to follow, compelling them to change their conduct and enacting the needed reforms.
Chapter 11 reiterates that after the (premature) celebration of the splendor of the EMU, the crisis has soon shown the sad reality. A debate on the various prospects open has then arisen, involving economists, politologists, political parties, and laymen. The EMU is now really at a crossroads. A number of differences divide the various countries and make amendments to its institutions very difficult to devise and, even more, to implement. The Union would need more common institutions, notably a fiscal union, but there are a number of obstacles to its implementation. These derive from structural differences between the countries that have even been exacerbated by the effects of the crisis and differences finding their roots in historical, cultural, and material differences. The main alternatives open to the EMU are: its break up, a many-speed Union, exit of some countries, structural reforms of the EMU institutions and policies. While the perspective of a break up seems to fade, the other alternatives are still grounded. Some steps for pursuing over the next years not only economic and political goals, but also democratic accountability and effective governance are possible. Much will depend on the orientation of the new Commission.
Chapter 8 starts from the observation that the theoretical foundations of the EMU are largely outdated and have shown a number of faults. The chapter suggests the broad lines along which the EMU could be reformed and indicates different growth and short-term strategies for the institutions as well as macroeconomic and microeconomic policies. It must certainly be realized that the economic performance in Europe has been nourished not only by the inadequacies in the Monetary Union institutions, but also by the way European policymakers, at all levels, operated, first in facilitating the development of the Great Recession in Europe and also in compounding its solution. In fact, the policies implemented to face it can make it clear why it prolonged beyond the period over which it hit the United States. Thus, the possible benefit of avoiding military confrontation between European countries must be balanced against the rising populism and resentment of some European countries against the others due to the clear insufficiency of European institutions and policies in dealing with the crisis. These can have lasting negative political consequences on the future of the Union. The need then arises of a deep reform of the EMU.
Chapter 5 investigates the consequences of the Great Recession on indicators of macroeconomic and microeconomic efficiency and equity. In Europe the financial crisis appeared initially under forms similar to those characterizing the United States, but soon assumed a very different form, due to the state intervention to save ailing banks, and the EMU peculiar institutions. More recently, the crisis has again changed its nature, as sovereign debt has been absorbed by banks, thus causing a problem for them and, in turn, again for the public finances that had to face bank failures. An important role was played by the specific financial imbalances that appeared in the EMU as a consequence of the formation of a currency area. Pre-existing imbalances became more intense when Germany decided to cope with the difficulties of a mature economy and unification with its Eastern Lander by adopting an export-led growth model supported by real devaluation. Then, European financial integration allowed for persistent net lending from core countries to peripheral countries, which compensated for the current account of the latter towards not only the former but also countries external to the EA.
Chapter 1 describes the path that brought to the current European Economic and Monetary Union (EMU). In contrast to a common tradition and culture, based on largely similar philosophical and religious foundations, Europe has a history of fierce opposition and wars among national states that culminated in World War II. An important impulse to some kind of European cooperation came exactly from the attempt to counter this tradition of conflicts, even if the past was still weighing. This largely explains the long process through which European institutions have reached their current state as well as their “incompleteness.” The cooperation evolved from the European Coal and Steel Community (1951), having a limited coverage, but active inter-country coordination and cooperation and limits to free market, to the European Economic Community (1957), with a larger coverage, but a free-market orientation in all fields. This partially changed with the Maastricht Treaty (originating the European Union(EU) and the EMU), with the introduction of common monetary policy and some constraints on national fiscal policies (1992). The former now gathers 28 countries. The latter had only 11 members when it started in 1999 and has now enlarged to 19.
Chapter 9 deals first with the reforms needed for the cornerstones of the EMU macroeconomic policies, i.e. the common monetary policy and the macro-prudential regulation that has recently added to it. As to the former, one of the main proposals is to raise its optimal target, for reasons that add to those recently suggested by some eminent economists; in addition, the prohibition to the ECB to act as a lender of last resort to governments should be reconsidered. As to the latter, the need arises of strengthening the existing legislation. On the other hand, fiscal policy is the Cinderella of the EMU macroeconomic policies and its deflationary and asymmetric orientation, to which the fiscal compact has recently added, is to be radically reconsidered, moving towards a fiscal union. Finally, wage policy can be implemented in a way to help dealing with the different country structural problems in a way that cannot be done by the common monetary policy.
Chapter 2 describes the institutional background for the analysis of the imbalances that emerged over time, in Europe, which are central to our enquiry. The main aspect of the EMU institutions is their “incompleteness,” from the point of view of a more “mature” one, of the kind of a federalist structure. Incompleteness derives from a strong measure of persistent national, and thus, independent decision-making that interacts and overlaps with the few common institutions and often dominates over them. The EMU’s design is founded on a few common institutions, a single currency (to which a common macroeconomic policy has added recently) and the free operation of markets, as well as harmonization of some rules. All the other policy instruments are to be managed by the member states, with constraints on some policies, especially fiscal policy. Wage policy is completely disregarded. Thus, most national borders are maintained. In the mind of the founding fathers of the Union, these common institutions were necessary, and sufficient conditions for getting rid of frictions and the uneven distribution of resources and opportunities across the countries, thus resulting in a uniform process of growth of the whole Union.
Chapter 10 deals with microeconomic policies, which are normally complementary to macroeconomic ones and therefore must be implemented in addition to, or in conjunction with, them. No analysis of macroeconomic policies can do without a parallel study of the microeconomic ones, which can pursue multiple objectives at a time. Some reforms do not involve costs for the EZ as a whole and only require law amendments or regulation for coordination of different policies. Pursuance of many of the targets of microeconomic policies requires instead availability of funds. From this point of view, the scope of these policies is severely limited currently at the EZ level. In addition, the Commission has recognized that funds are spread over too many programmes and instruments. The need arises that the new budget overcomes the current failure to distinguish between economic, social and territorial cohesion and between the intermediate steps necessary to guarantee each. Mixture of the final objectives can only cloud the assessment of each project and make check of its implementation difficult. Some improvement would derive from the indication of fixed targets for each goal. More decisive improvements would require further enlarging the EU budget and focusing on specific targets.
In Chapter 3 we sketch the roots of the EMU institutions in terms of the theories and the interests shaping them. This makes it easier to understand in Part II the imbalances that arose in the Union, largely descending from the free trade orientation of its institutions as well as from the different interests of countries and sections of the population. The monetarist and New Classical Macroeconomics theories, popular at the time when the institutions of the EMU were devised, played an important role for the choice of the institutional design. However, the existing theories were only partly implemented (e.g., the requirements of the Optimal Currency Theory were not satisfied) and later revisions of the accepted theories – asking for a different orientation of the initial institutions and current policies – have been ignored. Other factors, of the nature of vested interests, at the roots of the different growth models pursued by the various countries, added to existing theories and can explain together with them both the institutional design and the policies implemented by the Union.
The policies implemented in the EMU and the differences with the United States are described in Chapter 6. They added to the negative consequences of the institutional differences. The content of the policies implemented in the two areas was rather different. More importantly, the evolution of the crisis and the outcomes of policies remarkably differ. In Europe the original determinants of the crisis were of a purely financial nature, as in the United States. However, they evolved into a sovereign debt crisis, which was not the case in the United States. We attribute this largely to the different institutions in the two areas, in addition to the policies enacted, which were anyway to a large extent constrained by these institutions. Policymakers were either incapable of taking the opportunity to reform them or interested in keeping them and making them to serve national or other interests. Monetary policies have prevailed in both the United States and EMU, but in Washington they have been complemented by federal fiscal policies in the initial, decisive, phase of the crisis. By contrast, no similar expansionary policy was implemented in Europe, where fiscal policies were managed at the state level and were generally deflationary.