The European Union, and the Eurozone in particular, has impressive institutional achievements to its name. We have a European Parliament, European Commission, European Court of Justice, a set of common regulations that exceeded 100,000 last time I checked (acquis communautaire), and of course the European Central Bank. These institutions are meant to underpin its unified market.
Yet we have now become all too aware of how incomplete these institutional arrangements are. To see the point, it is instructive to compare what is going on with Greece today with how a truly unified nation, such as the United States, deals with crisis in one of its constituent units, say California.
California shares a common currency with the rest of the U.S., just as Greece (or Ireland or Spain) does with the Eurozone. But when the state government in California goes bust:
- Californians automatically get welfare checks and other transfer payments from Washington.
- Californian borrowers do not get shut out of credit markets and those with healthy balance sheets can borrow from the rest of the nation. This is because there is no “California risk” the way there is Greek sovereign risk; borrowers in California operate under a federal legal regime and the state of California cannot force them to hold California paper or prevent them from repaying their debts to non-Californians.
- The Federal Reserve stands ready to act as a lender of last resort to any Californian bank. (Why? Well, because it is one country after all…)
- California has representatives and senators in Washington, D.C., who can push for remedies for California’s economic troubles through political channels (e.g., fiscal spending, federal assistance, debt relief)
- Californians can easily move and seek jobs elsewhere in the U.S.
The flip side of these benefits is that there is no expectation that Washington, DC must bail the state government.
A subtle point here is that Washington’s “no bail out” commitment is rendered credible by the direct support residents of California get from Washington, DC. This support limits the economic/political fallout in California. By contrast, the bankruptcy of the Greek government condemns the entire Greek financial system and sends the entire Greek economy down the drain.
In other words, because the state of California has no “sovereign powers,” it is effectively just like any other moderately large borrower. The consequences of its bankruptcy are no more or less serious.
The political quid pro quo in the U.S. is this. California has given up its sovereignty and has accepted the reach of federal laws and regulations. In return, Californians are part of the governance structure in Washington. Neither of these is true to quite the same extent in the Eurozone.
Consequently, a crisis within the Eurozone is more costly both in economic and political terms. We get ad hoc arrangements to extend credit (rather than automaticity), protracted financial crises and deeper economic recession, and mutual resentment on both sides. Greeks complain about “German selfishness” while Germans resent the creeping “transfer union.” Ultimately, the survival of the Eurozone itself is threatened.
In short, the euro’s institutional incompleteness has left the Eurozone badly exposed to the crisis. Euro-skeptics say “we told you so.” Others, like me, will argue that it was the EU’s misfortune to have been caught halfway in its institutional integration process by a financial crisis that was not its own doing.
But that is all water under the bridge now. The main lesson from the debacle is that economic union requires political union. The EU needs either more political union if it wants to keep its single market, or less economic union if it is unable to achieve political integration.
At this stage, the former path looks by far the less likely. If it has to come to it, the more orderly and premeditated the coming break-up of the Eurozone, the better it will be.