Review: The Euro

The Euro: How a Common Currency Threatens the Future of Europe by Joseph E. Stiglitz

My rating: 4 of 5 stars

There either has to be “more Europe” or “less.”

Working as an English teacher in Spain gives you a certain insight into its economy. Immediately noticeable is the huge demand: seemingly everybody—adults, children, babies, retirees—wants to learn English. Finding work is less than effortless; you need to fend jobs off. The obvious explanation for this is the paucity of the available domestic jobs, and the undesirability of the jobs that do exist, leading many people to seek work elsewhere. More concerning are the large numbers of highly skilled workers who cannot find work. Unemployed doctors, lawyers, computer programmers, and engineers have come to my classes, hoping to improve their chances of getting hired. Added to this, young people in my high school complain bitterly about the prospects of finding a job upon graduating.

Clearly something is amiss. And according to Stiglitz, that something is the euro.

Introduced into circulation in 1999, the euro was the optimistic sign of a coming age of European integration. Nowadays, after a recession, a Greek debt crisis, a Brexit, a refugee crisis, and the resurgence of several nationalist and regionalist parties, things look somewhat less bright on the continent. Unemployment remains high in many parts of the eurozone, especially in the crisis countries—Spain, Portugal, Greece, Ireland—and especially among the young. More than that, the much-anticipated European solidarity and common European identity have largely failed to materialize (or, at least, not nearly to the hoped-for degree). Stiglitz believes that one of the main culprits for these failures is the common currency.

Aside from fostering solidarity, the euro was, of course, expected to aide prosperity. The absence of economic borders, the free movement of labor and goods, and the elimination of conversions and exchange rates was expected to boost the economy and reduce the differences in wealth between countries. But contrary to predictions the economy did not grow notably faster than it had been pre-euro; and after the 2007-8 crisis, the economy sank into a prolonged recession from which is has yet to completely recover.

The explanation for this, according to Stiglitz, is that the introduction of a common currency took away a crucial flexibility—the ability to adjust inflation and interest rates—without replacing it with any compensating institutions. Specifically, this inflexibility makes it more difficult to deal with trade deficits (when a country is importing more than it is exporting). Normally, when there is a trade deficit a country can inflate its currency to correct the imbalance. But when the currency is essential ‘pegged’—leading to a situation similar to a gold-standard—than this adjustment cannot happen, and the deficit can persist long-term.

If a country is buying more foreign products than it is selling, then clearly the money must come from somewhere. If the money comes from banks—borrowing money from abroad and lending it to domestic consumers—then this leaves the country vulnerable to a financial crisis, should too many borrowers demand their money at once. If, conversely, the government absorbs the deficit in the form of debt then this leads to another vulnerability: if the debt mounts so high that investors lose confidence that it can be repaid, then lending might suddenly stop, leading to a debt crisis. And since the debt is, essentially, in a foreign currency—one that cannot be devalued by the country—it will require some sort of foreign assistance to deal with.

Debt and financial crises can easily lead to general economic crises—high unemployment coupled with low aggregate demand—so running a persistent trade deficit is something that most countries would like to avoid. But how? In order to work properly, common currency areas normally require that its member states be sufficiently similar. This is clearly not the case in Europe; and this disparity allows Germany to persistently runs a trade surplus—a surplus that virtually requires other countries to run a deficit (since all surpluses and deficits add to zero).

Indeed, the crafters of the euro were aware of the problem of a too-differentiated economy, which is why they created “convergence criteria” that the countries had to satisfy in order to join the eurozone. Unfortunately, according to Stiglitz, these criteria were poorly conceived, focusing exclusively on currency stability and fiscal deficit (a narrow-minded focus that characterizes the entire project, it seems). It was hoped that the common currency would aide further convergence between the countries; but the reverse has happened. Rather, the common currency has turned some countries into debtors and others into creditors, further dividing their economies.

But the United States is a common currency area that is highly differentiated by state. Why, then, does a common currency work there and not in Europe? Well, for one it is far easier for Americans to move to different states than for Europeans to move to different countries. A Spaniard in Germany is not like a Mainer in New York. And even if people in Europe could easily move from country to country, it would be alarming if, say, Slovenia became depopulated—what would happen to its culture? On the institutional level, Washington has far more funds to spend—either on countercyclical investment, social safety net programs, or bailing out banks—than does Brussels. In short, culturally, linguistically, and institutionally, the United States is far more integrated.

The situation created by the euro, then, left many countries vulnerable to crises. And when a crisis hit—a very big crisis, admittedly not of their own making—the institutions of the eurozone made it much worse than it had to be. As either the government (as in Greece) or the banks (as in Spain) succumbed, the European Troika imposed austerity as conditions of their bailouts. This, of course, led to still further economic recession, since raising taxes and cutting spending is the reverse of what governments ought to do in a downturn. The increased unemployment should, in theory, have led to wage reduction, and thus to decreased prices and increased exports, which would restore the economy to equilibrium. Certain market rigidities, however—such as resistance to wage cuts and a reluctance to lower prices in a downturn—impede this adjustment, leading to a prolonged recession.

This, in a very simplified form, is Stiglitz’s diagnosis of the problem. And behind all of these institutional failings—from the eurozone’s flawed architecture to the incompetent response to the crisis—Stiglitz sees one culprit: neoliberalism, or “market fundamentalism” as he calls it.

But he does not merely set out to criticize. This book is also full of potential solutions, many of which I found quite creative. To correct the trade imbalance, for example, “chits” can be introduced: a type of credit that can be bought and sold, and which allows its possessor to import or export. Controlling the “chit” supply would thus control the deficit or surplus. More prosaically, he suggests common deposit insurance, institutions to invest in small businesses, a broader mandate for the ECB (European Central Bank), large investments in infrastructure and research, a procedure for country-level debt restructuring, and financial reforms to encourage productive investments rather than speculation, to name just a few ideas.

In short, he believes that greater European solidarity—leading to common institutions that focus on a common prosperity—is needed if the euro is to work. And if that is not possible, Stiglitz believes that the cost of exiting the eurozone is less than the cost of remaining inside and pushing doggedly onward. He even provides a detailed plan of action should Greece decide to leave the eurozone. Of course every country need not return to its old currency; there could, for example, be a “northern euro” and a “southern euro.” Merely having Germany leave would go a long way in restoring balance to Europe’s economy.

For such a short and quick read, this book is impressively rich in ideas and penetrating in its analysis. But of course there are shortcomings. While easy enough to read, I found the writing to be stiff and lifeless; the book is written with the impersonal tone of an academic article. More seriously, I fear that many will find the book too partisan—specifically, too leftist—to be convincing. It is intrinsically unsatisfying for Stiglitz to dismiss his theoretical opponents as “market fundamentalists,” since this leads me to wonder why so many people could hold such contrary views about how the economy works. Admittedly, as Stiglitz himself argues, all economic decisions are, at bottom, political decisions, since they are aimed at pushing society in a certain direction. Even so, Stiglitz makes too little of an attempt to reach out to those not of his ideological persuasion.

Though I am far too ignorant to evaluate his economic arguments, I found the book quite convincing. This pains me. Personally I like the euro very much. The ability to use my pocket money in Italy, Ireland, or Germany is extraordinarily convenient. But if the euro leads to a prolonged underperformance in some countries then it must be reformed or replaced. It is, after all, only a currency. The really important issue is European solidarity: the belief that Europeans are stronger together than apart. And when some countries are debtors and some are creditors, and both are economically stagnant, and when voters have little sway over important economic decisions—this is no recipe for harmonious coexistence. The euro was, in any case, only intended to be a halfway house: one step on the road to greater European consolidation. Clearly this process must continue, and must be crafted to ensure prosperity for all. In the meantime, I suppose I’ll just keep on teaching English.

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