THE euro-zone debt crisis exposed a critical need for stronger European financial safety nets and institutions. In March 2010, Thomas Mayer and Daniel Gros, two German economists, made a strong case for the creation of a European Monetary Fund (EMF). In the end, European leaders agreed on a European Financial Stability Facility (EFSF) in May 2010. This was later transformed into the European Stability Mechanism (ESM), which today works alongside the IMF in Europe’s financial-assistance programmes. The creation of the ESM was a major step in the process of integrating and completing the euro area. It offered a powerful mechanism to backstop sovereign debt markets and deal with sudden stops in capital flows at a time of acute crisis. But over the years, as the more fundamental flaws in the
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THE euro-zone debt crisis exposed a critical need for stronger European financial safety nets and institutions. In March 2010, Thomas Mayer and Daniel Gros, two German economists, made a strong case for the creation of a European Monetary Fund (EMF). In the end, European leaders agreed on a European Financial Stability Facility (EFSF) in May 2010. This was later transformed into the European Stability Mechanism (ESM), which today works alongside the IMF in Europe’s financial-assistance programmes. The creation of the ESM was a major step in the process of integrating and completing the euro area. It offered a powerful mechanism to backstop sovereign debt markets and deal with sudden stops in capital flows at a time of acute crisis. But over the years, as the more fundamental flaws in the architecture of European Monetary Union (EMU) have come to light, this approach has proved its limits. The ESM now needs to evolve.
Wolfgang Schäuble, the German finance minister, is taking a proactive approach. He recommends that the ESM be turned into a true European Monetary Fund (EMF). It is an appealing idea. While cooperation between regional and international safety nets has become inevitable, the participation of the IMF in Europe is hardly sustainable in its current form. A more robust European crisis-management framework is required. However, the new German proposal for an EMF is incomplete. As currently outlined, the role of the EMF would be limited to managing crises within the monetary union. It would simply provide a modest safety net in return for policy intrusion: what Jean-Claude Trichet once called "federalism by exception". Instead the euro area should promote fiscal federalism. This means completing the euro-zone policy framework with a real budget, which would relieve the European Central Bank of politically sticky responsibilities. In addition, member countries need to increase democratic integration.
The EMF as envisaged by Mr Schäuble is designed to force debtor countries to proceed with unilateral and often ill-designed adjustments—very much like the existing framework. Finance ministers have methodically undone all other functions, like the possibility of direct bank recapitalisation and a backstop to the banking union, which had been agreed to by European heads of states and government in the summer of 2012. Such an EMF would only be the appendix of a euro area which enshrines its unhappy status as a gold-plated fixed-exchange-rate regime.
However, the proposal is prompting much-needed discussion about the creation of a real budget for the euro area. This could materialise from a transformation of the European Stability Mechanism. If European governments decided to strengthen the architecture of the euro decisively, they could bring the ESM under the authority of the European Commission as well as the scrutiny of a euro chamber of the European Parliament. The ESM could continue to perform its current financial-assistance functions when needed. The Commission has accumulated almost 10 years of experience managing financial crises, which could hardly be replicated by a new institution. Other functions could gradually be added so that the ESM would morph into a full-fledged euro-zone treasury. Initially, it could serve as a last-resort backstop in case of banking crises. It could subsequently expand its role to deliver the supply of safe assets required to respond to macroeconomic shocks. For the single currency to continue to be economically and politically sustainable, the euro area needs a budget that could support investment in downturns and facilitate limited, temporary transfers via an unemployment-insurance scheme.
Unlike an EMF, a Euro treasury would be a way to restore discipline at the same time as strengthening the area’s resilience thanks to the stabilising power of a euro budget. The history of fiscal federalism in America, and in particular the advocacy of America's first secretary of the Treasury, Alexander Hamilton, for the creation of a federal budget, suggests that steps to discipline states were only made credible by a bold move towards fiscal federalism. There is probably no other way for the euro area to proceed. Establishing a debt-restructuring framework without a budget would only increase the inherent instability of the single currency.
Apart from the economic consequences, the main danger of this EMF would be to weaken European institutions further by strengthening the roles of the ESM which replicate existing capacity at the European Commission—making the board of the ESM, that is, the finance ministers of the Eurogroup, enforce rules and undertake responsibilities that the Commission is wrongly perceived to be unfit to fulfill. This would reinforce the euro area's dysfunctional economic governance by strengthening yet again a forum governed by the rules of unanimity. The experience of the past few years suggests that the intersection of 19 different red lines rarely meets the European general interest.
Worse, it would strengthen the veto rights of big countries such as France and Germany to the detriment of the balance that the Commission provides. This would extend the technocratic rule of the euro area further and fuel both the executive and the democratic deficits at a time when there are growing demands for clear responsibility and accountability. In contrast, a budget for the euro, managed by the Commission, would change the ineffective inter-governmental management of the single currency by empowering the commissioner for economic and financial affairs instead of the Eurogroup's president.
All in all, the idea of an EMF sounds like a generous proposal to integrate the euro area and improve the workings of adjustment programmes. In reality it is a dead end that those interested in building a strong and genuine monetary union should use as a stepping stone to promote a real budget for the euro area and a revamp of its economic governance.
Laurence Boone is head of research at AXA IM, chief economist of the AXA Group and a former economic advisor and Sherpa to President François Hollande. Shahin Vallée is a former economic advisor to Emmanuel Macron.