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Headed for the Rocks in European Waters

Tuesday, December 27, 2011

A united Europe is impossible given cultural and economic mismatches.

The eurozone is going to split, whether through economics or politics.

Having had time to digest the latest round of euro rescue efforts, markets do not seem to be terribly optimistic. The euro is down, equities markets remain unsettled, and, after a brief reprieve, sovereign bond yields in troubled nations are elevated.

It is easy to see why markets are turbulent. The political will required to produce meaningful fiscal union does not exist, and even if it did, it is not clear that it would be enough to solve the crisis. Trapped in the straightjacket of the euro, Greece, Italy, Spain, Portugal, and Ireland are headed for deep recessions as fiscal adjustment continues to take hold. Moreover, the legal framework required to create the compact is ambiguous, and Europe’s history with respect to fines and sanctions for budget misbehavior is not inspiring.

But supposing fiscal union were possible, and supposing such a union resulted in a meaningful resolution to the euro crisis, Europe would still face an enormous hurdle to solving its problems.

European countries are not now, nor have they ever been, a homogeneous bloc with similar cultural mores.

The fundamental problem with the euro area is cultural mismatching. European countries are not now, nor have they ever been, a homogeneous bloc with similar cultural mores. Their institutions may look the same—Europe is largely a rights-respecting cosmos of social democracy—but individual European countries harbor resentments fostered by their cultural differences. A closer fiscal union will exacerbate these tensions.

The current crisis in Europe has underscored the propensity of richer European countries to dictate social policy to poorer European nations. Northern European-approved technocratic regimes in Italy and Greece have replaced democratically elected governments, and democratically created social safety nets all along the Mediterranean are being dismantled under the disapproving noses of watchdogs at the International Monetary Fund and the European Union. It is little wonder that electorates in debtor nations are becoming increasingly dissatisfied with the demands of creditor nations.

Consider Ireland. Facing a substantial budget shortfall, a significant credit crunch, and shrinking export markets, Irish leaders confronted the harsh realities of their crisis in mid-2010. By October 2010, Ireland’s deficit was 11.9 percent of GDP, a number that, while large, put the nation on track to approach the EU-mandated 3 percent of GDP by 2014. With €47 billion on hand and more conservative tax revenue estimates, Ireland was fully funded through 2011.

Then, other EU leaders got involved. European Central Bank staffers leaked an internal prediction that Ireland would require an IMF bailout; and in EU meetings, Ireland was lumped together with Greece in discussions of fiscal irresponsibility. Within two weeks of agreeing on a plan to reduce their deficit in accordance with EU targets, the Irish found themselves unable to quell rumors that they were on the fast-track to insolvency. Within three weeks, with markets raising interest rates and EU leaders demanding answers, the Irish government cut its public relations losses and applied for an IMF bailout.

The current crisis in Europe has underscored the propensity of richer European countries to dictate social policy to poorer European nations.

EU leaders should not now be surprised that the referendum on the new fiscal compact is being met with hostility and pessimism within Ireland. Indeed, the Irish have rejected two prior EU treaties because of very real concerns about external political meddling with internal Irish politics.

The newest plan to save the euro provides even more opportunity for meddling, as veto power over national budgets will effectively be given to the European Union. While leaders have been careful to present the deal in terms of economic expediency, veto power over budgets really means that the European Union will have the final say over social programs. If any new ideas, such as privatizing pension programs or unemployment insurance credits for job training programs, are deemed too expensive, Europe’s powers will intervene. The minor disagreements characterizing the crisis thus far will only grow larger as veto power is offered to Europe at large over the specific policies of individual member states.

If economics does not cause the eurozone to split, politics and culture certainly will. The course charted in Brussels has done little to change this.

Daniel Hanson is a research assistant at the American Enterprise Institute.

FURTHER READING: Desmond Lachman writes “Merkel’s Moment,” “It’s Europe’s Economic Growth, Stupid,” “No Lehman on the Aegean,” “Was the Euro a Mistake to Begin With?” and “Will Greece Destroy the Eurozone?

Image by Bergman Group

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