There are two interesting questions to be asked about the euro right now. Does it have any chance of surviving in its current form? And, if not, how would you go about breaking up the single currency?
The euro can collapse in two ways. It can fall apart suddenly overnight, in a chaotic scramble in which every country looks after itself. Or it can be split up in an orderly, organised way, in which the currency is slowly laid to rest with the minimum possible disruption to the euro area’s economy.
True, the euro might stagger on. It is too early to condemn the single currency to the lengthy list of failed monetary experiments. A sharp drop in the currency – and the markets are certainly doing their best at the moment to make sure that happens – might help the struggling, highly indebted members steady their economies for long enough to get their public finances back under control. The Germans might give up the habits of a generation and start spending rather than saving – and spend mostly on Greek and Spanish exports. Who knows, miracles do happen – just not very often.
In reality, however, the experiment in joining Europe’s currencies together now looks doomed to failure. A system in which countries spend like crazy, run up massive public-sector deficits, and then get someone else to pay the bill is plainly bonkers. Everyone has an interest in doing the crazy spending. No one has any incentive to do the bailing out. The euro could only work if you had strict limits on what governments could spend. The founders recognised that, and built it into the rules, but no one tried to enforce them. It is too late to fix that now. It is far better to face up to it and think hard about breaking the currency up.
A chaotic, disorderly collapse wouldn’t help anyone. Greece could default, swiftly followed by Spain and Portugal. But terrible damage would be inflicted on the banks that were carrying their bonds on their books. The Germans could switch back to the deutschemark overnight – the markets last month were briefly rocked by a conspiracy website that claimed to show pictures taken by a Deutsche Bank employee of new German currency notes that had been secretly printed over a bank holiday weekend. But, either way, the markets would plunge. The impact on stock and bond prices would be huge, and could easily tip an already fragile global economy back into recession.
If the euro is finished, it would be far better to make sure it was quietly put to rest. So what are the options? Here are three.
1. Germany leaves. This option has been widely discussed ever since Morgan Stanley published a note on the possibility three months ago. It makes a lot of sense. One of the key problems with the euro is the overwhelming strength of the German economy compared with its neighbours. It is very hard for one of the weaker countries to leave the currency. All their debts are denominated in euros. If their new currency collapsed, as it surely would, those debts would soar even higher. Capital would flee the country: in Greece, it already has. But Germany would have none of those problems. With its huge trade surplus and limited debts, it has one of the strongest balance sheets of any major country. Its new currency would soar in value. Investors would flock to it. Meanwhile, the euro-minus-Germany would sink sharply, as investors rightly worried about who was going to pay all the bills. That would make it a lot easier for the highly-indebted countries to export their way out of trouble.
2. Create two euros, one for northern Europe, and one for southern. The key problem with the euro, as plenty of analysts have pointed out, is that it is not a natural currency area. The economies that make it up are too different. When the euro was launched, it was thought that sharing a currency would draw them together, but there has been very little sign of that happening. If anything, they have sailed even further apart. The solution? Create two euros. One would include Germany, France, the Benelux countries, Finland and Austria. The other would include Italy, Greece, Spain, Portugal, Cyprus and Malta. A few nations might be hard to place: Ireland, Slovenia and Slovakia don’t fit obviously into either camp. But they could be offered a choice. The southern currency would depreciate sharply against the northern, but otherwise all the advantages of having a currency that straddles several countries could be maintained. The two new currency areas, however, would be far more natural than the single old one.
3. Create parallel national currencies alongside the euro. When the euro was being debated in the 1990s, the British floated this idea. You’d have the euro and national currencies, and both would be accepted as legal tender in member states of the European Union. Companies and individuals could choose which currency they wanted to strike a deal in. Countries would get back most of the advantages of having their own currencies. They could devalue when they wanted to. But the euro would survive. Initially it would mainly be a currency for big business, the capital markets, and for tourists. But if the euro area economies did finally converge, the euro might gradually push out national currencies. The difference would be that it would happen naturally, when the market was ready, rather than being forced on economies that couldn’t cope.
None of the above options is painless – each would involve sacrifices. But any of them would be preferable to letting the euro collapse amid chaos.