Here’s a nightmare for Europe’s leaders to ponder as they prepare for yet another summit to tackle the eurozone crisis: a bond auction fails in Spain, spreading solvency worries to Italy and beyond and triggering uncontrollable bank runs that spell the single currency’s end. Is such a scenario likely? Policymakers hope not. Is it possible? They fear it might be.
What is beyond dispute is that more and more economists and academics are asking whether the euro’s problems are so deep-rooted that the currency is beyond salvation.
David Marsh, co-head of the Official Monetary and Financial Institutions Forum, a gathering for central banks and sovereign wealth funds, likened the 13-year-old euro to a child increasingly neglected by its parents.
“I don’t really see what’s going to hold the euro up. But it’s difficult to tell the timing,” he said.
If time is called on the euro one day, austerity fatigue could be the catalyst. Perhaps the new coalition government in Greece, now in its fifth year of recession, will throw up its hands and say “no more.”
Voters in countries that are more critical to the single currency’s future could also tire of the belt-tightening demanded of them by the European Commission and the markets.
Former Italian Prime Minister Silvio Berlusconi, who still heads the country’s main conservative party, has turned more skeptical since being ousted from power last November, saying on his Facebook page last week that “leaving the euro is not a blasphemy.”
A new anti-euro protest group in Italy, the Five Star Movement led by ex-comedian Beppe Grillo, is enjoying support of 20 percent, according to opinion polls, putting reformist Prime Minister Mario Monti on the defensive.
What if the Netherlands elects an anti-euro government in September? Or if Chancellor Angela Merkel feels ahead of her re-election campaign next year that she cannot ask German voters to keep digging into their pockets to underwrite Europe’s under-performing southern periphery?
Such doubts are already bubbling to the surface. “There’s now a growing suspicion that Germany is simply not ready to accept the level of debt mutualisation necessary to restore confidence and keep the single currency project alive – or, if it is, that it will do so only at a snail’s pace and on terms which are politically and economically unacceptable to Spain and Italy,” said Nicholas Spiro of Spiro Sovereign Strategy in London.
Or perhaps there will be a catastrophic, unforeseen financial or political accident. Recent history shows that cannot be ruled out.
And that is just in the short term. Leave aside for now the conundrum of how eurozone laggards will restore economic competitiveness so they can withstand the discipline imposed by a fixed exchange rate, or how proud nation states such as France will bring themselves to surrender sovereignty in return for getting to use Germany’s AAA credit card.
Yet though the obstacles facing the euro are daunting, the main lesson of the debt crisis so far is that markets underestimate at their peril the political commitment of Europe’s leaders to do what is necessary to preserve the single currency.
“The euro crisis is in some ways mind-bogglingly simple to solve ... because it isn’t economics, it’s politics,” Jim O’Neill, chairman of Goldman Sachs Asset Management, told Reuters.
“If Angela Merkel and her colleagues stood there together with the rest of the euro area ... and if they behaved as a true union this crisis would be finished this weekend,” he added.
A breakup of the single currency would plunge the euro area into a deep recession and throw millions out of work. Germany would not be spared and could face a bill running into the hundreds of billions.
It would also mark the end of six decades of ever-closer integration aimed at cementing peace and prosperity on a continent steeped in the blood of two world wars.
The demise of the euro would not likely usher in fresh conflict. But it could unleash forces that chip away at other pillars of the EU, such as the single market and passport-free travel, and would deal a body blow to Europe’s influence and standing in the world.
Erik Nielsen, chief economist at Italian bank UniCredit, said political leaders were now trying to make up for past procrastination by bringing about urgent fiscal and political changes that usually take several years. But this did not imply an imminent risk of a breakdown of the euro.
“As I have argued ad nauseam, it’s a political project, and political leaders are unlikely to throw in the towel because markets don’t like the policies,” Nielsen said.
Indeed, leaders have crossed a number of their own policy red lines during the past two-and-a-half years, improvising time and again to come up with policies that can command a consensus within the eurozone and appease markets, at least for a while.
The no-bailout principle was sacrificed on the altar of rescue programs for Greece, Portugal, Ireland and, just this week, Cyprus. The depth of Greece’s woes put paid to the golden rule that private creditors should not be made to take writedowns on their holdings of government bonds.
The independent European Central Bank has also swallowed hard and made difficult compromises to ensure the survival of a currency that is, after all, the very reason for its existence.
Last year, the ECB conducted large-scale purchases in the secondary market of bonds issued by peripheral countries including Italy and Spain, even at the cost of prompting the resignation of two leading German central bankers, who saw the program as breaking the taboo against monetary financing of governments.
In an even more dramatic initiative, the ECB rode indirectly to the rescue of Rome and Madrid a second time by lending eurozone banks over 1 trillion euros for three years. Banks in Italy and Spain dutifully used the money to secure their own funding needs and to stock up on their governments’ bonds.
Yields fell sharply for a while but have once more climbed amid worries that Spain in particular will not be able to get a grip on its deficit, bloated by a burst housing bubble and over-spending by regional governments.
“The creditor countries led by Germany are always willing to do what is necessary to avoid a cataclysm. But that is not enough to resolve the crisis so it continues growing. Tensions in financial markets have risen to new highs,” said financier George Soros in a new paper.