Will the euro survive?
Michael Roberts looks back at the last 20 years and predicts a rocky future
January 1 was the 20th anniversary of the launch of the euro and the single currency area of the euro zone. It began with 11 member-states, but two decades after its birth membership has grown to 19 countries and the euro-area economy has swelled by 72% to €11.2 trillion ($12.8 trillion) - second only to that of the US and positioning the European Union as a global force to be reckoned with.
The euro is now used daily by some 343 million people in Europe and a number of other territories also use it as their currency. And another 240 million people worldwide as of 2018 use currencies pegged to the euro, which is the second largest reserve currency, as well as the second most traded currency in the world, after the dollar. As of August 2018, with more than €1.2 trillion in circulation, the euro has one of the highest combined values of banknotes and coins in circulation, having surpassed the US dollar.
That is one measure of success. But it is not the most important benchmark considered by its founders. The great European project that started after World War II had two aims: first, it was to ensure that there were never any more wars between European states; and, second, to make Europe an economic and political entity that could rival America and Japan in terms of global capital. This project, to be led by Franco-German capital, went further and aimed at integrating all European capitalist economies within a single market to compete with the US and Asia and with a rival currency to the dollar.
Let us first examine whether the euro has been a success for capital in the participating states, and whether it has been good news for labour, before considering whether it will still be here after another 20 years.
How do we measure the success of a single currency area in economic terms? Mainstream economic theory starts with the concept of an ‘optimal currency area’ (OCA) and the essence of OCA theory is that trade integration and a common currency will gradually lead to the convergence of GDP per head and labour productivity among participants.
The OCA says it makes sense for national economies to share a common monetary policy if they (1) have similarly timed business cycles and/or (2) have in place economic ‘shock absorbers’, such as fiscal transfers, labour mobility and flexible prices to adapt to any excessive fluctuations in the cycle. If (1) is the case, then a ‘one size fits all’ monetary policy is possible. If (2) holds, then a national economy can be on a different business cycle with the rest of the currency union and still do well inside it. Equilibrium can be established if there is ‘wage flexibility’, ‘labour mobility’ and automatic fiscal transfers.
The European Union has shown a degree of convergence. Common trade rules and the free movement of labour and capital between EU countries has led to ‘convergence’ - when it comes to productivity, it has been as strong as in the fully federal US, although convergence more or less stopped in the 1990s, once the single currency union started to be implemented.
So the move to a common market, customs union and eventually the political and economic structures of the EU has been a relative success. The EU 12, then 15, from the 1980s to 1999 managed to achieve a degree of harmonisation and convergence, with the weaker capitalist economies growing faster than the stronger.
But that was only up to the start of the economic and monetary union (EMU) in the 1992. The evidence for convergence since then has been much less convincing. On the contrary, the experience of EMU has been that of divergence.
The idea that ‘free trade’ is beneficial to all countries and to all classes is a ‘sacred tenet’ of mainstream economics. But it is a fallacious proposition based on the theory of comparative advantage: that if each country concentrated on producing goods or services where it has a ‘comparative advantage’ over others, then all would benefit. Trading between countries would balance and wages and employment would be maximised. But this is empirically untrue. Countries run huge trade deficits and surpluses for long periods; they have recurring currency crises; and workers lose jobs from competition from abroad without necessarily getting new ones from more competitive sectors.
The Marxist theory of international trade is based on the law of value. In the euro zone, Germany has a higher organic composition of capital (OCC) than Italy, because it is technologically more advanced. Thus in any trade between the two value will be transferred from Italy to Germany. Italy could compensate for this by increasing the scale of its production/export to Germany to run a trade surplus. This is what China does. But Italy is not large enough to do this. So it transfers value to Germany and it still runs a deficit on total trade with Germany.
In this situation, Germany gains within the euro zone at the expense of Italy. No other member-state can scale up their production to surpass Germany, so unequal exchange is compounded across the EMU. On top of this, Germany runs a trade surplus with other states outside the EMU, which it can use to invest more capital abroad into the EMU deficit countries.
The Marxist theory of a currency union thus starts from the opposite position to that of neoclassical mainstream OCA theory. Capitalism is an economic system that combines labour and capital, but unevenly. The centripetal forces of combined accumulation and trade are often more than countered by the centrifugal forces of development and unequal flows of value. There is no tendency to equilibrium in trade and production cycles under capitalism. So fiscal, wage or price adjustments will not restore equilibrium - and anyway may have to be so huge as to be socially impossible without breaking up the currency union.
The EU leaders had set convergence criteria for joining the euro that were only monetary (interest rates and inflation) and fiscal (budget deficits and debt). There were no convergence criteria for productivity levels, GDP growth, investment or employment. Why? Because those were areas for the free movement of capital (and labour) and where capitalist production must be kept free of interference or direction by the state. After all, the EU project is a capitalist one.
This explains why the core countries of EMU diverged from the periphery. With a single currency, the value differentials between the weaker states (lower OCC) and the stronger (higher OCC) were exposed, with no option to compensate by the devaluation of any national currency or by scaling up overall production. So the weaker capitalist economies (in southern Europe) within the euro area lost ground to the stronger (in the north).
Franco-German capital expanded into the south and east to take advantage of cheap labour there, while exporting outside the euro area with a relatively competitive currency. The weaker EMU states built up trade deficits with the northern states and were flooded with northern capital that created property and financial booms that were out of line with growth in the productive sectors of the south.
Even so, none of this would have caused a crisis in the single currency union had it not been for a significant change in global capitalism: the sharp decline in the profitability of capital in the major EU states (as elsewhere) after the end of the golden age of post-war expansion. This led to fall in investment growth, productivity and trade divergence. European capital, following the model of the Anglo-Saxon economies, adopted neoliberal policies: anti-trade union laws, deregulation of labour and financial markets, cuts in public spending and corporate tax, free movement of capital and privatisation. The aim was to boost profitability. This succeeded somewhat for the more advanced EU states of the north, but less so for the south.
Then came the global financial crash and the great recession, which exposed the fault-lines in the single currency area. The slump dramatically increased the divergent forces within the euro. The fragmentation of capital flows between the strong and weak euro-zone states exploded.1 The capitalist sectors of the richer economies like Germany stopped lending directly to the weaker capitalist sectors in Greece, Slovenia, etc. As a result, in order to maintain a single currency for all, the official monetary authority, the European Central Bank and the national central banks had to provide the loans instead. The euro system’s ‘target 2’ settlement figures between the national central banks revealed this huge divergence within the euro zone.
The imposition of austerity measures by the Franco-German EU leadership on the ‘distressed’ countries during the crisis was the result of the ‘halfway house’ of euro criteria. There was no full fiscal union (tax harmonisation and automatic transfer of revenues to those national economies with deficits); there was no automatic injection of credit to cover capital flight and trade deficits (federal banking); and there was no banking union with EU-wide regulation, where weak banks could be helped by stronger ones. These conditions were the norm in full federal unions like the United States or the United Kingdom. Instead, in the euro zone, everything had to be agreed by tortuous negotiation among the various states.
In this halfway house, Franco-German capital was not prepared to pay for the ‘excesses’ of the weaker capitalist states. Thus any bailout programmes were combined with ‘austerity’ for those countries2 to make the people of the distressed states pay with cuts in welfare, pensions and real wages, and to repay (virtually in full) their creditors (the banks of France, Germany and the UK). The debt owed to the Franco-German banks was transferred to the EU state institutions and the International Monetary Fund - in the case of Greece, probably in perpetuity.3
The ECB, the EU Commission, and the governments of the euro zone proclaimed that austerity was the only way Europe was to escape from the great recession and austerity in public spending could force convergence on fiscal accounts too.4 But the real aim of austerity was to achieve a sharp fall in real wages and cuts in corporate taxes and thus raise the share of profit and the profitability of capital. Indeed, after a decade of austerity, very little progress has been achieved in meeting fiscal targets (particularly in reducing debt ratios); and, more important, in reducing the imbalances within the euro zone on labour costs or external trade to make the weaker more ‘competitive’.
The adjusted wage share in national income, defined here as ‘compensation per employee as percentage of GDP at factor cost per person employed’, is the cost to the capitalist economy of employing the workforce (wages and benefits) as a percentage of the new value created each year. Every capitalist economy had managed to reduce labour’s share of the new value created since 2009. Labour has been paying for this crisis everywhere.
The evidence shows that those EU states that achieved a quicker recovery in the profitability of capital (Germany, Netherlands, Ireland, etc) were able to recover from the euro crisis faster, while those that did not improve profitability stayed deep in depression (eg, Greece).
One of the striking elements in the fall in labour’s share of new value has been emigration. This was one of the OCA criteria for convergence during crises and it has become an important contributor in reducing costs for the capitalist sector in the larger economies like Spain (and smaller ones like Ireland).5 Before the crisis, Spain was the largest recipient of immigrants to its workforce: from Latin America, Portugal and north Africa. Now there is net emigration even with these areas.
Keynesians blame the crisis in the euro zone on the rigidity of the single-currency area and on the strident ‘austerity’ policies of the leaders of the euro zone, like Germany. But the euro crisis is only partly a result of the policies of austerity. Austerity was pursued not only by the EU institutions, but also by states outside the euro zone like the UK. Alternative Keynesian policies of fiscal stimulus and/or devaluation, where applied, have done little to end the slump - households still suffered income loss. Austerity means a loss of jobs and services and reduction in nominal and real income. Keynesian policies mean a reduction in real income through higher prices, a falling currency and eventually rising interest rates.
Take Iceland, a tiny country outside the EU, let alone the euro zone. It adopted the Keynesian policy of devaluation of the currency - a policy not available to the euro-zone member-states. But it still meant a 40% decline in average real incomes in euro terms, and nearly 20% in krona terms, since 2007. Indeed, in 2015 Icelandic real wages were still below where they were in 2005, 10 years earlier, whereas real wages in the ‘distressed’ EMU states of Ireland and Portugal have recovered.
Iceland’s rate of profit plummeted from 2005 and eventually the island’s property boom burst and, along with it, the banks collapsed in 2008-09. Devaluation of the currency started in 2008, but profitability up to 2012 remained well under the peak level of 2004. Profitability of capital in Iceland has now recovered, but EMU distressed ‘austerity’ states, such as Portugal and Ireland, have actually done better and even Greek profitability has shown some revival.
Those arguing for exiting the euro as a solution to the crisis hold that resorting to competitive devaluation would improve exports, production, wages and profits. But suppose Italy exits the euro and reverts to the lira, while Germany keeps the euro. Under the assumption that there are international production prices, if Italy produces with a lower technology level than that used by Germany, there is a loss of value from the Italian to the German producer. Now if Italy devalues its currency by half, the German importer can buy twice as much of Italy’s exports, but the Italian importers can still only buy the same (or smaller) amount of German exports. Sure, in lira terms, there is no loss of profit, but in international production value terms (euro), there is a loss. The fall in the value rate of profit is hidden by the improvement in the money (lira) rate of profit.
In sum, if Italy devalues its currency, its exporters may improve their sales and their money rate of profit. Overall employment and investments might also improve for a while. But there is a loss of value inherent in competitive devaluation. Inflation of imported consumption goods will lead to a fall in real wages. And the average rate of profit will eventually worsen with the concomitant danger of a domestic crisis in investment and production. Such are the consequences of devaluation of the currency.
The political forces that wish to break with the euro or refuse to join it have expanded electorally in many euro zone countries. This year’s EU elections could see ‘populist’ euro-sceptic parties take 25% of the vote and hold the balance of power in some states, such as Austria, Poland and Italy. Yet the euro remains popular with the majority. Indeed, pro-euro sentiment has improved in 13 member-states since they joined,6 with double-digit bumps in Austria, Finland, Germany and Portugal. Even in Italy, which has witnessed a roughly 25-point decline, around 60% of people still favour sharing a currency with their neighbours. Greeks are still 65% in favour. What this tells me is that working people in even the weaker euro-zone states reckon ‘going it alone’ outside the EU would be worse than being inside - and they are probably right.
Ultimately, whether the euro will survive in the next 20 years is a political issue. Will the people of southern Europe continue to endure more years of austerity, creating a whole ‘lost generation’ of unemployed young people, as has already happened? Actually, the future of the euro will probably be decided not by the populists in the weaker states, but by the majority view of the strategists of capital in the stronger economies. Will the governments of northern Europe eventually decide to ditch the likes of Italy, Spain, Greece, etc, and form a strong alliance around Germany, Benelux and Poland? There is already an informal ‘Hanseatic league’ alliance being developed.7
The EU leaders and strategists of capital need fast economic growth to return soon - failing which, further political explosions are likely. But, at the start of 2019, the euro zone economies are slowing down (as are those of the US and UK). It may not be too long before the world economy drops into another slump.
Then all bets would be off on the survival of the euro.
Michael Roberts blogs at https://thenextrecession.wordpress.com.
1. See https://thenextrecession.wordpress.com/2015/07/19/the-euro-train-going-off-the-rails.
3. See https://thenextrecession.wordpress.com/2018/05/22/greece-the-spectre-of-debt.
4. See https://thenextrecession.files.wordpress.com/2019/01/123118-euroeconomicanalyst-weekly.pdf.