We knew the euro was a bad idea in 1961. What went wrong?

The eurozone is emphatically not an optimal currency area.

Everyone knows this action-movie story: a heroic, war-scarred veteran is promoted to a prestigious desk job, reluctantly hanging up his rifle in the process. But then the state finds itself under threat and his superiors in the bureaucracy turn out to be grossly inept. Eventually, our hero, fearing for the lives of his men and the good of the country, tells them where they can stuff their desk job, picks up his rifle and leads the troops to an epic victory.

The start of this tale is similar to what has been playing out in the Eurozone over the past decade. Countries, hoping to join the safety, prosperity and exclusivity of the Eurozone, readily hung up their weapons of monetary policy, fiscal flexibility and money-printing. But now they need them again, and they're nowhere to be found.

The dangers of currency unions are not only now emerging: they have been a central part of international macroeconomics literature for over half a century, since Robert Mundell’s seminal paper (£) on "Optimal Currency Areas" (OCAs) in 1961.

What seems to have shocked the Eurogenitors is that this longstanding theory was actually right.

OCA theory highlights the costs and benefits of common currency zones and suggests criteria that all states should satisfy before considering their formation. Benefits include increased intra-zone trade, lowered transaction/conversion costs and increased competition through price transparency, while Costs are mainly concerned with lost flexibility. Countries in the zone no longer have the ability to adjust to asymmetric shocks, whether by externally devaluing via currency pr internally devaluing via inflation.

So, could we use OCA theory to retrospectively solve the Eurozone’s problems?

Sadly not. First, many of the criteria which Europe does not meet – hence the original incompatibility – can never be met by it. And second, the Eurozone has created new problems that OCA theory never envisaged. What started as asymmetric shocks – a banking crisis and property bubble bust – have become a massive symmetric attack across the whole region as unarmed sovereigns are left with no policies to defend themselves whilst their very solvency is called into question.

A good example of the Eurozone’s economic incompatibility can be found in Mundell’s first classic OCA criterion: labour mobility. This represents one of the most marked differences between US states and Eurozone countries. If unemployment rises in Detroit – say, because demand for cars falls – workers can move to a state where there is more demand for work, easing Detroit’s unemployment. And Americans do move, frequently. The same is not true of Europe, partly because of the heterogeneity of labour markets but mainly due to culture and, most importantly, language.

So, would a solution to the Euro crisis be to teach everyone, say, German? Despite the obvious historical faux pas of imposing Deutsche Uber Alles, this would raise employment in the short run for Germans (as teachers) – the opposite of what is needed. Teaching English is out for the same reason, and besides, anything that promotes the meddling Brits would be shot down by the Europeans at the helm.

So, how about Spanish? Great idea. Youth unemployment in Spain is a whopping 52 per cent, and teaching your native language requires only a short course that the indignados could pick up in a few weeks. Eurozone-backed free Spanish lessons would ease unemployment (and the associated social benefits) in Spain, whilst the increased skills would further knowledge transfer across the continent and allow for better trade and business links with the fast-growing economies of South America as well as the US (over 10 per cent of the population are Hispanophones).

But of course this is folly. The Italians/Greek/Portuguese would ask, "why not us"? The French would be furieux; to many French diplomats, the very raison d’être of the European project was to spread the French language in defiance of English. They are not about to sponsor an attack on their langue maternelle from over the Pyrenees or anywhere else.

In fact, try though we might to come up with ingenious solutions, microeconomic reforms will not save the Eurozone. No matter what language you put it in, investors can see the current crisis for what it really is: a vote of no confidence in the currency itself.

But OCA theory may have one last bullet in the chamber. Another founding father of OCA theory, Peter Kenen, highlighted in a 1969 paper the need for fiscal integration.

For example, a demand shock in Detroit would not cause a fundamental questioning of the dollar. Instead, Washington would increase transfers to Motor City to allow it to rebalance without cutting state-level consumption and the Treasury would continue to borrow at low rates reflecting the might of the US economy as a whole.

Joining the Euro for many countries has meant surrendering their economic self-determination even while the bazooka-holding Germans have ignored the pressing need for action in the on-going war of attrition against their shared currency.

The Banking Union agreed to on June 27th may sever the link between insolvent banks and insolvent governments but the risk to the currency remains, and thus the unsustainable borrowing costs for peripheral countries will continue.

Everyone can see what Germany’s role in this tale is: either agree to fiscal integration, debt mutualisation and a genuine guarantee of the currency (the markets will know otherwise) or unlock the arsenal, give the Eurozone countries back their self-determination and bring the project to its conclusion.

The story of the European project has been one of peace, prosperity and co-operation for decades, but it is time the next chapter was written.

Robert Mundell, who knew the euro was a bad idea fifty years ago. Photograph: Getty Images

Dom Boyle is a British economist.

Grant Shapps on the campaign trail. Photo: Getty
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Grant Shapps resigns over Tory youth wing bullying scandal

The minister, formerly party chairman, has resigned over allegations of bullying and blackmail made against a Tory activist. 

Grant Shapps, who was a key figure in the Tory general election campaign, has resigned following allegations about a bullying scandal among Conservative activists.

Shapps was formerly party chairman, but was demoted to international development minister after May. His formal statement is expected shortly.

The resignation follows lurid claims about bullying and blackmail among Tory activists. One, Mark Clarke, has been accused of putting pressure on a fellow activist who complained about his behaviour to withdraw the allegation. The complainant, Elliot Johnson, later killed himself.

The junior Treasury minister Robert Halfon also revealed that he had an affair with a young activist after being warned that Clarke planned to blackmail him over the relationship. Former Tory chair Sayeedi Warsi says that she was targeted by Clarke on Twitter, where he tried to portray her as an anti-semite. 

Shapps appointed Mark Clarke to run RoadTrip 2015, where young Tory activists toured key marginals on a bus before the general election. 

Today, the Guardian published an emotional interview with the parents of 21-year-old Elliot Johnson, the activist who killed himself, in which they called for Shapps to consider his position. Ray Johnson also spoke to BBC's Newsnight:


The Johnson family claimed that Shapps and co-chair Andrew Feldman had failed to act on complaints made against Clarke. Feldman says he did not hear of the bullying claims until August. 

Asked about the case at a conference in Malta, David Cameron pointedly refused to offer Shapps his full backing, saying a statement would be released. “I think it is important that on the tragic case that took place that the coroner’s inquiry is allowed to proceed properly," he added. “I feel deeply for his parents, It is an appalling loss to suffer and that is why it is so important there is a proper coroner’s inquiry. In terms of what the Conservative party should do, there should be and there is a proper inquiry that asks all the questions as people come forward. That will take place. It is a tragic loss of a talented young life and it is not something any parent should go through and I feel for them deeply.” 

Mark Clarke denies any wrongdoing.

Helen Lewis is deputy editor of the New Statesman. She has presented BBC Radio 4’s Week in Westminster and is a regular panellist on BBC1’s Sunday Politics.