For more than two years, Europe’s leaders have delayed and prevaricated as the survival of the single currency has grown ever less certain. “If the euro fails, then Europe fails,” the German chancellor, Angela Merkel, has said, implying an unconditional commitment to the single currency. Yet her narrow focus on austerity has left it on the brink of collapse. The Greek people, now enduring a fifth year of recession, may have handed a narrow victory to the pro-bailout New Democracy in their country’s second election in two months but relief among EU leaders was dispelled when Spanish ten-year bond yields climbed above 7 per cent, the level that forced Greece, Portugal and Ireland to seek bailouts.
The prospect that Spain, the eurozone’s fourth-largest economy, and Italy, its third-largest, could default on their debts is the greatest threat to the euro’s survival. The EU has the firepower to keep Greece in the single currency, in the form of the €750bn European bailout fund, but it would struggle to assemble a rescue fund large enough to save Italy and Spain and the single currency itself.
It is this realisation that has finally pushed Mrs Merkel to consider the hitherto unthinkable. Under pressure from Barack Obama, who fears that a eurozone crash could disrupt the fragile US recovery, and the French president, François Hollande, who has won the strongest possible mandate to promote growth rather than austerity, the German chancellor has reportedly agreed to allow the eurozone’s bailout fund to buy up the bonds of EU member states in order to reduce borrowing costs. If so, and we await the full details, the move is welcome. To paraphrase Winston Churchill on the US, Germany has done the right thing after exhausting all the available alternatives. There is no guarantee that this strategy will succeed; bond traders may continue their assault on Spain in the expectation that the EU will blink first. But, for the first time since the crisis began, Germany has recognised the need for extraordinary measures.
A debt purchase programme would be a step towards the creation of a eurobond market, through which Germany would underwrite the debt of the single currency’s poorer members. It is incumbent on Germany, which, as an exporting nation, benefited more than any other from the creation of the euro, to throw its full economic weight behind the currency. In addition, it must tolerate higher-than-average inflation as the price for allowing the peripheral countries to rebalance their economies and increase their competitiveness.
From its vantage point outside the eurozone, the British government has delivered a series of increasingly shrill lectures to EU leaders. George Osborne said that the UK’s “recovery” was being “killed off” by the crisis. The truth is that the Chancellor accomplished that all by himself. It was his austerity rhetoric (he compared the UK economy to that of Greece) and his measures, most notably the 2.5-point rise in VAT to 20 per cent, and his absurd claim that Britain was on “the brink of bankruptcy”, that destroyed confidence and choked off growth. With the exception of Italy, Britain is the only G20 country to have suffered a double-dip recession.
In response, Mr Osborne, a “fiscal conservative but a monetary activist”, appears to have subcontracted his growth policy to the Bank of England. The latest policy wheeze from Threadneedle Street – an £80bn “funding-for-lending scheme” – will do little to revive the economy at a time when the creditworthy, for fear of worse to come, are unwilling to borrow and those who are willing to borrow are uncreditworthy. The UK’s fundamental problem, a collapse in aggregate demand, remains unaddressed. As Mr Osborne is so fond of boasting of the UK’s historically low bond yields (though they owe more to the Bank’s quantitative easing programme than to his deficit reduction programme), the least he could do is take advantage of them. He should increase borrowing to fund higher infrastructure spending (the most effective stimulus, according to the Office for Budget Responsibility) and tax cuts.
The one European leader willing to put the case for stimulus over austerity is Mr Hollande, now buttressed by the first Socialist parliamentary majority since 1998. He has called for a €120bn “compact for growth and jobs” to be agreed at a summit in Brussels later this month and implemented before the end of the year. His plan deserves the support of all EU leaders. While the collapse of the euro may be averted, the danger of enduring stagnation remains. If Europe’s prosperity is not to be lost, there will be no alternative to stimulating growth. It is time Mrs Merkel acted accordingly.