The European Union (EU) is reeling under a heavy blow dealt by the United Kingdom’s departure (“Brexitâ€). More fundamentally, the impact has rocked the very foundations on which the single currency was built.
Recall, if you will, the ideas put forth to legitimize the euro’s introduction by merging diverse national currencies into a single legal tender in early 1999. According to the crowding theory, the euro was meant to be introduced once there was sufficient economic harmonization or convergence among participating nation-states. The alternative was the cornerstone theory, whereby the euro was to compel adopting nation-states towards economic and political integration.
The Euro was meant to harmonize and compel participating nation-states towards integration. Neither happened.Neither theory panned out. Rather than growing closer, nation-states are drifting apart; the case for a single currency has not been strengthened but weakened. Many countries simply lack the discipline needed to adapt fiscal and economic policies to the demands of a stable common currency, and several were lured in by a very juicy carrot: a far too lax monetary policy.
The European Central Bank’s (ECB) policy triggered a colossal credit boom, particularly in countries on the periphery of the euro zone. These countries went broke when the inevitable bust came.
To prevent payment defaults on a grand scale, the ECB has pushed interest rates into negative territory. Listen closely and one can almost hear those electronic presses humming away in the ether, printing up piles of digital cash to keep credit flowing.
The ECB buys government bonds with newly created euros. This may provide some short-term relief for overstretched debtors, but it wreaks political havoc in the euro zone.
Dragged Down by Banks
A partial breakup or outright dissolution of the EU has suddenly become a possibility, and where the EU goes, the euro is sure to follow. This puts tremendous pressure on euro zone banks, which do their business across borders.
