And the Weak Suffer What They Must?
The structural case against the euro's design, from the Greek side of it.
Summary
Varoufakis wrote this as the analytical companion to his account of the 2015 Greek negotiations, tracing the eurozone's design problems back through the postwar international monetary system.
The historical argument starts with Bretton Woods, which he presents as a system that worked because the United States ran surpluses and recycled them, and which broke in 1971 when that stopped. He argues that the subsequent arrangement, in which the United States ran deficits and absorbed the world's surpluses while foreign capital funded them, provided a recycling mechanism of a different kind, and that Europe's response was to attempt fixed exchange rates without any recycling mechanism at all.
His central claim about the euro is structural. A monetary union with a single interest rate, no fiscal transfers, no banking union at inception and no mechanism for recycling surpluses from creditor to debtor states must produce divergence. Capital flows from surplus countries into deficit countries during the boom, inflating them, then reverses in the bust, leaving debts that cannot be devalued away and adjustment that must fall entirely on wages and employment. He argues that this was known at the design stage and accepted for political reasons, and that the crisis response, which extended loans conditional on austerity, made the arithmetic worse rather than better.
His proposed remedies include a European investment programme funded by the European Investment Bank, a banking union with genuine risk-sharing, and debt restructuring.
Varoufakis writes polemically and treats his opponents' positions unsympathetically. The structural analysis of an incomplete monetary union is mainstream and predates him, appearing in the optimal currency area literature and in warnings from economists at the time of the Maastricht Treaty. What is distinctive is the framing around surplus recycling, which is his own and which not all economists accept. Since publication the eurozone has added elements of banking union and, in 2020, common fiscal issuance, which addresses part of his critique.
Key takeaways 7
- A monetary union without a mechanism for recycling surpluses from creditor to debtor regions will diverge rather than converge.
- Bretton Woods worked while the surplus country recycled its surpluses, and it broke when the United States moved into deficit.
- Capital flowing from surplus to deficit eurozone members during the boom created the debts that could not be adjusted in the bust.
- Without devaluation, adjustment in a monetary union falls entirely on wages and employment, which is politically unsustainable.
- Lending to an insolvent state conditional on austerity increases the debt ratio rather than reducing it.
- The euro's design flaws were identified before its creation and accepted for political rather than economic reasons.
- Banking union without shared deposit insurance leaves each state responsible for its own banks, which links sovereign and bank risk.
Who should read it
Investors and operators exposed to European sovereign and banking risk who want the structural critique of the monetary union stated in full.
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