The Rotten Heart of Europe
The franc fort, the ERM crisis and the politics of monetary union.
Summary
Bernard Connolly headed the European Commission unit responsible for the European Monetary System, and he was suspended and then dismissed for publishing this book in 1995. It is an attack on the exchange rate mechanism and on the monetary union then being prepared.
His analytical argument is that a single monetary policy imposed on economies at different points in their cycles produces booms and busts rather than convergence, that the resulting adjustment falls on employment because exchange rates and independent monetary policy are unavailable, and that the political system cannot deliver the transfers that would compensate. He also argues that the exchange rate mechanism's crises of 1992 and 1993 demonstrated that fixed rates without full union are unsustainable, and that the response was to accelerate rather than reconsider.
His political argument is that monetary union was pursued as a means to political union, that the economics were subordinated to that objective deliberately, and that the officials involved understood the risks. He names people and describes meetings, which is what made the book intolerable to his employer. Connolly writes with sustained hostility and the tone damaged his reception. His specific predictions about the consequences of monetary union for the periphery were substantially borne out after 2008, which has improved his reputation considerably. The book remains a polemic and should be read as one.
Key takeaways 7
- A single monetary policy imposed on economies at different cyclical positions produces booms and busts rather than convergence.
- Adjustment under a single currency falls on employment, because exchange rate and monetary instruments are unavailable.
- The 1992 and 1993 exchange rate mechanism crises demonstrated that fixed rates without full union are unsustainable.
- Connolly argues that monetary union was pursued as a route to political union and that the economics were deliberately subordinated.
- Officials involved understood the risks, according to Connolly's account of the meetings he attended.
- Political systems cannot deliver the fiscal transfers that a currency union without adjustment mechanisms requires.
- The book is a sustained polemic whose specific predictions about the periphery were substantially borne out after 2008.
Who should read it
Investors in European assets who want the insider critique of monetary union made before it happened, read as polemic with a good forecasting record.
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