Monetary unions are successful mostly when they are also fiscal and, dare I say it, political unions too. Think, for example, of the UK – even if the Scottish Nationalists would prefer a rather different arrangement – or the US. The eurozone doesn’t yet share these credentials. On the evidence of the now-defunct Latin and Scandinavian monetary unions – and, for that matter, the rouble area following the collapse of the Soviet Union – this threatens to be a fatal flaw. This is no longer an issue for the periphery alone: with France and the Netherlands both now under strain, some investors are beginning to wonder whether the eurozone is rotten to the core.
The key question is this: is it possible to construct some kind of legitimate fiscal and political union for the eurozone while, paradoxically, allowing member states to enjoy some degree of sovereignty?
The answer, I think, is a cautious “yes”. We talk about fiscal and political unions as if they are all much the same thing. They clearly are not. The UK’s union is glued together more securely than America’s. Sales taxes are the same all over the UK whereas anyone who’s travelled from New York to Delaware will know that, in the US, there can be significant differences. There are, then, different ways of constructing a fiscal and political union.
I propose that the eurozone create a “fiscal club”. Members of the club would, most of the time, enjoy fiscal autonomy. If, however, their fiscal positions deteriorated to the extent that they could no longer raise funds in international markets at a reasonable interest rate, they would automatically receive a bailout from the other club members. The key condition of the bailout, however, would be an immediate loss of fiscal sovereignty. During the bailout phase, the country’s finance ministry would be run by Brussels, thereby establishing a contingent principle of “no eurozone taxation without eurozone representation”.
This then, would be a political rather than financial penalty. I would hope that, threatened with a loss of sovereignty, nations would run their fiscal affairs more conservatively, delivering surpluses during the good times to reduce the risk of Brussels stepping in.
The club would have democratic legitimacy. All countries within the eurozone would be able either to opt in or to opt out. The decision could either be made by national parliaments or be put to a referendum. But the choice would be clear. Those countries opting in to the club would benefit by having access – in extremis – to the tax revenues of all other club members, thereby reducing the risk of default and, hence, of widening spreads on their bonds. In time, club members would be able to take advantage of common bond issuance. The cost would be a contingent loss of sovereignty but countries that behaved themselves fiscally would be unlikely to face that particular humiliation.
Those countries choosing to opt out – thus retaining sovereignty under all circumstances – would have no access to the tax revenues of other eurozone countries in the event of fiscal slippage. They would be at the mercy of international bond markets. They would surely be faced with a permanently higher cost of borrowing relative to those who stayed in. Even worse, their capital markets would increasingly be balkanised, leading to weaker long-term economic growth. Sovereignty would come at a high price.
Those in the club would have made a further step towards pooled sovereignty but they would still be recognisable as independent nation states. They would, however, have accepted three important principles: first, monetary union only really works with some kind of fiscal and political union; second, pooled tax revenues are a vital part of a successful monetary union; and, third, any moves towards fiscal and political union will only be successful if they enjoy the support of the people.
Those outside the club, meanwhile, would have to get used to life as euro-ised nations with no fiscal support from their neighbouring club members: the equivalent, perhaps, of dollarized Ecuador and Panama.
The risk of my scheme is obvious. If no one votes in favour of the club, the euro simply crumbles. But for the euro to survive, some kind of risk needs to be taken. The euro needs some form of collective democratic legitimacy. A fiscal club would be one way of providing it.
The writer is HSBC Group’s chief economist and the bank’s global head of economics and asset allocation research. He is a member of the Financial Times Economists’ Forum