The Eurozone Crisis: Monetary Union and Fiscal Disunion, Part 2

Alejandro Reuss

Alejandro Reuss is co-editor of Triple Crisis blog and Dollars & Sense magazine. He is a historian and economist. This is the second part of a two-part series. Part 1 is available here. His article “An Historical Perspective on Brexit: Capitalist Internationalism, Reactionary Nationalism, and Socialist Internationalism” is available here.

Not United Enough?

If one could argue that the eurozone was “too united,” in regard to monetary union, one could equally argue that it was not united enough, in terms of the lack of fiscal union. In a federal political structure, fiscal union means that households and firms in the member states pay their taxes (at least in part) into a common federal treasury, and expenditures are paid out from this treasury back to people across the member states. This is not an exotic idea: The United States is a fiscal union in precisely this sense.

During a business-cycle downturn, a standard “Keynesian” policy response is to increase government spending or reduce taxes (or both)—to boost demand, output, and employment. Governments may push through new spending and tax legislation (fiscal “stimulus” programs) for this purpose—as, indeed, the U.S. government did during the Great Recession. However, some existing government programs result in increased government spending and reduced tax collection during downturns without any need for deliberate policy changes. These are known as “automatic stabilizers.” As an economy goes into a downturn, some people lose their jobs. Some see their hours cut. This reduces their incomes—but since many taxes are dependent on incomes, tax collections are reduced automatically. This helps to blunt the impact of the downturn. (As a thought experiment, to see how things would be if this were not the case, imagine that incomes were falling but each person or household still had to pay a fixed monthly tax bill.) There are automatic stabilizers on the revenue side as well. Government expenditures on unemployment insurance, for example, rise as people start losing their jobs. So, too, do public expenditures on pensions (like Social Security in the United States), as some employers downsize by enticing older workers to take “early retirement.” These expenditures, too, slow the fall in demand, compared to what it would be otherwise.

In the case of a crisis that affects different states differently, automatic stabilizers have the biggest impact in the states that are hit hardest. Their tax payments to the federal government decline more dramatically than those of other states, while expenditures from the federal government increase more dramatically. Florida and other U.S. states that were especially hard hit by the crisis were—like Greece, Ireland, Italy, Portugal, and Spain—part of a large monetary union. The states do not have their own currencies or conduct their own monetary policy. U.S. states are also greatly constrained in their fiscal policy. For example, most states have balanced budget requirements, which tend to result in dramatic spending cuts during economic downturns. (As incomes fall, tax revenues drop and spending must be cut to maintain balanced budgets.) That is, U.S. states shared many of the policy constraints that hamstrung individual eurozone countries in responding to the crisis. One ingredient that could have reduced the magnitude of the eurozone crisis, present in the United States but missing in Europe, was a mechanism for large and automatic fiscal transfers between member states.

Federal Unemployment Insurance for Europe

Some economists have proposed reforms that would move the EU’s fiscal system in the direction of fiscal union, especially in regard to “automatic stabilizers.” For example, Leila Davis, Charalampos Konstantinidis, and Yorghos Tripodis, in a Political Economy Research Institute (PERI) working paper, have proposed a federalized system of unemployment insurance for the EU. “The logic for fiscal transfers is well known,” they write, citing a considerable body of literature on the perils of monetary union in the absence of such transfers. “[C]ountries in monetary unions neither have independent monetary authority nor exchange rate control and, therefore, have limited policy options with which to respond to adverse shocks. Fiscal transfers across member countries can, however, mitigate the impact of asymmetric shocks, particularly in the context of restrictions on domestic fiscal spending.”

Bad Design or Bad Politics?

“The Eurozone looked like a wonderful construction at the time it was built,” writes Paul De Grauwe. “Yet it appeared to be loaded with design failures. In 1999 I compared the Eurozone to a beautiful villa in which Europeans were ready to enter. Yet it was a villa that did not have a roof. As long as the weather was fine, we would like to have settled in the villa. We would regret it when the weather turned ugly.”

In the wake of the crisis, criticism of the “design” flaws in the foundations of the eurozone has become widespread. If we take this to mean that the structure of the eurozone left the region vulnerable to a crisis, this is surely correct. The language of “design” flaws, however, is off in an important way. The problems of the eurozone were not merely the result of a technocratic design failure, but rather a political failure. There is plenty of blame to go around, and plenty of culpable parties should share in it—including industrial and financial capitalists, economists who spun appealing fairy tales about the benefits of “free markets,” and mainstream politicians who bought into an agenda of economic “liberalization.” Part of the blame, however, belongs at the feet of Europe’s mainstream social democratic parties.

The political failings of these parties—whether they go by the name Social Democratic, Labour, Socialist, or whatever—should by now be plain to see. In hard-hit “peripheral” countries, like Spain and Greece, the mainstream socialist parties not only failed to lead a resistance against austerity policies, but actually administered these policies. Meanwhile, the German government—one of the main villains in pressing austerity policies—includes the Social Democrats (SPD) in a “grand coalition” with the parties of the Christian Democratic right.

The abdication of European social democracy, however, dates from much earlier than the current crisis or the imposition of painful austerity policies. Greece’s former finance minister in the Syriza government, Yanis Varoufakis, traces it to social democrats’ embrace of neoliberal and financialized capitalism in the 1990s. “Europe’s ‘official,’ social democratic Left fell into the trap of believing that the welfare state need no longer be financed from a portion of profits exacted by political means from industry and commerce,” Varoufakis argued in a June 2014 post on his blog. “Instead, they could finance the welfare state by tapping into the rivers of privately minted money that the financial sector was printing (while waged labour was being squeezed and real estate prices soared).” These parties, in other words, dreamed of a technocratic administration of the social welfare state, utterly divorced from class struggle. Even as political and economic institutions—a European parliament, a European central bank, the euro, etc.—were being constructed for the EU as a whole, the social democratic welfare state remained confined to the level of the individual country. At the national level, individuals make payments into a common pool according to the tax code (some pay more, others less), and receive payments from that common pool—or services funded from that pool—according to various program criteria (some receive more, others less). The welfare state, largely a product of the workers’ movement and its political parties, is one institutional expression of the politics of social solidarity within those countries. The absence of fiscal union, at least in regard to social welfare, then, can be traced in part to the absence of a comparable politics of solidarity at the level of the EU as a whole.

What was constructed in Europe was, in short, not a social democracy writ large. Rather, as Financial Times columnist Wolfgang Münchau puts it, “when the eurozone was constructed, it was given neoliberal foundations.”

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One Response to “The Eurozone Crisis: Monetary Union and Fiscal Disunion, Part 2”

  1. GrkStav says:

    Neither Varoufakis nor you accurately (operationally accurately) characterize how sovereign states which issue (through their central banks) the currency in which they spend, ‘borrow’ (i.e. offer default-risk-free, interest-bearing financial instruments) and tax ‘fund’ or ‘finance’ their expenditures. so long as that fiat currency is inconvertible [whether to a specific amount of a specific commodity or basked of commodities (e.g. precious metals, or to other currencies at fixed exchange rates (i.e. prices)] and its exchange rate vis-a-vis other currencies ‘floats’.

    This nice little story about a ‘common pool of funds’ into which everyone contributes according (more or less) according to his/her/its ability and from which everyone (more or less) draws according to his/her/its needs (or to the democratically-arrived consensus about it) to characterize the ‘welfare state’ (nay, the modern state, period) is just that, when it comes to monetarily sovereign governments/states.

    Varoufakis’ account of the traditional social democratic welfare state as one that used to be ‘financed from a portion of profits ex[tr]acted by political means from industry and commerce” and then was thought to be capable of being financed “by tapping into the rivers of privately minted money that the financial sector was printing (while waged labour was being squeezed and real estate prices soared)” is a description of the ‘ideology’ or ‘legitimation’ of the two eras but it is not descriptive of the actual operations involved in either phase. The ‘weasel phrase’ “tapping into” makes very little sense, anyway. Nor does the notion that the financial sector was “printing” “privately minted money”; Private banks (licensed and chartered, of course, by States) have been issuing monetary instruments (deposit accounts) and crediting them (in the loan origination process) for quite a long time now. It’s only because such privately-issued monetary instruments have been guaranteed to clear at par with HPM (i.e. government monetary instruments) that they were ‘money’ anyway. Furthermore, it was not by ‘tapping into’ them that ‘fallen’ social democratic parties sought or thought to ‘finance’ the welfare state. This is a figment of Yanis’s imagination.