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The European Monetary Union on a Bumpy Road – Challenges and Solutions for an Uncertain Future

Ten years after the outbreak of the European financial and debt crisis the European Monetary Union (EMU) faces new challenges. Whereas interest rate cuts to and below zero and extensive bond purchases helped to prevent the break-up of the euro area, new risks emerged from asymmetric business cycles, uncontrolled public debt and political polarization (Belke, Domnick, and Gros 2017; Schnabl 2017). In Italy, the unwillingness to consolidate public debt has triggered a sharp rise of risk premiums on government bonds. While France attempts to stabilize the EMU by implementing a common euro area budget, extending the European Stability Mechanism and introducing a common deposit insurance scheme, in many northern European countries the skepticism against what is perceived as a “transfer union” is growing. In the face of the still lingering European financial and debt crisis, this issue of the Economist’s Voice provides a comprehensive evaluation of the status quo of the European Monetary Union. The included papers develop and evaluate strategies to stabilize EMU on its bumpy road towards an uncertain future. For this purpose, leading economists provide their expertise on one of the most vital global economic policy issues in five policy papers. In the policy forum, economists from all over Europe discuss perspectives and options for reform of the euro area. Thus, the readers gain valuable insights into the future path of EMU. In their contribution “Core-Periphery Relations in the Eurozone” Paul De Grauwe (London School of Economics) and Yuemei Ji (University College London) start from the observation that the countries whose currencies experienced devaluation in the 1990s were also the countries that experienced sovereign debt crises in 2010–2012. They analyze, if the sovereigns that got into the sovereign debt crisis carry an “original sin” that, during the 1990s, showed up in the form of frequent foreign exchange crises. If the answer is positive, there is a lot of determinism about the question of whether countries belong to the periphery and thus are likely to face more turmoil in the future, as it is difficult to escape from “original sin”. This analysis leads the authors to discuss how EMU can be stabilized. Gunther Schnabl (Leipzig University) scrutinizes the role of diverging fiscal policy stances for diverging current account positions in Europe with a focus on the EMU. In a heterogeneous monetary union, fiscal policy has the task to absorb asymmetric shocks to ensure the efficacy of the one-size monetary policy. The author argues in the paper “Fiscal Divergence and Current Account Imbalances in Europe” that divergent fiscal policies combined with monetary expansion constituted a major determinant of current account divergence, which finally led into the European financial and debt crisis. Panel regressions reveal a significant impact of fiscal policies on current account positions, which are independent from the exchange rate regime and turn out to be contingent on the monetary and fiscal policy mix. In his paper “Secular Stagnation, Unemployment Hysteresis and Monetary Policy in the EMU: Scratches but not Scars” Ansgar Belke (University of Duisburg-Essen and Centre for European Policy Studies, Brussels) investigates whether and how unemployment may serve as a target for central banks in general and for the European Central Bank (ECB) in particular. He argues that the strength of mutually reinforcing links between the demand and supply side of the macroeconomy (hysteresis) is an important issue for monetary policy makers. The Blanchard and Summers type of hysteresis should not be taken as the basis of one-to-one recommendations for the monetary policy strategy. Implementing bold counter-cyclical monetary policies to cope with hysteretic unemployment is neither necessary nor sufficient. Instead, subtler forms of hysteresis still leave some room for monetary policy to maneuver, but in a much more complex way. Daniel Gros (Centre for European Policy Studies) outlines an “Evolutionary Path towards a European Monetary Fund”. He shows that there is no need for Europe to replicate the International Monetary Fund (IMF).