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Abstract
Economic and monetary union (EMU) started with serious flaws. Those flaws had been carefully diagnosed and yet no attempts were made to deal with them. As an original experiment, it would have been extraordinary that its design be perfect from the start. The fact that these flaws came together to generate the euro-area crisis is an indictment of the denial that has characterized the first decade of the monetary union. The costs of this denial have been enormous, including lost incomes, unemployment, bankruptcies, and dangerous political under-currents. We revisit three main flaws: the lack of planning to deal with financial instability, the lack of transparency of the ECB, and the poor articulation between monetary policy and national fiscal policies.
Acknowledgement
This article builds on a paper originally presented at CEPR’s 30th Anniversary Conference in November 2013, and issued as a CEPR electronic book.
Disclosure statement
No potential conflict of interest was reported by the authors.
Notes
This article builds on a paper originally presented at CEPR’s 30th Anniversary Conference in November 2013, and issued as a CEPR electronic book.
1. See Begg et al. Citation1998.
2. Other monetary unions differ in several respects from the European one. The closest precedent, perhaps, is the adoption of the dollar in the highly decentralized USA in 1790 and of the Federal Reserve System more than a century later. Several lessons from this experiment have been ignored, more below.
3. Similar concerns had been expressed a few years earlier in a forward-looking paper by Folkerts-Landau and Garber (Citation1992). See also Begg et al. (Citation1991).
4. The argument was laid out in Eichengreen and Wyplosz (Citation1998).
5. The underlying common pool externality is developed in von Hagen and Harden (Citation1995).
6. As anticipated in Begg et al. (Citation1998), the Pact was considered by European central bankers as a key element of stability, helping to ensure discipline in normal times but at the onset of a crisis it could turn into a stumbling block, implying that the whole burden of getting things back to track would rest on the shoulders of the ECB.
7. Policy coordination inside EMU was discussed in MECB 3 authored by A. Alesina, O. Blanchard, J. Galì, F. Giavazzi and H. Uhlig.
8. Here, we admit that we wrote that ‘Germany is no longer likely to play the role of enforcer of fiscal restraint’.
9. This national bias is reinforced by the appointment process of the Executive Board members by the European Council, which has been clouded by political maneuvering around national pressure. We return to the problems this raises in the next Section.
10. With one exception, Vermont. For an overview of this evolution, see Henning and Kessler (Citation2012). See also Gaspar (Citation2015).
11. Interview with Jean-Claude Trichet, Federal Reserve Bank of Minneapolis, 2004, http://www.minneapolisfed.org/publications_papers/pub_display.cfm?id=3304.
12. Jean Claude Trichet. ‘Communication, Transparency and the ECB’s Monetary Policy’, BIS Review 5/2005, 3.
13. Other central banks typically provide an inflation target and a margin of flexibility around the target. Svensson (Citation2003) has argued that the ECB’s definition hurts transparency.
14. The increase of the policy rate in June 2008, when the crisis was already building up, remains a mystery unless one accepts the primacy of a price stability objective defined not in terms of an inflation forecast but of current-month inflation only.
15. See e.g., ‘Selection of the central bank Council is a fait accompli’, by F. Giavazzi and C. Wyplosz, Financial Times, 10 February 2006.
16. A treaty requirement is that the ECB and the European Commission be consulted, but this is a formality designed to weed out egregious cases of incompetence.
