The eurozone’s labyrinth of paradoxes

Among austerity, recession and structural reforms the self-defeating policies of Eurozone.

A rare mood of fulfillment and complacency emerged among eurozone leaders in the first half of March, after the last European Summit. With the second bail-out of euro 130 billion and the debt haircut the imminent default of Greece on its debt had been avoided. At the same time, the spread was steadily diminishing on Spanish and Italian debt. Finally, the “fiscal compact”, strongly supported by Chancellor Angela Merkel, had been approved.

Yet each of these achievements indicates the striking paradoxes of the eurozone crisis’s administration. After this second bailout, according to the EU authorities and IMF, Greece is going to reach 120.5 per cent of debt-GDP rate in 2020. That is, even higher than the level that burdened Greece when the new-elected Prime minister George Papandreou unveiled the falsification of the budget by the previous conservative government of Kostas Karamanlis.

Then a gradual agreed solution could be implemented in favor of the new Greek government. But the European authorities rejected any assistance program, by imposing punitive interest rates and a harsh austerity policy inevitably bound to worsen the crisis by far.

Now, after three years of recession, growing unemployment and social disruption, the debt is at 165 per cent of GDP. And to come back to  120 per cent, just the current Italy’s level of debt, Greece should wait until the end of the decade. So the risk of the Greek default remains unchanged, and the paradox of the European insane policy toward Greece could not be more evident.
The true change in the eurozone policy has to be largely credited to the European Central Bank. Through the so-called longer-term refinancing operation, in a couple of months, more than one trillion euro, at low interest rate and looser collateral, was lent to around 1000 banks.  This action “avoided a major credit crunch” according to ECB president, Mario Draghi. But not only.

The banks went back to the market of sovereign bonds favoring a strong reduction of the borrowing cost for the most perilously crisis-hit countries as Spain and Italy. So, after a long and inconsistent debate on the ECB as lender of last resort toward the sovereign debt, ECB actually became lender of first resort in favor of the private banks, which through carry-trade operations could use the funds borrowed at 1 per cent rate from ECB to purchase the high yield bonds of distressed governments, gaining the difference, which is going to be paid by the taxpayers. This was the tortuous path of a hidden, huge “quantity easing” policy operated through the banking sector rather than the direct sovereign asset purchases. A new telling example of the paradoxes of eurozone policy under the fundamentalist German stance.

However, even though the ECB medicine has been useful to gain time, the sovereign debt problem remains unchanged, to the extent that the whole economic framework is not modified by the return to the growth. Over three years one trillion of new debts have to be reimbursed to ECB by the borrowers, while the weaker members of the euro zone collectively need to borrow some € 2 trillion over the next two years, according to Willem Buiter of Citigroup.

Here comes the third operation of which Berlin and Brussels felt apparently enthusiast, the fiscal compact. That is, the new legal commitment of each member State to restrain the budget deficit to 0.5 per cent of the GDP and to reduce the debt by 5 per cent each year until reaching the 60 per cent Maastricht parameter. Will the new doctrine work?

The first reaction came from Spain. The ink with which the pact had been written was still fresh when, upsetting the Eurozone authorities, prime minister Mariano Rakoy, pointed out that Spain, given the current economic situation, is not able to comply with the task of reducing the deficit from the current 8.5 per cent to 4.4 in 2012, announcing that the new government target would have been a  a deficit  of 5.8 per cent (but in the end forced by the Europen Commission to agree at 5.3 per cent)..

The reaction is perfectly reasonable. Spain is in recession and the unemployment is close to the 25 per cent of labor force, a level that remembers the Great Depression in the US in 1932 during  the last months of president Hoover. However, with a big difference. Then Franklin B. Roosevelt was going to take the presidency and to reverse the landscape through the New Deal policies. This time, European policies are moving just in the opposite direction. The eurozone’s recovery strategy is based on the supply-side policies, the core of which are the infamous structural reforms. That is the cutback of the social expenditure (principally the cut down of the social security) and the deregulation of the labor market. Immediately after being elected, Mariano Rajoy made legislation about the freedom of firing without “giusta causa” and the license for the business to unilaterally modify the collective contracts reducing the wages. He hoped to satisfy the Brussels demands and obtain comprehension on the side of the austerity measure. But, how we have seen, it was not enough.

Now is the turn of the Italian premier Mario Monti to show its compliance with the European requirements. The first commitment of the new technocratic government was the pension overhaul with the extension of the retirement age up to 67-70 years. The second one is the current attempt to eliminate the job protection rules stemming from the Statute of the workers’ rights, making free the individual dismissals for economic reasons, in other words the license to sack "at will”.

It is stunning to see as eurozone’s authorities are bound to destroy the credibility of the national governments imposing wild unpopular policies that also hit the democratic tenure. "The Greece is the first eurozone's colony",  wrote Wolfgang Munchau, vice-editor of Financial Times. Portugal seems to be the second candidate. But what about the bigger eurozone countries? For the moment Rakoy has been the first to take distance from the austerity imposition of the Berlin-Brussels axis. Mario Monti, the most “European” among the eurozone's heads of government has made it clear that Italy cannot take more austerity, already being in the middle of the recession and of growing mass unemployment.

But neither Rakoy nor Monti are , in the current phase, headed to make a real opposition to the Berlin-Brussels strategy. The true novelty could come from France where Francois Holland looks bound to gain the election in May. He is disputing the new fiscal pact, proposing its change in direction of a new growth policy. This has alarmed the Chancellor Angela Merkel, who is aware of the importance of the French partnership.

In effect, European Union was at its very beginning the outcome of the French and German determination. After more than half a century, in a context deeply changed, the European future continues to depend on the French-German relationship. At the beginning, France was the political center of the European construction. Today, Germany has got the leadership. Until now it has exercised its hegemony shutting the eurozone policy in a labyrinth of paradoxes. The way out is deeply uncertain. But it is also fair to guess that without a radical inversion of the current masochist attitude the whole building of the European construction is headed to a fateful self-destruction.