On its surface, the European financial crisis is about money. And there is a lot to be said on that score: with Greek one-year bonds closing on Thursday at 135 percent interest–slightly off their high of a week ago of 149 percent – the markets clearly regard a Greek default as all but inevitable. The continued efforts of European leaders and lenders to kick the can down the road have failed, in large part because while loans can address a liquidity problem, they are no cure for a solvency one. Unfortunately, Greece has both problems.
The answer of the Europeans and the IMF to the solvency problem has been austerity, with the predictable result that Greece’s GDP contracted 7.3 percent in the second quarter of 2011. Cutting back the overblown state is certainly part of the answer, but it is no panacea, if only because austerity based largely on tax hikes will likely cause Greece’s GDP to fall faster than it can cut spending – for it is doubtful politically or even practically that Greece can reach its austerity targets through spending cuts alone. The result will be an increase in Greece’s debt-to-GDP ratio, which not surprisingly makes the markets even more nervous about Greece’s ability to pay its debts.
Moreover, because – as Desmond Lachman of AEI has pointed out – interest payments account for only a small share of the Mediterranean periphery’s budget deficits, even debt restructuring will not solve the problem. The whole thing reminds me of the Irish joke about the traveler who asks a man how to get to Dublin. The answer: “Don’t start here.” There is no way out of this trap that does not involve someone – probably quite a lot of people – either losing a lot of money, having a much lower standard of living, or both.
But the underlying problem in Europe is not financial. It is political. And not political just in the sense the Germans are unenthusiastic about writing the Greeks a check of infinite duration and incalculable size, or the sense the Greeks (and others) have long borrowed a standard of living they did not earn, or the sense more austerity, a Greek default, or the break-up of the Euro will have vast political consequences in Europe and the U.S. It is political in the sense the entire European project was based on a retreat from democratic politics.
As Milton Friedman and others pointed out when it was launched, the Eurozone was not an optimal currency area. The Euro was justified as an essential contribution to European political unity. Yet as a currency, it could only work if that unity already existed or was cobbled together soon thereafter. It thus relied on the very conditions for success it promised to create. As long as the economic going was good, that paradox could be papered over. But in more difficult times, the fundamental lack of European popular acceptance of the prerequisite conditions would expose the Euro for what it was: a top-down imposition with a price too few Europeans were actually willing to pay.
The invaluable Dan Hannan recently quoted a reply from a British official to a concerned Briton who wanted a referendum on British membership of the EU. As Hannan writes, it wins points for the honesty with which it expresses its contempt for the will of the people, if nothing else:
Like you, many British people feel disconnected with how the EU has developed and about the decisions that have been taken in their name. The Government believes that membership of the EU is in the national interest of the UK. . . . For this reason, there will not be a referendum on this issue.
That goes to a comment President Vaclav Klaus of the Czech Republic made at the Heritage Foundation earlier this week, to the effect that being a European leader at a meeting of the European Council is very pleasant: there is lots of luxury, and because there are no voters, no opposition, and practically no media, there is no democracy. The European Parliament is not organized as an adversarial body, and – he might have noted – the European Court of Justice is required to always decide in favor of more integration. The EU is to democracy what Frankenstein was to his creator: all the parts look right, but none of them work right.
The underlying problem in Europe is not financial, or even economic. It is that we are no longer in the historical era of nation-making, and the entire raison d’etre of the EU is, indeed, to oppose nationalism. As former Europhile Max Hastings has recently confessed, that itself is a kind of narrow-mindedness. But it is madness to try to build an economic and political super-state on a base of contempt for the popular will and regular condemnations of nationalism, which historically is the force that has created unified body politics. Europe is not paying the price for too much borrowing; it is paying the price for too little democracy.