HELSINKI — The European Union’s common currency area has been muddling through crises from its inception. The aftereffects of the most recent turmoil — triggered by the 2008 financial crisis — are still being felt today. Unpopular austerity measures and reform programs, made necessary by the pressures of the crisis of over-indebted governments, have led to widespread social malaise. Populism and social tensions are on the rise across the eurozone.
National governments and the European Commission have responded with proposals to improve the architecture of the eurozone. These measures are important and laudable, but they cannot work on their own. Ensuring stability in the eurozone will require national governments to bring public debts down to sustainable levels. Until and unless this is done, the problems afflicting the common currency area will continue.
The shock of the last crisis prompted a range of extreme “solutions” — from the dissolution of the eurozone to the erection of a fully fledged federal union. Fortunately, consensus for a more sensible middle way has prevailed: the reinforcement of key aspects of the common currency area.
Most important among them are the strengthening of the European Stability Mechanism (which provides financial assistance to crisis-struck countries) and the completion of the banking union (which provides for EU-level rules, supervision and resolution of banks across the eurozone).
While these alone won’t fix the problems of the eurozone, if done correctly they can help contain some of its dangers. Improvements to the banking union offer the opportunity, for example, to place limits on how much government debt banks can have on their books.
Any support from Europe must be temporary and not expose taxpayers to excessive risks.
At the moment, the rules allow banks to take on too much risk when it comes to public debt. As a result, when a crisis hits the government, the problem quickly radiates to domestic banks. This connection, between sovereign debt and the stability of the banking sector, is one of the biggest threats to financial stability in the eurozone.
Another necessary measure is the creation of a common deposit insurance, which would guarantee the savings of individual depositors. Such a scheme would further reduce the link between public debt and domestic banks. It can only be put in place, however, if existing risks to banking systems — in the form of bad loans and excessive exposure to public debt — are first reduced.
This brings us to the underlying causes of instability in the eurozone: unsustainable levels of government debt. The countries that suffered the most under the last crisis had something in common: years of excessive spending and the accumulation of debt, whether public or private. Eurozone-wide measures cannot substitute governments conducting sound policies. To the contrary, offering financial assistance to governments at risk of insolvency will only make the problem worse.
Any support from Europe must be temporary and not expose taxpayers to excessive risks. Financial support to countries with unsustainable public debt would undermine incentives to maintain sound policies, which would be against the general aims of EU treaties.
Juha Sipilä, prime minister of Finland | Aris Oikonomou/AFP via Getty Images
It would also create conditions in which the Commission and the Eurogroup would have to intervene, exchanging financial assistance for inevitably painful austerity programs. This is often seen by the recipient countries — not altogether wrongly — as the de facto loss of economic sovereignty.
Finally, an approach that ignores unsustainable debt will almost inevitably lead to permanent fiscal transfers and tensions between countries. Beneficiaries and contributors would both be made to feel they have no control over their own budgetary and economic sovereignty. Such schemes are therefore neither politically or economically desirable.
The most important thing national governments can do to improve the eurozone is put their fiscal houses in order. Countries can improve their ability to withstand fiscal shocks by saving in good times, in order to be able to introduce countercyclical measures when a crisis hits. Common funds would be better oriented toward encouraging reforms, rather than maintaining unpopular bailout programs.
That’s why we must introduce procedures for the orderly restructuring of debt. We’ve made great strides in this area when it comes to banks. It’s time we make similar efforts regarding government debt. The eurozone is a great achievement. Ensuring its survival will require good incentives, market discipline and responsible fiscal policies by all its members.
Juha Sipilä is prime minister of Finland.
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