Event ReportsPublished on Jun 12, 2019
Eurozone Reforms – A case for politics first

This event report outlines the major findings of the ORF Fellows Seminar that took place on the 30th of May, 2019 at the Observer Research Foundation. The event featured ORF Senior Fellow Britta Petersen’s recent paper – A second-class funeral: Political dynamics of the Eurozone reforms. The subsequent discussion touches upon problems of governance around the Eurozone in the context of the European integration process, as well as contemporary reform proposals.


Britta Petersen, Senior Fellow, ORF

Gulshan Sachdeva, Professor, School of International Studies, Jawaharlal Nehru University

Harsh V. Pant, Director, Strategic Studies Programme, ORF and Professor of International Relations, King’s College, London

Jaimini Bhagwati, former Indian Ambassador to the EU and RBI Chair Professor at the Indian Council for Research on International Economic Relations (ICRIER)

In her refreshing paper, Ms Britta Petersen attempts to analyse the political discourses around the Eurozone reforms. By delving into the historical processes that paved the way for a common currency, Ms Petersen is able to identify contesting discourses and structural flaws that constitute a major hindrance for further European integration. This crystallizes in reservations against a monetary union and further prospects to form a fiscal union. Whereas there is a consensus between European nations for a greater co-ordination of economic policies and monetary cooperation, major fault lines unfold on an ideological as well as a geographical level.

In particular, German economists were reluctant to abandon the alleged safety of their national currency – the German Mark (D-mark) – and a stability oriented fiscal policy. Fears were raised that the lack of budgetary discipline in several European countries would make a monetary union a transfer union in which economically stronger states would pay for their inflationary counterparts. In contrast to Germany, France and south European countries rather used inflation and borrowing as a policy-tool to affect economic growth and reduce unemployment. The German economists warned that the Euro could result in acute economic tensions and political struggles that would endanger the project of European integration.

Despite the warnings German politicians pushed for further economic integration and the introduction of the Euro in order to enable German re-unification and an intertwined European nation system. This drive can be described as a trade-off with French politicians who were rather reluctant to accept a unified Germany and therefore made German integration an incentive for it. Thus, Political considerations did away with economic concerns – notably the ability to devalue ones currency. Nevertheless, further economic integration in the aftermath was not accompanied with (much needed) political unification.

During the European debt crisis the concerns of the economists mostly proved to be true. Ms Petersen, regardless, points out that this crisis would have come anyways. She argues that if we try to analytically separate the introduction of the Eurozone (economic integration) and the European integration process (political unification) we disregard that both are highly intertwined. To favour one over the other is mostly a doubting game. If one would not have started with the Euro in the first place there wouldn’t have been further steps into a political nor financial union. A common European budget or finance ministry (fiscal union), as suggested by Emmanuel Macron, makes the monetary union a prerequisite.

The financial crisis was handled by the Euro group (Representation of European Finance Ministers) that set-up the European Financial Stability Facility (EFSF) and the European Stability Mechanism (ESM). The European Central Bank (ECB) also contributed by lowering interest rates and providing cheap loans to maintain money flows. In 2012, the EU announced unlimited help, bail-out guarantees and outright monetary transactions.

The crisis revealed the disparities within Europe and the need to take combined action. However, the actions taken were driven by European elites and lacked democratic legitimacy. The question of how to govern the Eurozone remains a challenging topic and mostly remains in the hands of European middle powers. The right policy mix to tackle future challenges is in order. Three reform suggestions will remain relevant in the upcoming years:

  • The insurance solution

An attempt to reconcile market discipline and risk sharing. At the core is a joint fund to support individual countries in the event of major financial crisis. Every state would need to contribute to it according to its economic performance. A claim on it would result in higher future contributions.

  • Structural democratization

The European executive (European Commission) would become accountable before the European parliament. This approach will get more traction due to the outcome of the recent elections and strengthen the democratically elected parliament. It will insist on having a much stronger word on who will head the EU commission (in contrast to major states that would prefer to appoint the president themselves) and in turn become more democratically accountable. Having a sizeable EU budget is on the table but needs to be higher than agreed upon by German chancellor Merkel (less than 1% of the Eurozone GDP at the moment) to provide bail-out capacity for financially debilitated states.

  • The credit solution

Would feature a joint European unemployment insurance scheme. Like in the insurance solution a fund would be set up into which all countries pay in order to be able to receive financial support in future crisis. Received benefits are to be paid back accordingly.

Ms Petersen concludes that the European integration process is not yet finished and Europe needs to adapt to a changing global order. The Euro is an integral part of this integration process and has weathered a really severe crisis. The fundamentalist critique against the introduction of the common currency is nevertheless exaggerated whereas additional reform measures need to be initiated. This will make not just the Euro more crisis resistant, but also the European Union as a whole.

Dr. Jaimini Bhagwati emphasizes that the common European currency was in essence a political decision and not an economical; an important differentiation that is too often disregarded by economists. According to Dr. Bhagwati we have to access the EU from a multi-perspective approach that takes account of political-strategic, economic, and social-linguistic aspects. Domestic particularities play into EU affairs and are reciprocally informed by supranational policies as well as global and regional affairs. That makes political-economic issues more complex and intertwined. Dr. Bhagwati states that, despite having NATO as their security guarantee, European history and the spread of comparatively small states on the European landmass makes Europeans aware of the fact that political unity is imperative for the region. For him the Euro is in the first place an economic construct which is based on a political driver for greater union.

Accordingly, Dr. Bhagwati highlights Mario Draghi’s announcement of 2012 that the ECB will initiate all necessary means to tackle the financial crisis, which subsequently soothed the markets. Draghi understood the political essence of the EU and his role as ECB president to secure this unity. This becomes even more important when we consider that the EU has very disparate levels of productivity, unemployment and fiscal responsibility and is in no way a homogeneous block.

Dr. Bhagwati condemns right-wing rhetoric within Europe that favours a withdrawal from the EU back to national isolationism. In regard to European monetary policy he says that, “In order to have a monetary union you need a financial union.” Nevertheless, some countries – such as Greece and lately Eastern European countries – were not ready to join the Eurozone. Integration needs to go slowly in order to facilitate states with the much needed capacities to adapt.

About the effects of Brexit Mr Bhagwati has mixed feelings. He states that if Britain remains in the EU, the common market is larger which is beneficial for all. On the other hand, if Britain leaves, they will feel more insecure and bend together.

 “The Euro was a political and not an economical decision.“ – Dr. Jaimini Bhagwati

Prof. Gulshan Sachdeva attenuates the criticism against the Eurozone reforms. He states that in every major project you will face warnings beforehand. However, the EU did a successful job when it comes to the management of demonetisation and the introduction of a new monetary system.

Prof. Sachdeva sees current problems of the EU rooted in the Eurozone. The sovereign debt crisis, the possible default option for Greece as well as the subsequent banking crisis, contemporary issues of unemployment, and the rise of the right, are interlinked with the Eurozone. Disparities between states are still a major issue in Europe and economic and political stability needed. Attraction to join the Eurozone is quite missing at the moment.

The monetary union is lastly to be seen as a necessary reform that facilitated a better governance of the Eurozone and the EU at a whole. The Euro helps to lower transaction costs and increase price transparency, thus increases regional competition and market efficiency. However, it is embedded in the larger European integration process that at times was overhasty and lacked concurrent measures to tackle social and economic inequalities between states. If we look at the upcoming designation of the ECB president, a viable candidate needs to accommodate strands from the fiscal stability oriented blocs as well as strands that see the ECB as a policy tool for intervention in times of crisis. Nevertheless, excessive government deficits need to be prevented. Possible reforms have been mentioned, but more political will and consensus is needed to implement them. Particularly major states need to act more responsible and tackle inequalities within the EU at the first place. External shocks can just be faced if internal cohesion is obtained. In the same way Integration is not a one-way road and takes combined efforts to be fruitful.

This event report was written by Marius Elbracht, Research Intern, ORF Delhi 
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