The rift between eurozone countries that borrowed too much before the crisis and their creditors continues to widen, but not enough emphasis is being placed on the role of the creditors themselves – the current account surplus countries – in creating these imbalances. The problem here is that, prior to the eurozone crisis, there were huge claims built up by northern European savers on the income of southern European borrowers. Before the financial crisis, countries that borrowed too much were arguably forced to do so because of the generosity of those who lent too much. If the borrowers had wanted to borrow more than the lenders wanted to lend, you would have expected interest rates continually to rise. But that didn’t happen; interest rates came down dramatically in southern Europe because actually it was the generosity of the lenders that was directing the flow of funds, not the desperation of the borrowers.
Before the financial crisis, the Germans were lending heavily to southern Europe through the purchase, directly or indirectly, of southern European governments’ bonds, which caused the interest rates on those bonds to come down dramatically. That’s fine, until you get to the point where economic activity proves to be far weaker than had been expected. If income is then much lower than expected, it becomes a political question as to exactly who pays for the failure of income to pick up, and for the fact that the debtors cannot easily pay the creditors.
The creditors argue that it should be the debtors who pay the bill, because they are the ones who borrowed too much in the first place, therefore they should be confined to years of austerity. The debtors on the another hand might say ‘you, creditors, were lending to us on a foolish basis in the first place, and we cannot deliver austerity year after year; eventually our political institutions will collapse and, actually, you the creditors also have to take a share of the cost of this adjustment.’ But because in the eurozone there is no political process to decide how that cost of adjustment should be shared out, there is now a breakdown of trust between different countries, a huge increase in financial uncertainty and the recurrence of problems year after year. It is time for the surplus countries to take their share of the blame for the imbalances.
Germany’s view is that it runs a current account surplus because its exports are so competitive it cannot do otherwise. But imagine if every country in the world had exports as competitive as Germany’s. They couldn’t all have current account surpluses; it just doesn’t work like that; so there is something wrong with that argument. It is perfectly possible to be very competitive and still run a current account deficit: it depends what you choose to do with the profits you earn from exports. You could pay them domestically in the form of significantly higher wages, in which case you would have higher domestic consumption and therefore higher imports. Or you could put these profits in domestic investments, which will also probably mean more imports because you’ll probably have to import some of the raw materials to make the capital goods for some of these investments. Or you can lend money to parts of the emerging world which you think are going to be quite dynamic in the future. Or instead, like many Germans indirectly did, you could lend the money to southern Europe because you don’t want to take currency risk. But, of course, there was default risk instead, because if you lend at excessively generous terms to people who may thereafter struggle to repay, it’s not just the people who borrowed too much who are at fault; it’s also those who lent too much. As far as the global economy is concerned, the idea of default by stealth – by depreciating the exchange rate – has been used time and again, but the eurozone does not have that option. The lesson here is that monetary unions tend to work only if there is an accompanying political and fiscal union as well. Throughout the crisis there has been a view that the monetary authority can resolve all the issues. But we know from the Cypriot example that even with an OMT programme – which would allow the European Central Bank to buy bonds – waiting in the wings, it is still quite feasible to have a big dispute over who picks up the cost of some kind of economic or financial failure. In the eurozone, the situation should probably be resolved by a combination of three things: moves towards fiscal and banking union; moves towards a political union; and some kind of one-off restructuring of debt which basically accepts the principle that both creditors and debtors stand to lose out because they’re two sides of the same coin.
- Stephen King is Chief Economist at HSBC. His new book 'When the money runs out: the end of western affluence' is due to be published in June. Interview by Antonia Oprita
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