Why I am more pessimistic about the euro than are most people
Here is Willem Buiter, trying to make a case that the euro will survive. It’s an interesting piece, but in contrast I have focused my attention on two issues:
1. In my view, the survival of the eurozone is not simply a matter of adding up the current solvency deficits and comparing them to the available quantity of aid. Rather I see the aid recipients as leaky vessels. Pumping more money into those countries won’t recapitalize their banking systems. In fact, once leaving the euro is seen as an option, those banking systems will systematically lose both deposits and capital. Depositors are afraid to wake up one morning and have lost their euros. The banks in those countries can’t ever be sound, at least not until something gives.
Imagine if the FDIC weakened or eliminated its deposit guarantees to regional banks, once those regions started experiencing some economic troubles. That’s the parallel situation in Europe. If sovereign debt isn’t secure, how can the guarantees of those sovereign states to their banking systems be secure? And then why should non-guaranteed banking systems recover?
2. The best shot at patchwork regulation is to introduce a common resolution authority and a common bank deposit guarantee mechanism for the eurozone; Buiter discusses a related option. But ultimately that leads to full fiscal union or at least a eurobond. If you guarantee all of a country’s banking deposits, you are creating/guaranteeing a riskless security for that country. In the limiting case, imagine the government itself opening a bank and suddenly having guaranteed liabilities. You may or may not favor eurobonds and fiscal union, but I feel on safe ground predicting that they won’t happen. Nothing in the partial bailouts up until now has led me to change or weaken that opinion.
I do not so much see people denying #1 or #2, but I also do not see them starting with these as the main problems to solve. And thus I am more pessimistic than they are. But I am pessimistic about the survival of the full eurozone, which is not the same as being pessimistic about Europe. By the way, the latest news update is here and it isn’t good.