ECB: 'Europe must bear the burden of its own shortcomings'
ECB executive Lorenzo Bini Smaghi wants to keep the IMF out of Europe.
From the 34th floor of the European Central Bank building in Frankfurt it is easy to see that large parts of the city were destroyed during the Second World War. Unlike Dresden, few houses and public buildings were rebuilt here, but over the years empty areas have been filled up with commercial and industrial buildings. Even from the air, the city wouldn’t not win any beauty contest. But, pretty or not, Frankfurt has become one of the financial centres of Europe.
Listening to Lorenzo Bini Smaghi, one of the Bank’s six executive board members, one gets the impression that the construction of Europe shows similarities to that of Frankfurt. When asked about the lessons he has learnt from the crisis, he replies without hesitation: “The most important lesson for me is that the construction of Europe is not finished. The construction of Europe always takes place on the basis of functional criteria: if there is a problem, you solve it. If there is no problem, you don’t. That’s the way we are building Europe: only when something is needed will we take action.”
Such a moment could be on hand again. While the Bank’s executive board members are careful not to make any controversial statements (after all, financial markets weigh their every word), Bini Smaghi (born in Florence in 1956) does not try to avoid the subject: the Greek debt crisis that is shaking the very foundations of the euro. The other euro area countries have imposed strict expenditure cuts on Athens, which the Papandreou government is now implementing. The country has virtually been put on a leash, to ensure discipline does not lapse again. The ECB is closely involved in this supervision. This is not self-evident: normally it is the task of the European Commission, guardian of the Stability and Growth Pact. But if there is one European institution that is capable of convincing the financial markets at the moment, it is the European Central Bank.
The euro has had ten calm years. Will it survive this first storm?
“I’m not sure whether the first decade of the euro has been such an easy ride. Many people, especially in the United States, thought that the euro would not survive for very long. We have certainly seen a few crises. First the dotcom bubble burst. Then there was 9/11. We have had a fivefold increase in oil prices. And the euro has also weathered the biggest financial crisis since the war well, that of the banks in 2008. People had their doubts whether the ECB could manage a new currency. But inflation has remained stable, at around two percent, and per capita growth has not been lower than in the United States. International trade has suffered some severe blows during the crisis. If we hadn’t had the euro, exchange rates within Europe would probably have fluctuated wildly. I can assure you: speculators would have had a field day.”
Now they’re after the euro. Is the euro in danger?
“The challenges facing us are not worse than those facing other countries.”
“The United States, Japan and the United Kingdom.”
What is the challenge for Europe? That a monetary union cannot survive without political union?
“I wouldn’t say that full political union will necessarily solve all problems.”
What do you mean?
“The biggest blunder of recent times, the bankruptcy of Lehman Brothers in September 2008, was committed in the United States, a country with a strong executive. This happened a few weeks before the elections, during a leadership vacuum. People panicked. Politicians focused far too much on the elections in October, and could not look beyond that day. Nobody pointed out longer-term interests to citizens. This caused the short-sighted argument that no taxpayers’ money should go to Lehman to win out. Europe has no political union, but we have not made such an unbelievable blunder.”
Here, Greece is threatening to collapse.
“Greece has seriously misbehaved. It will now have to get back on track without endangering the rest of the euro area. Technically, this should be feasible. Did you know that the US State of California is in a worse financial position than Greece? The spreads are larger there than here. And nevertheless, California’s problems are less contagious to the rest of the United States.”
Doesn’t that stand to reason? Investors know that Washington will not allow California to fail. They have bail-outs. In Europe, large money transfers of that sort are impossible.
“Correct. That makes prevention all the more important to us. The European Ministers of Finance should have implemented the rules laid down in the Stability and Growth Pact. They haven’t been strict enough. As early as 2003, there was a crisis regarding the Pact, as a number of countries violated the rules and did not accept to be sanctioned for that. We should not forget who stood at the origins of the relaxation of the rules”
Have ministers also been too nice to Greece?
“The Greeks have misbehaved. They even withheld data. They carry the main responsibility. But it must be said that European ministers acted too late. In an incomplete political union, without any central authority, peer pressure is vital. And this pressure proved to be too weak.”
Should we have a stronger, central authority? Greece may be followed by other countries.
“Yes, we should go a step further. We have no choice. That’s the way European unification proceeds. First we had a common market. Because there was not enough competition, a real internal market was established. But that market was hampered by exchange rate fluctuations. That is the reason for the single currency. When problems arose with fiscal discipline, the Pact was amended. We are now missing another link in the chain.”
Should the Pact be stricter?
Should there be enforceable sanctions for misbehaviour?
“Sanctions are not enough. You have reached the end of the road by then. Prevention is absolutely crucial. Supervision, for instance, must be improved considerably. But that is not all. At the time, we set up the currency union, so that we would no longer be the prey of financial markets. But now that a country is implementing considerable fiscal corrections, that have been approved by the Council, financial markets remain skeptical. On 11 February, the EU Heads of state and government said that they would not abandon Greece if it took the right steps. The country is doing that now. In fact, it is doing even more than that. We are pleased about this and have said so – but investors continue to test whether the Heads of Government really meant what they said. They are testing the euro area’s decisiveness. All this indicates that not only must the management of the euro be enhanced, and be given more powerful means for preventive action and sanctions, but we also need a financial mechanism. So that we are ready when the euro is attacked.”
What do you think of the plans for a European Monetary Fund? Jean-Claude Trichet, the president of the ECB, has said that, as yet, there is no official view on this matter and that the plans require further study and discussion. But colleagues of yours have been critical about them.
“Initially it was only an acronym, and now the bones are being fleshed out. I think that it is important to work towards such a mechanism, provided that it meets certain conditions. For instance, there can be no bail-outs with taxpayers’ money for euro area countries. This would be in violation of the Treaty. But help can be provided temporarily to a country that still needs support even though it is implementing all measures imposed by the Eurogroup. What I have read in the press about statements by German finance minister Schäuble seems very reasonable and deserves to be explored further.”
Providing help: the IMF can do that, surely?
“I think it is better to have our own European solutions, instead of solutions imposed by an organisation whose shareholders have an important say in the matter, but the majority of whom are not European. I also consider it wrong to engage the IMF when what didn’t really work as expected is the European Stability and Growth Pact. If it is the Pact that did not work properly, Europe should fix it. As an incentive, that is important. If countries know that the IMF will help them out anyway, they will not be sufficiently encouraged to comply with the Pact the next time.”
You want a European Fund that may only provide funds as a true last resort. So recourse to it must be made as difficult as possible? This could help strengthen the Pact?
“The mechanism and the Pact may reinforce each other, yes. In the past, ministers did not dare to be tough to one another, because they had nothing to gain. If ministers know that they might ultimately be asked to provide financial support to one country, they will be tougher with that country ex ante.”
Doesn’t the IMF prick European pride a little?
“It’s not only prestige that’s involved here. Euro area countries need to be aware that this situation was caused by their own laxity. Solid prevention only works if countries take more responsibility for their actions. This will not be possible if the IMF is waiting in the wings, you know. That’s the gap we will have to fill.”
Can’t the IMF be much tougher than an EMF could be?
“I don’t see why. Within the IMF, the Europeans have always been among the toughest of the lot, especially on conditionality. That is common knowledge.”
Are you in favour of a European economic government, as suggested by the French?
“I’m not saying that a single European government is the next step. What I am saying is that prevention should be improved considerably. As a result of the banking crisis, banking supervision is being intensified. You can do the same thing for countries, in order to identify problems at an earlier stage and to correct mistakes in a timely way. Only if, despite everything, it is really necessary, you need to have an emergency mechanism. Misbehaviour must never be rewarded, but we should prevent extreme cases like the failure of Lehman Brothers. Sometimes you have to do something because it would be worse not to do it.”
The European Commission is currently putting forward proposals for greater economic cooperation. Is that enough?
“Be careful, our European system has many advantages, which some people tend to forget. The Federal Reserve in the United States, for instance, is currently buying large quantities of government bonds. The United Kingdom is doing the same. If we, too, had a more centralised system like they do, we would perhaps be pushed to do the same. In that case, we would have a less independent ECB. A less than fully centralised system has advantages as well.”
What is the advantage in this context?
“Our system is forcing us to address the fiscal adjustment problem, while others are just postponing it. At the end of the day, that is better.”
Have European politicians learned the right lessons from the crisis?
“We need more European leadership. Politicians must be able to look to the future and explain to citizens why certain policy choices are better in the long term. Too many politicians use “Brussels” as a scapegoat, I think. But “Brussels” is no more than the place where national ministers meet and take decisions. If they took better decisions, they would not need to pass the buck to a city. But, yes, in times of crisis, instinct is sometimes stronger than reason.”
You haven’t answered my first question yet. Will the euro survive?
“Of course it will – for there is no country that would want to get rid of the euro!”