What's Wrong with the Euro? (1)

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Maastricht Criteria on Government Debt and Annual Government Deficits

On 7 February 1992, the Maastricht Treaty was signed by the Members of the European Community.

Upon its entry into force on 1 November 1993 during the Delors Commission,^[3] it created the European Union and led to the creation of the single European currency, the euro. The Maastricht Treaty has been amended by the treaties of Amsterdam, Nice and Lisbon.

Source.

For a full picture, consult the above source for the 4 Maastricht criteria (concerning inflations rates, exchange rates, and long-term interest rates, while we discuiss in this blog only the fourt criterion: government finance, that is: the double requirements:

• The ratio of the annual government deficit to gross domestic product (GDP) must not exceed 3% at the end of the preceding fiscal year. 

• The ratio of gross government debt to GDP must not exceed 60% at the end of the preceding fiscal year.

Godley's 1992 EU-Compunction

In an article entitled Maastricht and All That published in the London Review of Books, Wynne Godley expresses concern about a momentous design fault underlying the new European currency.

Underlying Godley's worry is the assumption that that a sovereign state has three means of redressing serious economic decline, as manifest in insufficient economic activity and unemployment: it may resort to 

• (a) devaluation (to strengthen competitiveness vis-à-vis hard(er) currency economies) , 

• (b) government spending (to compensate a lack of private spending with public spending), and 

• (c) government borrowing.

The crux of Godley's warning with respect to the EU is that all three mechanisms are either terminated - (a) - or inordinately restricted - (b) and (c) - for the no longer sovereign member states of the EU.

Writes Godley,

If a country or region [engulfed in economic crisis, IGTU] has no power to devalue, and if it is not the beneficiary of a system of fiscal equalisation, then there is nothing to stop it suffering a process of cumulative and terminal decline leading, in the end, to emigration as the only alternative to poverty or starvation.

Source.

A no-longer-sovereign EU member country would indeed to borrow if it wished to spend more than tax revues. However, it's borrowing capacity has been limited to 60% of GDP. At the same time, it is not allowed to increase its deficit by more than 3% per year.

So, unless there are adequate financial transfers from some (sovereign?) agent (the EU?), countries find themselves with their hands haplessly tied in the face of widening economic distress. They cannot devalue, they cannot spend enough, and they cannot borrow enough to augment spending. They are dependent on some agent - presumably the EU - to make up for the shortfalls. 

Expectations of  a Strengthening and Convergence of Economies versus A Record of Decline and Divergence

Unsurprisingly, the EU, with its member countries severely restricted in their ability to adjust to an economic downturn, has shown a poor reaction to the General Financial Crisis (GFC), compared to the USA and the UK, turning it into a localised European Great Depression.

Rather than

mark[ing] a new stage in the process of European integration

Source Steven Keen, Lecture 7: Why the Euro Is Destroying Europe, time-mark 08:25

as the Maastricht treaty had proclaimed, disparities and inequality among the member states have dramatically increased, with Germany doing very well, while France, Italy, and especially Spain and Greece experiencing traumatic economic and social decline and political humiliation.

The "strengthening and convergence of their economies" prognosticated in the Maastricht treaty is turning out to be a weakening and growing divergence of the economies.

Continued in What's Wrong with the Euro? (2)