The Euro.
Whence it came, where it goes


The euro's ambivalent foundations

The political context
The motives behind the introduction of the euro were diverse. The euro was presented as a building block in the 'ever closer union' of EU member states. Furthermore, even if downplayed officially, the European Monetary Union (EMU) was intended to become a second financial center area, questioning the 'exorbitant privilege' of the US benefitting from creating the dollar, the money on which the world economy operates. Another motive, especially in the context of German unification after 1989, was again, as in the case of NATO and previous European communities, to firmly integrate Germany, or putting it more bluntly, to curb Germany's potential preponderance in Europe.

Particularly from a French point of view, the euro was about doing away with the Deutsche Mark which had become the continental lead currency. It is often said that replacing the D-Mark with a European currency was the price the French President, Mitterrand, charged for putting up with reunification. Whether this is so remains unclear. Several attempts at a currency union had been made already in the decades prior to 1989. But it is no secret that Mitterrand nursed a grudge against what he saw as German 'currency hegemony', likening the D-Mark to a kind of 'nuclear force'.[01] However that be, France and Germany started from different ideas about monetary policy. The French imagined a soft-going currency susceptible to the preferences of statist politics, while the Germans started from the ordoliberal idea of stable-currency policies by an independent central bank, observing separate responsibilities for monetary and fiscal matters.[02]  

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Factor mobility. The theory of optimum currency areas
Economists were debating whether the theory of optimum currency areas following Mundell supported the EMU.[1] Rather than having a national currency for each nation-state, the theory of optimum currency areas deems a currency union beneficial if a number of conditions are met, notably (1) a high degree of intra-union trade, (2) union-wide capital mobility and (3) labour mobility.

Intra-union trade and cross-border product chains could be seen as promisingly developing. Mobility of capital was possible without hindrance, but was, and still is, lower than possible. Much of banking and finance relate to a national base and frame of action, even if international engagements have been growing considerably. Regarding union-wide labour mobility, the situation is similar. Free cross-border movement of labour can basically be taken for granted, but actual labour mobility is rather low and mostly follows a pattern of periphery-to-centre migration.

Overall, and as far as the theory of optimum currency areas posits, the situation seemed to be favourable for a currency union, even though the criteria were not perfectly met. Politics apparently hoped for EMU to bring about the necessary conditions over time. 

The theory of optimum currency areas also points out that member states waive national monetary and foreign-exchange policies as a matter of fact. The related policy options are transferred to the union level, in the case of the euro to the ECB and the Eurosystem in which national central banks are generally subordinate to the monetary policies decided by the ECB's Governing Council. As a result, EMU member countries should have met the challenge of internal readaptation of interest rates, prices, wages and government budgets in lieu of resorting to the previous habitual practice of external readaptation by devaluing the national currency. In many of today's euro member states, currency readaptation has been a handy short-term remedy to compensate for structural deficiencies by incurring ever more debt, prompting a degree of inflation and currency devaluation. Over time, however, this has resulted in losing out to the competition. Mere cost competition does ultimately not win much and comes as a last defence. Having to devalue the currency should be seen as a strong warning signal rather than a habitual remedy.

Replacing external with internal readaptation is in fact a crucial element of the euro deal, but was not plainly stated at the time. Which politician would dare say that a value-preserving common currency is also about readjusting living standards to real national capacities rather than resorting to the habitual dose of deficit spending and debt accumulation? Except for a number of dissident economists, who were rebuffed, it was not even acknowledged that external vs internal readaptation is a fundamental question that must be dealt with, for if the EMU, as with any other currency union, is to work, all member nations have to accept the one-size-fits-all monetary and currency policies of the ECB.

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Cross-border disparities and imbalances
Many economists warned against the euro on the ground that the member countries are too diverse, representing disparities with regard to productivity, export base, competitiveness and income. Disparities can be a social and political issue, but are not a decisive criterium for a common currency. According to the aspect of centre-periphery segregation all big nation-states such as the USA, China, India, Russia, Brazil, would in fact have to be classified as non-optimal currency areas, showing large disparities in financial, economic and social aspects between different national regions – disparities often more important than those in the EU. All of these countries recurrently went through severe crises, but sharing a common currency was never at stake, except in the American Civil War.

A similar argument relates to foreign account imbalances, that is, trade deficit and net capital import on the one hand, and trade surplus and net capital export on the other. If such imbalances become too big over a long period of time, they grow into a sizeable problem. Financially, this relates to the classical creditor-debtor problem, in which net import countries run into chronic over-indebtedness, often including inflation and currency devaluation, and net export countries run a considerable risk of over-exposure, that is, seeing their foreign assets devalued and their claims on foreign debtors becoming void.

In the worst case, both sides lose much: the debtors their creditworthiness and purchasing power (living standard) for a longer period to come, and the creditors the capital fruits of their productive work for export. As long as business is doing well, export nations are the envy of others. If however things are not working out well anymore, export nations get the short end of the stick, having worked for others in vain. US-economist R. Wray thus characterises the habitual deficit policy of his country, based on the exorbitant dollar privilege, as a 'beggar thy neighbor' strategy.[1b]

In the real world, there are no fully balanced cross-border trade and capital flows. At the beginning of the currency union, such intra-union imbalances were not an issue, rightly so, because such imbalances are basically no more of a currency problem than regional disparities are. However, when the debt crisis hit in 2010–12, net import and debtor countries were quick to blame everything on the net exporters of goods and capital, as if it were not obvious that there are two complementary sides to the problem. National over-indebtedness is of a country's own making. The same applies to the over-exposure of net export countries that sell to chronic deficit countries, while at the same time possibly even financing their debt.

In the Keynesian hemisphere of economics, the euro crisis is interpreted in terms of foreign-account imbalances rather than in terms of overindebtedness. Basically, however, there is no difference between a debt crisis and a crisis of entrenched imbalances. The reason is that the basic causation of entrenched imbalances does not run from export to import countries, but quite the reverse from import countries funding their foreign purchases by incurring debt. If they did not, export countries could not sell in excess.  

In this context, sector balances play a problematic part, or rather the misinterpre­­tation of balances in surplus and deficit. Sector balances are a special variety of a national account system, built upon an aggregate model of a private, public and foreign sector of an economy. If need be, this can be subdivided further.[1c] Debiting a sectoral account and crediting another one represent pairwise entries. Thus, the sum of all pairwise account entries as well as the bottom line of all accounts are netting out. So far, so good. 

The problematic elements come into play when particular balances are interpreted arbitrarily, for example, when deficits and ever growing debt levels of the public sector are declared to be irrelevant on the grounds that these are complemented by income and wealth of the private sector; or when the surpluses of net export nations are declared to be the 'cause' of the deficits and debt of net import nations. These are methodologically untenable conclusions. It might be a more consistent working hypothesis to assume that chronic deficit and debt in one account contributes to chronic capital overshoot in other accounts. Independently: the resulting numbers at the bottom line are not self-explaining. Aggregate balances do not tell us who stroke which deal when and why, and how the deal was funded.

Entrenched current account imbalances are a problem, as is any constellation of over-investment and over-indebtedness. This can be a currency problem for a debtor country when its currency devalues while its foreign debt does not. Within the euro this is not possible. A problem of threatened cohesion of the common currency only arose from the moment when 'systemically relevant' bankers, firstly from France and Germany, were making frightening calls over the weekend. They wanted their assets to be saved by government and central-bank interference, and debtor governments wanted huge bailouts to avoid insolvency and internal national readaptation.

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Brief digression: 'Export Champion' Germany

As regards Germany in particular, even Ms Lagarde, the then French treasurer and later on head of the IMF, held the country responsible for the euro crisis on the grounds of keeping wages and consumption too low, allegedly selling to but not purchasing from other euro countries. To insinuate playing foul in this way is overly partisan and in a way surprising from the representative of a nation where mercantilist policies have quasi been part of the cultural heritage for centuries.

For once, just a little more than a third of Germany's surpluses comes from the trade with euro countries, the bigger rest stems from non-euro countries and non-EU countries such as the US. The export-import coefficient in the trade with euro countries is 1.21, less than the 1.26 in the trade with non-euro countries.[2]

Western Germany has been a net export country since 1952. Until the beginning of the euro, this was never seen as a particular problem. Even if this were not so, to expect a seller to sell less while buyers want to buy more, does not make sense from an entrepreneurial point of view, and is presumably hypocritical any­way. What should Germany buy abroad in even bigger quantities? What is the reason when there are value-chain asymmetric trade relations?

In the 1990s and at the beginning of the currency union, Germany's unit labour costs were still among the highest worldwide. At the same time, the country had to bear the huge costs of unification, converting a rotten communist economy into an up-to-date structure and raising the eastern living standards (concerning 20% of the population) closer to the western levels. During that period, with high conversion unemployment in the East, the German trade unions preferred stable employment to hefty wage increases, without anyone having a feeling of 'not consuming enough' (which in a time of general mass consumerism is a strange consideration anyway). Overall, Germany's growth emerged as very low at the time, and many a foreign commentator took pleasure in depicting the country as Europe's 'sick man'.

On the other hand, no one considered the wage levels in deficit and debtor countries to be unrealistically high. The fact is, however, that respective countries preferred incurring ever more debt to readapting internally. Wages, pensions and other such payments were funded by additional public and private debt rather than being paid out of actual proceeds and tax revenues.

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Prevailing national patterns. Divergent concepts of monetary and fiscal policy

If cross-border disparities and imbalances do not by themselves pose a genuine currency problem, there must be other reasons why a currency union can run into trouble. An obvious reasonbelittled by the economic theory of optimum currency areas, but apparent in the cross-border imbalances problemis prevailing national identities, including national patterns of political and economic behaviour.

A national currency can persist despite non-optimal factor mobility, regional disparities and imbalances if and as far as there is the unifying common cause of a shared national identity, the feeling of belonging to the community of citizens of a nation-state or community of states. Equally important are shared national policies, in particular cultural and social policies in a broad sense, from the mode of living, education, mentality and attitudes, via labour market regulation to social security, health, welfare and transfer policies.

Regarding the euro, nationally divergent concepts of monetary and fiscal policy are particularly relevant. The defining choices revolve around loose versus tight money, deficit- and debt-permissive fiscal policies versus balanced-budget and debt-averse policies, government-guided monetary policy versus independent central banks, interest-rate manipulation versus market-borne interest rates, acceptance of higher inflation versus only low inflation, weak versus hard currency preferences and similar contrapositions. Such opposite choices are defining for the political partisanship within each country, but also for the characteristic comparative differences between national policies. In relation to the EU and especially the euro, it is an open secret that the diverging concepts of monetary and fiscal policies have become defining for a north-south divide.

The north-south formula is certainly simplistic, but may be accepted here, so as to avoid recurrent listings of various single countries slightly changing from one aspect to the next. Basically, not only Cyprus, Greece, Italy, Spain, Portugal and partially also France and Belgium, but all euro member countries, in fact almost all old-industrial countries worldwide, have similar structural problems regarding unsound finances, over-indebtedness, and lack of overall economic dynamism. The differences in degree are nonetheless significant.

Independently, most monetary policy makers today view monetary and fiscal policy as a tandem at the service of economic policy. From such a monetary-fiscal tandem point of view, a common currency needs to be complemented by common fiscal policies regarding taxes, the budget and sovereign debt. The respective conditions in the EU, however, were diverse and thus not conducive to common fiscal policies in the currency union. Citizens and politicians remained first and foremost citizens and politicians of their home country rather than feeling themselves to be citizens of the EU.

As a substitute for common fiscal policies, the future partner states thought to impose fiscal discipline by decreeing the 'euro convergence criteria', commonly known as the Maastricht criteria from 1991–93. Concerning fiscal and financial aspects of a future currency union, the treaty set critical thresholds such as a budget deficit up to 3% and a sovereign-debt limit at 60% of GDP, as well as a short- and long-term inflation rate not exceeding 1.5 and 2.0 percentage points above the average of the three EU states with the lowest inflation rates. The numbers represented a mirror image of what the situation was at the time. Scientific evidence for these and other such limits is lacking up to the present day.

The discipline was also thought to be strengthened by the no-bailout rule of the Lisbon Treaty. Art. 125 TFEU stipulates that 'The Union shall not be liable for or assume the commitments … of any Member State'. The Article can also be seen as an unspoken agreement on the cession of the member states' sovereign monetary prerogatives, including cession of the option of external readaptation. The no-bailout rule and waiving the option of currency readaptation, which includes the preparedness of all member countries to accept internal readaptation, are indeed two sides of the same coin.   

The euro was a political initiative, but sold to the public on grounds of supposed economic advantages, for example, reducing transaction costs, facilitating trade, improving price transparency, strengthening the common market, and establishing the euro as a trading, finance and reserve currency that would be an alternative to the dollar as the only important lead currency at the global level. Such expectations were not fully taken out of thin air. The EMU represented 19 of 28 EU member states (27 after Brexit). The stock of 11.1 trillion euros (M2 at the end of 2015) is comparable to the corresponding amount of 12.3 trillion US dollars. The euro is also an important international trade currency with a share close to 25% in cross-border payments. But its role as a second reserve currency has recently been declining, and the euro has never assumed an important role either in trade finance beyond the euro area, or in global securitisation. The expectations attached to the euro have apparently been overstated as has quite often been the case with grandiose EU initiatives that regularly overestimate real capacities and potentials.

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The euro crisis is a banking and debt crisis - which was turned into a currency crisis

From 2000 until 2008/09, indicators seemed to support those who had attributed favourable expectations to the euro. After a first slump against the dollar and other currencies the euro was continually revaluing, and a pronounced downward convergence of interest rates in all euro countries seemed to confirm the hoped-for financial and economic integration. The only hint of bitterness was price increases upon the introduction of euro notes and coins in 2002 when prices were converted from national currencies to the euro. Retailers and small businesses took advantage of the price conversion with mark-ups.

In contrast to the complacent halo, convergence between euro countries turned out to be illusory. The financial markets, in particular bonds and housing finance, had embarked on one of their biggest recent failures which was the irritating downward convergence of interest rates, especially the rates of euro-country sovereign bonds, irrespective of a country's economic strength, real productivity, soundness of public and private finances, and levels of income and indebtedness. The markets believed the euro proponents and betted on the weaker-currency countries becoming more like harder-currency member states. Over the years this proved to be unrealistic but had caused an equally unrealistic reduction of sovereign bond yields throughout the monetary union, resulting in a credit and debt bubble rather than efforts to restructure and modernise.  

The debt binge of governments was funded by a corresponding binge of primary bank credit and secondary financial-market investment. At the same time, the same banks and institutional investors both in America and Europe significantly contributed to funding the subprime housing bubble in the US and real estate binges in Ireland, Spain and other places.

The US subprime and housing bubble burst first, in 2007-08, also in Ireland and Spain. This was called a financial crisis, but more precisely speaking, was a transatlantic banking crisis as a result of the subprime and property crisis. Thereafter, from about 2010-12, the euro crisis set in. At the beginning it was but a sovereign debt crisis in a number of euro countries triggered by the banking crisis.[3] Owing to the subprime crisis, many banks incurred heavy losses on property-related loans and securities. As it was not clear which banks were affected and how much, all banks stopped lending to each other and the interbank money market (central-bank reserves market) broke down. The non-rescuing and immediate collapse of Lehman Brothers and the insolvency of the credit default insurer AIG provided evidence of the entire banking system threatening to collapse unless rescued by the respective central banks and governments.

However, the governments coming to the rescue of banks caused another hike in sovereign debt, prototypically in Ireland and Spain. Most old-industrial governments were already over-indebted at the time, which is to say, most of them had entered into a stage of permanent debt rollover, i.e. substituting new for old bonds rather than redeeming the debt, but still paying the interest on it. The fatal trend was furthered by the general long-term decrease of interest rates since the late 1980s.

The resulting additional hike in sovereign debt made the rescued banks and other institutional investors nervous about their holdings of sovereign debt, even though the last straw here consisted of additional sovereign debt taken up in order to rescue banks that were holding toxic asset-backed securities and: sovereign bonds. Quasi overnight the banks and rating agencies reassessed the creditworthiness of various governments. The asset value of affected bonds collapsed and interest on new bonds soared, depending on the country. This provoked the second stage of the banking crisis, now related to the sovereign debt crisis, i.e. the bursting of the sovereign debt bubble that was built up in the preceding decades.

Governments hit by the sudden reassessment of their creditworthiness threatened to default, and the banks and financial institutions holding such bonds were confronted with another wave of losses. The north-south divergence in the eurozone became plainly visible, with the affected debtor governments in the euro south and the affected creditor banks and the later creditor governments mostly in the euro north.

Rather than leaving the sovereign bonds and debt bubble to the markets, and especially to creditor banks and debtor governments, finance and politics embarked on euro doomsday rhetoric, and northern countries hastened to bail out southern countries. The public was told the euro was at stake, and thus the EU. Whether this was panic-stricken hyperbole or rather cool-headed calculation leaves us with the same problematic result and consequences.

The banking and debt crisis need not have been framed as a currency crisis of the euro. For example, since about the 1840s single US States have defaulted time and again, but this has never been a reason for questioning the dollar as the national currency. The reason is that since the 1840s there is no bailout, and both creditor institutions and defaulting States do not expect to be bailed out. In the eurozone, however, once the rhetoric of the euro crisis was established, the ensuing neonationalist confrontation between the bailing-out north and the bailed-out south eventually resulted in the much-invoked euro crisis. Basically, that crisis still comes down to an unresolved, artificially protracted banking and debt crisis. However, if persisting and aggravating over another prolonged period, the banking and debt crisis might break the euro in the end indeed.

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Crisis management on the part of the eurozone governments. The central lapse of EMU: breach of the rules of no bailout and internal readaptation

When the subprime crisis hit in Europe in 2008, and particularly after bankruptcy of the Lehman bank and insolvency of AIG, central banks and governments came to the rescue of the banking industry, driven by the threat of a total 'meltdown' of banking and finance. In addition to the measures taken by the central banks, as discussed in the next section, the governments stepped in by
-    giving generalised state guarantees on bank liabilities
-    recapitalising insolvent banks
-    setting up state-funded bank rescue funds
-    setting up state-run bad banks so as to discharge private commercial and investment banks of toxic securities and non-performing loans.

With these and similar measures the governments stressed their role as guarantor of last instance in today's state-backed private bankmoney regime.

From 2010–12, when the sovereign debt crisis in southern euro countries set in, the ECB and national governments again came to the rescue of still tumbling banks and institutional investors, and this time also to the rescue of the devaluing sovereign bonds and the governments that had issued these bonds. They now threatened to default and were facing difficulty in rolling over and servicing their public debt. Measures taken by the euro governments included
- bilateral emergency loans
- multilateral country-specific rescue packages
- followed by EU bailout institutions such as the EFSF (European Financial Stability Facility) and the EFSM (European Financial Stability Mechanism) both in 2010, which were then
- replaced by the ESM (European Stability Mechanism) in 2012. The latter institutions not only support national governments, but also banks in respective countries via the governments.

Starting with Greece, ESM rescue programmes systematically included collaboration with the International Monetary Fund (IMF). Northern creditor governments hoped that IMF participation would enhance acceptance of the conditionality tied to rescue loans (which proved to be another illusion). Beyond interest rates and maturities favourable for the southern debtor countries, conditionality also included elements of austerity such as significantly reducing state expenditure (health, pensions, welfare, subsidies, and public investment), imposing higher taxes, and selling off public companies and infrastructures to foreign investors. As a supervisory body checking the implementation of the bailout programmes the 'Troika' was installed, consisting of officials from the EU Commission, the ECB and the IMF.

As the crisis unfolded, governments and central banks showed a tendency not to care about the rules they had signed up to. The Maastricht criteria were neglected as a matter of fact, more so than was already the case prior to the crisis, starting in 2003 with France (Chirac) and Germany (Schröder). During the negotiations in the 1990s, Germany had insisted on strict fixation of the respective targets, with two characters after comma so to say, much to the amusement of the French who dubbed the German Treasurer Waigel 'Monsieur trois virgule zéro'.

Another example is Art. 123 (1) TFEU which prohibits central-bank financing of the government. Art. 123 (2), though, allows for open-market purchases of sovereign debentures for monetary fine-tuning purposes. Over the crisis years, Art. 123 (2) has been extremely overstretched by the ECB into what is interdicted by Art. 123 (1), that is, overt monetisation of public debt.

The most striking example, however, is the breach of the no-bailout rule of Art. 125 TFEU, which from the onset of the crisis was ignored without hesitation. All of the government actions and arrangements listed above were nothing else but intergovernmental bailout, at first rather situational, then in systematic arrangement, and thus a deliberate and firmly institutionalised breach of Art. 125 TFEU. Scarcely anybody cared, and almost all of those responsible blocked out that the tacit suspension of the no-bailout rulean indispensable rule in a cross-border currency unionhad definitely set the seal on the euro crisis rather than having saved the euro.

Eventually all parties were pushing for bailout – at first and constantly the banks and institutional investors who wanted their liabilities to be warranted or even reduced (for example, by customer bail-in) and demanded their bad loans and devalued assets be propped up, or assumed by government bodies and the ECB. Also pushing for bailout were the most exposed sovereign debtor governments struggling to avoid default. Finally, the northern euro countries too had joined the bailout community. By putting themselves in the role of creditors within a joint liability community, they had trapped themselves in a bailout constraint, resulting in a series of follow-up bailouts, seeking to avoid southern sovereign default and trying to prevent the loss of the many hundreds of billions of euros that were now at stake in the euro bailout arrangements.

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The results from government interventions

Delayed crisis resolution, bailout instead of internal readaptation, neonationalist confrontation

The public was told the emergency was about the euro and the further existence of the EU. Primarily, however, it was about saving the banks' balance sheets and enabling them to get rid of toxic securities, thereafter also of sovereign bonds, and preventing southern sovereign defaults and a spreading of the sovereign debt crisis to northern euro states. But instead of solving the banking and debt crisis, the measures taken prolonged the banking and debt crisis, and brought about the euro's currency crisis. The decisive de-anchoring was the coup-de-main-like annulation of the no-bailout law, a major pillar of the currency union, reflecting the refusal to bear the credit risk on the side of creditors, and the non-acceptance of internal readaptation on the side of debtor countries. What turned the banking and debt crisis into a currency crisis of the euro was in fact the breach of the rules of no bailout and internal readaptation.

The situation that was created in this way is untenable in at least three respects. Firstly, the crisis has so far been deferred rather than resolved. Admittedly, the choice was straightforward: financial catastrophe now, or continued bailouts, intergovernmental transfers, excessive quantitative easing (QE), negative interest rates, and other ways of financial repression from now on. Under conditions of a credit and debt overhang, the hangover seems indeed to have to face either financial repression or a financial breakdown the severity of which can hardly be kept under control.[4] Faced with such a choice between either giving in to a horrible end or muddling through an unending horror, politicians will always prefer the latter, the more so as a financial collapse destabilises the political and social conditions.

As a result, and secondly, all governments have prevented their national banking industry from collapse, but were in most cases not able to clean them up sustainably. In this regard, Italy's banks represent a notable example of not at all having used the time bought by the rescue policies of governments and the ECB.

Thirdly, the financially less threatened governments had started to bail out the weaker positioned governments, thus removing the banks and other institutional investors from the line of fire and putting themselves, the governments, in the frontline of crisis management. Instead of creditor banks and debtor governments being at odds with each other, the confrontation since then has been between northern creditor countries and southern debtor countries. Unavoidably, the new intergovernmental creditor institutions and the risk-bearing governments behind had to impose conditions on bailout programmes, including austerity measures – which put euro creditor and debtor countries in fierce and increasingly neonationalist confrontation with each other.

Another reason for falling out over the sovereign debt bailouts is the EMU's failure of not having been clear and decisive over the rule of internal rather than external readaptation. This pivotal part of the euro deal was and still is being left implicit. Many European countries, northern as much as southern, were used to resorting to deliberate currency devaluation. As a long-standing calculated habit, however, debasing the currency has never been practiced so routinely as by the southern euro countries and, by the way, the US.

After entering the EMU, the euro south as well as quite a few other euro countries had no intention to readapt internally, less so under the conditions of very low interest rates. In lieu of accepting internal readaptation as a consequence of self-inflicted over-indebtedness, the respective countries called for bailouts – which they apparently expected to come as prolonged friendly acts of unconditional 'solidarity'. Disenchantment and outrage were correspondingly strong when euro creditor countries and the Troika did what creditors faced with tardy debtors do: insisted on repayment and demanded austerity to this end. The political rhetoric about 'rescue' packages conceals that this is not about selfless support or economic stimulus, but about maintaining the creditors' claims on the debtors and the debtors' repayments to creditors.    

A creditor imposing austerity in exchange for postponed repayment of loans or granting new bridging loans is ever so often perceived as a tormentor rather than an aide. This has been particularly acute in the case of bailing-out and bailed-out euro countries. In debtor countries, the bailout has for the most part been interpreted as a foreign creditor plot aimed at humiliating and breaking affected nations. Bailed-out governments feel cornered and are tempted to exploit the situation politically as presumptuous interference of northern euro countries in the inner affairs of southern euro countries, as if there was no agreed-upon partial cession of sovereignty to the EU and EMU. Had respective countries experienced default, their situation would actually be worse for about one or two decades, and they would have no excuse to blame it on someone else.

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It's the money system, stupid!

Was the bank bailout just callous selfishness of bankers in conjunction with hysteria on all sides, or did politicians have a point? They had a point, actually a very fundamental one.

In the present money and banking system, all of the money denominated in euros is at first a credit entry on a bank account, creating a demand deposit, which we use as bankmoney on account. That bankmoney is the all-determining means of payment today. It is a pro-active creature of the banking sector, not of the central banks that only refinance at a fraction and back up, together with the government, the private bankmoney regime. Thus, customer deposits (bankmoney) and the banks' payment services, lending and investment business are inseparably intertwined in the present bankmoney regime based on fractional central-bank reserves. If the banking industry would melt down in a systemic crisis, not only would the banks go bust, but also their liabilities, that is, the firms' and people's bankmoney on which the entire economy operates. The payment system would come to a standstill. No more payments, no more transactions, which would result in a standstill of economic activities. That is why in a way all of the banks are systemically relevant, in that their payment and primary financing services are structurally too important to let them fail; and this is what gives the banking industry today the extortionate power to get their way, and why both central banks and governments were forced to try to save the banks in order to save people's bankmoney and keep the economy going.

Because of its allocative importance, the banking business has always been able to exert power to a certain extent. What gives bankers additional clout today is the banking privilege of creating our money (demand deposits), thereby determining the entire money supply, as well as managing customers' non-cash payments. The reason why is the dysfunctional identity of money and bank credit. This was well known and highly controversial in the past (for example, in the Currency School versus Banking School controversy of the 19th century). Since around the middle of the 20th century, however, this has been quasi forgotten or expressly discarded.

The non-separation of money creation as well as payment systems from the lending and investment business of banks are critical elements of the present monetary system, which is a private commercial bankmoney system, quasi unconditionally supported by the central banks as anytime refinancers of the banks, and backed by the government as money and banking guarantor of last instance. As a result, the present bankmoney regime not only fosters financial and economic instability by way of inflation, asset inflation, bubbles, crises, distributional biases and non-safety of money. The bankmoney regime also induces fallacious central-bank policies of little effect as well as crisis interventions that fight credit-and-debt problems with ever more credit and debt, which is ultimately counter-productive.

Of course, the money system was not an issue when establishing the euro, the ECB and the Eurosystem; certainly not touched upon by knowing bankers who prefer to keep it as taboo as much as possible, and not by the other bankers and most politicians and the public, who do not really know how the money and banking system works, or worse, cherish long outdated notions of money and banking, such as the financial intermediation theory of banking, or the multiplier model of bankmoney creation based on central-bank reserve positions.[5]   

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Crisis management on the part of the ECB: from tentative to desperate

From the beginning of the banking crisis, the ECB and other central banks fulfilled their role as 'bank of the banks', that is, lender of last resort exclusively for the banks, and finally also acting as bad bank-claims purchaser of last resort. They were doing, as Draghi, the ECB's President, famously put it, 'whatever it takes' to save the euro. This was rather interpretive, while it was clear that the measures taken referred directly and exclusively to the banking industry, and actually just to its reserve base.

During the Great Depression after 1929, central banks aggravated things by sticking with over-tight monetary policies (partially due to the obsolete gold standard of the 19th century). This time they switched to the opposite extreme of hyper-loose money, flooding banks with liquidity in order to keep the system afloat. From the onset of the crisis, central banks have been pursuing quantitative easing (QE), in any sense and by unconventional as much as conventional means.

The ECB has been doing so by cutting minimum reserve requirements from 2% to 1% of deposits, by reducing central-bank lending interest (base rates) down now to zero for main refinancing operations, and 0.25% for intraday overdraft (marginal lending), and by ever more lowering quality standards for securities eligible for rediscount.

With the LTRO programme since 2012, i.e. Long-Term Refinancing Operations at a three-year maturity, the ECB lends to banks even long-term rather than on the usual weekly basis.

With the TLTRO programme since 2014, i.e. Targeted Long-Term Refinancing Operations, the ECB provides financing to banks up to four years, on condition that a respective bank lends to the real economy.

With a number of Asset Purchase Programmes since 2015/16 the ECB purchases financial assets on the open market at about € 80 billion every month, for the most part bonds of euro governments, for the rest bonds of other public bodies, private asset-backed securities and covered bonds. Until spring 2016 such purchases had provided liquidity to banks and other financial institutions at a value close to one trillion euro.[6]

In addition to the purchase programs of the ECB, national central banks, too, purchase securities at their own discretion, mostly national sovereign bonds. The respective programme (ANFA, i.e. Agreement on Net Financial Assets) was at first kept secret and when journalists found out, the public was told that ANFA 'is difficult to explain'. The central banks of Italy, France and Greece are by far the biggest purchasers under that programme. In total, ANFA purchases amount to about € 500–600 billion. Furthermore, the Eurosystem allows the national central banks to grant banks in their country ELA credit (Emergency Liquidity Assistance). Outstanding ELA credits varyingly amount to some hundred billion euros.[7]  Formally, a national central bank makes ANFA purchases and grants ELA credits at its own risk, in actual fact, however, at the risk of the entire Eurosystem.

Furthermore, the Eurosystem allows the national central banks to grant banks in their country ELA credit (Emergency Liquidity Assistance). Formally, a national central bank grants ELA credits at its own risk, in actual fact, however, at the risk of the entire Eurosystem. Outstanding ELA credits varyingly amount to some hundred billion euros     

The Target2 payment system of the ECB allows payment deficits of national central banks to other euro central banks, and allows these deficits to accumulate over time. This comes down to basically unlimited overdraft granted by creditor central banks to debtor central banks, amounting to over 800 billion euros in 2016.[8]

The ECB is also charging negative interest on the banks' operational balances with a national central bank, at first -0.10% in 2014 and reaching -0.40% in 2016.

There is now also talk of 'helicopter money', that is, QE directly geared at the real economy, bypassing banks, for example as a per capita pay-out to private households, or as a contribution to government expenditure.[9] Some such thing would however need an amendment of Art. 123 (1) TFEU.      

The measures listed here represent a development to ever more 'unconventional' means. One might also say, to ever more desperate actions. The ECB balance sheet has meanwhile been bloated to 3 trillion euros.[10] Considering these huge amounts of money pouring into the banking and financial industries, results have remained poor.

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The results from ECB interventions

Delayed crisis resolution, permanent
failure of conventional monetary policies, financial repression and monetary financing without real- economic effect

The measures taken by the ECB have prevented mass insolvency of the banks, the much-feared financial meltdown and the disruption of the euro, so far. That success, if it could last, was not only achieved through massive injections of liquidity for the banks, but also by way of financial repression, that is, austerity policies and artificially low and even negative central-bank rates, partially passed on as negative banking rates.

In spite of the massive interventions, quite a number of banks in almost all euro countries are still struggling and likely to fail if central-bank and government support were to be withdrawn in the near future. The banking crisis thus is only partially overcome, with impending insolvency of a considerable number of 'zombie banks' not only in the euro south.

Moreover, continued low and negative interest, while being a relief for governments and other over-indebted actors, have become a burden on the very banks which the ECB wants to keep afloat. Banking interest marginsnot only in investment banking, but also in the bulk of retail lendingare shrinking, and so is the profitability of banking, rendering the banks more rather than less dependent on external support. Insurers, pension funds and sovereign wealth funds are forgoing much-needed regular revenues too, and the same applies to all savers holding bank deposits in savings and time accounts.

The ECB's Asset Purchase Programmes, complementing the intergovernmental bailout institutions (EFSM, ESM), have effectively contributed to stabilising the asset value of bonds, and governments' ability to refinance at extremely low interest. In this regard too, however, the sovereign debt crisis is postponed rather than resolved. In most euro countries public debt has not been reduced, not even under the austerity conditions imposed on bailed-out countries by the ESM.

The ECB has locked itself in a stalemate. As soon as interest rates go up to normal levels, the most over-indebted euro governments will immediately come under pressure again, which is likely to trigger a follow-up outbreak of the banking and debt crisis, in turn also putting pressure on the euro as well as creating political turmoil.

H.W. Sinn, a renowned German economist, is a sharp critic of Draghi and the current ECB policy: 'The ECB's decision to extend fresh credit to broken banks of southern Europe at a negative lending rate up to -0.4 per cent, has proven once more that the ECB is pursuing a policy of fiscal redistribution in order to keep afloat zombie banks and governments that are actually insolvent. … That's a far cry from monetary policy.'[11]

However this may be, providing liquidity to the banks at very low central-bank lending interest near at, or even below zero should have helped the real economy to recover – at least in the opinion of many economists, especially in the Keynesian hemisphere of economics. Simply put, however, it does not work anymore. Expecting lower or higher interest rates to immediately induce or discourage economic growth is but another economic fallacy. In the present bankmoney regime based on a very small fraction of reserves there is no effective transmission mechanism to translate reserves (central-bank money) into bank credit (bankmoney). In the real world, causation runs in the opposite direction, that is, banks set the pace pro-actively and central banks accommodate re-actively.

The permanent failure of monetary policy in the bankmoney regime is not officially acknowledged, but it is what the ECB actually says when it does not tire of telling politicians and the public that it can 'drag the horses to the water, but cannot force them to drink'. This is to say, the ECB can refinance the banks and monetise debt without formal limitations, but if banks, investors, firms and households do not want to invest and spend more, the ECB cannot enforce an expansion of primary bank credit, secondary on-lending of bankmoney, and real-economic turnover.[12]

The main reason for the euro economies not becoming more dynamic is the unresolved continuation of crisis conditions. There is an overhang of money supply and debt. But debt reduction ('debt deflation'), the necessary precondition for a lasting recovery, has been prevented by financial repression. If there were higher levels of interest, governments would immediately reach their limits of being capable of rolling over and servicing the entire stock of accumulated debt at affordable interest rates. A number of euro states would soon default on their sovereign debt. The banking, debt and euro crisis would be back, and also include increased political crisis through social unrest, neonationalism and extremism.

As long as actors are occupied with paying down debt, or even only servicing debt without being able to pay down the debt, they will not take up much new debt for expanding capital and consumer expenditure. Banking, finance and the economy will remain at a suboptimal business level as long as the overshoot in the levels of debt and financial assets is not successfully reduced to more sustainable levels.

A typical example is the ECB's Targeted Longer-Term Refinancing Operations (TLTRO). This programme provides cheap central-bank reserves to banks up to four years if the banks lend to firms. The programme is being used much less than hoped for – as if banks would on-lend central-bank reserves to firms! Banks could lend reserves to the government because governments have a central-bank account. Governments, however, already sitting on too much debt, have become reluctant to incur much more debt, beside the fact that potential lenders are now eyeing them suspiciously.     

Firms and households by contrast have bank giro accounts with bankmoney in them. Banks do not need lots of TLTRO reserves to create bankmoney for firms, only a fraction of about 2.5% (in the euro area) – if only banks were willing. They are not as long as the crisis smoulders on and as long as banks are occupied with complying with the new equity rules in an unfavourable business environment, confronted with high loan default rates, and with everybody, including the banks themselves, trying to reduce liabilities rather than taking up additional debt.

The example hints to the fact that it is not the real economy that receives all the liquidity. Instead, it goes to the banks as well as to a degree to nonbank financial institutions through the asset purchase programmes. If, under sub-optimal business conditions, banks and other investors are investing at all, they are likely to put the money in non-GDP portfolio investments, opening up the possibility of new real-estate and stock bubbles, and a continued sovereign bond bubble.

In this situation, a number of experts and the central banks have succumbed to the idea that negative deposit interest might be an instrument to mobilise inactive money.[13] This is a striking example of doing economic policy by instrumentalising monetary policy. In practice, the idea of negative interest, also known as demurrage, is dysfunctional and creates resistance. One reason is that central-bank reserves are not transmitted without further ado into more bank credit (bankmoney). If negative interest is imposed on bank reserve deposits only, not however on customers' bankmoney deposits, the measure just hurts the banks' interest margin.

Should the ECB insist that its negative interest policy continue, and should banks feel forced to impose negative interest on all customers, this would then hurt everybody without, though, causing significantly more real-economic expenditure. Firms will expand capital expenditure corresponding to business perspectives, not in reaction to a demurrage on their bankmoney which is simply another tiresome obligation. Households, on the other hand, will lose liquid as well as inactive deposits. This will be seen as expropriation and create anger, but will not cause more expenditure. On the contrary, most people will react by trying to save even more in order to compensate for the demurrage imposed on them. Savings have various capital functions and are not meant to be squandered on things people do not really want to buy at the moment.

Furthermore, demurrage on customer deposits cannot effectively be imposed as long as there is cash. Holding cash as an alternative to bank deposits allows customers to circumvent negative interest. A switchover from deposits to cash as a result of negative interest on all bank deposits would be tantamount to a systemic bankrun, a circulatory collapse of the banking system. As a consequence, central banks, assisted by governments that have their own reasons, will have to resort to artificially restricting the use of cash and finally abolish cash altogether. That process has already begun. If continued forcefully, it will result in another break of trust between citizens and elites, besides reinforcing the private bankmoney regime. Artificially low and negative central-bank interest rates, also as a result of massive monetisation of public debt, are instruments of financial repression indeed.       

Finally, if things continue like this for another prolonged period, where will the ECB end up? The rationale for its ever more unconventional policies is that an 'exceptional situation requires exceptional measures'. As reasonable as this sounds, it was but an excuse for establishing the exception as the rule, i.e. doing 'whatever it takes' to bail out over-exposed banks and over-indebted governments in order to prevent them from otherwise imminent default and demise of the euro.

Central banks, however, are not the white knights as they are stylised, partly for wishful thinking, partly for having someone to delegate responsibility. What central banks can, and what they actually do, is refinancing the banking industry by all available means and, hypothetically, to any extreme extent. Presently, however, central banks cannot pursue monetary quantity policies regarding the money supply in public circulation (beyond the interbank supply of central-bank reserves). Setting central-bank base rates is a weak substitute with limited effect. It is impossible to effectively control either the quantity of money or inflation rates or general interest rates by way of central-bank interest rates.[14] Transmission is unclear, for the most part imaginary, and in final effect obviously weak.

Actual effects of central-bank interest rates, rather than being transmitted by market mechanism, are based on banking-bureaucratic price administration, in that banks voluntarily tie a number of lending rates such as on overdraft and mortgages to recent three-month interbank rates. These are nearest to the central-bank base rates and strongly influenced by the latter indeed. For the rest, low interest rates and low inflation have more and stronger causes than just central-bank interest, notably, the existing overshoot of money, savings/assets and debt ('savings glut') in the context of global competition in conjunction with currently decelerating globalisation.

What if most of the securities the ECB is purchasing in the course of its QE policies cannot be resold and will not be redeemed upon maturity? A now fashionable idea among post-Keynesians and followers of the so-called modern money theory has it that the government of a sovereign state with a currency of its own need not default on debt denominated in that currency. The euro area, rather than having one common government, has 19 different governments, but it has one ECB. Monetising sovereign debt by the ECB is seen as the silver bullet. Continued QE can in fact be seen as a way of monetising public and private debt. Yet the assets the central bank purchases are a position in its balance sheet. If those claims are not redeemed upon maturity, a central bank will accordingly suffer losses and will soon run into negative equity.

Against this background, debt cancellation on the part of the ECB is now more often being suggested as a serious option. Is it? Cancellation of claims equals a reduction in equity of the same amount, thus equally resulting in negative equity. A 'creative' accountancy alternative to debtor default and creditor write-down would be perpetual rolling over (rescheduling) of respective bonds, possibly at zero interest.

Formally, a central bank might indeed be able to perpetually reschedule outstanding debt, and a central bank might not have to declare insolvency when operating on negative equity over a prolonged period of time. But will political actors and financial markets stay still? They will certainly pay attention. External auditing bodies are also likely to raise trouble. As a result, respective governments could refinance only at interest rates substantially above average, the currency would devalue, and imported inflation would result in stagflation rather than economic recovery. Thus neither debt cancellation nor perpetual rescheduling of sovereign bonds and other securities would really help to gain time once more. In the end, the ECB would have to demand to be recapitalised by the member stateswhich would surely be a body blow to public finances and the euro.

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theSword of Damocles by Richard Westalls

theSword of Damocles by Richard Westalls

Crisis management to what end? The unresolved euro crisis

Eight years of bailout policies have brought governments to their political and fiscal limits. 'Bailout' is meant here in the broad sense of northern governments and the ECB assuming or refinancing the liabilities of southern governments and the claims and liabilities of banks in general. The governments' room for financial manoeuvre is largely diminished, and the radical left and neonationalist right are heckling the middle. Expectations now rest all the more on the ECB. Regardless of EU law and political rhetoric, and irrespective of central banks' actual capabilities, the ECB is now the main pillar of fiscal and economic policyand is, in the absence of monetary reform, bound to disappoint the overdone expectations placed on it.

The central question is: how can the overhang in the levels of debt and financial assets be reduced to more sustainable levels without causing havoc?

Creditors and supporters of supply-side policies prefer any kind of austerity regime in order to be repaid by debtors in a regular way. Debtors and supporters of demand-side policies condemn austerity. In the first years of an austerity regime, results are economically counter-productive in that output and income decrease rather than stabilising or even increasing. If, for example, public expenditure represents half of GDP and is reduced by 1%, GDP will shrink by about 0.5%. It is uncertain whether and when private capital and household expenditure might make up for this. It needs to be seen, however, that up to a point austerity imposes the readaptation that had been refused; as it is also true that the burden sharing of austerity is unfair in that it hits the less well-off much harder than the better-off and tends to exempt the rich.

On the other hand, there is no innocence of the people, or say, the electorate. In Europe, the major part of sovereign debt has been accumulated in the name of welfare, and even if wealth is unequally distributed, most people have benefitted in one way or another from the welfare debt binge, although the biggest beneficiaries of all were banks and funds that prior to the crisis used to hold 80–90% of sovereign debt. Debt-financed welfare policies feeding financial capitalism is a fact hitherto blinded out by left-wing statists, as much as left-leaning Keynesians refuse to acknowledge that there can be too much public debt, that is, a sovereign bond bubble.

The Keynesian wonder-drug for any economic crisis has been deficit spending. Today, this means fighting the debt crisis with additional debt. After more than 80 years, and having become an all-seasons habit, the approach of deficit spending is truly worn out. As a follow-up, quite a few economists now foster ideas of QE for people, as mentioned above, and other ways of monetary financing, i.e. direct central-bank financing of government expenditure.[15] The deficit policy remains the same, but central-bank credit would no longer add to public debt, or say, might formally represent debt, but would not be interest-bearing and not redeemable.

Would central banks enter newly created reserves on the balance sheet in a similar way as coins are traditionally accounted for, the central banks could even transfer money to the treasuries without this formally representing a book credit or security purchase. Booking newly created reserves (monetary assets) as a liability to credited banks rather than adding to the equity of the central bank has become an invalid practice. It dates back to a distant past when notes of the central bank were liable to be converted on demand into silver coin or gold. Today, reserves on central-bank account are the original source and form of legal tender, neither representing nor being backed by other monies.    

Monetary financing can certainly help where there is truly unmet demand, particularly, for example, in countries that suffer from too much austerity. However, monetary financing would not directly contribute to reducing debt, while indirect effects are unclear.

Furthermore, overt monetary financing is prohibited by Art. 123 (1) TFEU. Overcoming that legal barrier promises to be difficult. In contrast to the breach of the no-bailout article which was in the interest of most parties involved, a repeal of Art. 123 (1) would violate a taboo maintained by most experts, and collides with the interests of the banking industry as privileged primary creditor of governments.

Not least, since overt monetary finance allows carrying on with old policies that have led to where we are, and in the absence of additional precautionary rules regarding monetary and fiscal policy, it cannot be dismissed that the ECB and the euro governments would in fact abuse overt monetary finance.

Experts are encouraging governments to spend more money and implement reforms. But what exactly? In a debt crisis, additional debt is not really a convincing answer, as higher taxes are not convincing in any crisis either. Less bureaucracy and facilitated administrative procedures would clearly help, but seem to be miraculously impossible to implement regardless of the circumstances. Improved R&D, education and vocational training is always a good idea, but in practice it is highly controversial what precisely this entails, and respective measures will become effective in the long term rather than immediately. Lower taxes could help producers and consumers, but contradict the requirements of austerity budgets. Lower wages may help some firms but will hurt others on the demand side. Loosening rigid labour market regulation will encourage firms to hire additional employees in an upswing, but in the midst of a crisis it will encourage them to lay off rather than hire additional employees. Banking and financial market reforms have been watered down and made bureaucratic, in fact impeding bank lending for economic recovery.

After the Second World War, inflation in combination with growth was an effective way to reduce the debt overhang from previous decades. In most countries, debt was not really paid back in absolute terms, but was rendered relatively small because of strong real growth and inflation. Today, higher inflation rates may come back as a consequence of decreasing cost competition from new industrial countries and, perhaps, higher doses of protectionism in global trade.

Attaining much higher growth rates in old-industrial countries, however, will hardly be possible. Perhaps there will be another 'long wave' of industrial innovations in coming decades, possibly based on genetic engineering, bio and nano as well as new or significantly improved sources of energy. Without self-supporting growth, inflation will come as stagflation, which would be just another drag-down.

Remaining perspectives within the frame of presently applied policies are next to exhausted. As discussed in the final section on monetary crossroads, policy horizons will have to be broadened considerably.

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Which future for the EU? A community of nation-states

Before discussing possible futures of the euro, let us briefly take a look at the EU which is the decisive frame of reference. One of the biggest misconceptions of internationalisation and globalisation, and the EU in particular, is the idea of the nation-state fading away in an era of supra-national structures. The latter are certainly a reality and may hopefully develop further. The mistake is to write off the nation-state, rather than recognising that the nation-state continues to be the pivotal carrier of trans- and supra-national structures. Acknowledging the fundamental role of the nation-state means no less than having to admit that the concept of an 'ever closer union' towards something like the United States of Europe was bound to reach limits. It looks as if these limits have been reached for the time being.

There is no European identity that could replace national identities. There are cross-border groups of national parties in the EU parliament, but no pan-European party. Press, TV and other media have remained national. There is no European public. Hypothetically, a supra-national political identity of Europeans might develop through important historical events. This cannot be precluded, but it should not be wished for either, because this might involve war or environmental catastrophe. The nations of Europe, after all, share an understanding of belonging to a common cultural sphere. Canonised religion has been replaced with the separation of religion and state, modern human rights and civil liberties, including respective duties and responsibilities. However, depending on historical branching and delimitations, there are narratives representing several spheres, and in a wider sense European culture is also present in Russia, Latin America, the US, Canada, New Zealand and Australia. European nations are rather diverse and unlikely to develop a political, supra-national identity that would be strong enough to carry on with an 'ever closer union'.

Limits to 'ever closer union' are rooted not only in national idiosyncrasies, which are far from overcome as we are experiencing in the present wave of neonationalism that set in around the turn of the millennium. Such limits are equally rooted in the institutional fabric of modernity. Modern state building and societal modernisation, in fact the development of the worldsystem since around 1500, is based on and revolves around nation-states and nationalities.[16]

On that basis, what one can hope to achieve in Europe is what has been achieved: a community of European nation-states, making common cause, of sorts, in a number of policy areas; more so than the British Commonwealth, but far from a united federal state. Presumably this was what de Gaulle in his day had in mind when he referred to l'Europe des patries.

Renaming the European Communities European Union by the treaties of Maastricht 1993 and Lisbon 2009, and expecting the EU to develop into a federal state, was apparently overstating the case. In trying to readjust, it is now and then being suggested to adopt the model of a confederation rather than that of a full-blown federation. But there is no clear definition of what a confederation precisely is, except that it consists of nation-states that pursue common foreign and defence policies while retaining domestic sovereignty to a great extent.

The EU does not exactly fit that model. Its common foreign policy is a Potemkin village, and its national defence policies are subordinated to NATO. The 'High Representative of the Union for Foreign Affairs and Security Policy' is but another grandiose EU pretension. This may be regrettable, but a fact it is. The reason behind is the persistence of strong national reservations within the EU. On the other hand, the EU makes international agreements with governments outside the union, mostly on trade and related issues, which is something that governing bodies of a confederation are not necessarily supposed to do. At present, interestingly, a confederation in any textbook sense exists nowhere. Only two (pre-national) confederations, Switzerland and the US, successfully grew into federal nation-states. The other confederations in history dissolved sooner or later, not least because of national divergences – and most people in the EU belong to long-established old nationalities.

Seen like this, a desirable as well as attainable future for the EU is what we basically have: a community of nation-states focussing on the common market and what has relevance for it, such as for example tariffs, standards (technical, vocational, product-related, environment and health), patents, economic and financial regulation, common currency, various industrial sector policies, science and technology, and common jurisdiction relating to communitised matters; whereby single member states according to the Single European Act of 1986 can do more, but not less of what is set by the common rules. The Schengen Agreement on free internal border crossing should be maintained, the protection of external borders be made a community task. What is lacking are commonly shared principles on asylum and immigration.   

Such a consolidation of what has been achieved might be seen as a dull vision, or rather lack of vision. Presently, however, it is the vision of an 'ever closer union' which alienates ever more people from the EU. Today, even consolidating what has been achieved cannot be taken for granted anymore.

On balance, the EU is a great achievement and EU-bashing is for the most part an act of ill-directed resentment. Complaints about a lack of democratic legitimacy are projections of national parliamentarism and national plebiscites on the EU. But there ain't no European nation. European Communities are intergovernmental bodies by their very nature, whereby the national governments represented in the various governing councils within the EU are democratically elected. If direct democracy is the ideal of critics, it is actually possible at the EU level, not however in a number of member states. If people's initiatives have had little effect so far, this is again due to the fact that European people and societies are nation-centred, often lacking organisational integration at the European level; which is not the fault of the EU. Complaints about too much influence of industrial and financial lobbyism on EU regulation are possibly true, but also apply to the national level. Of course, the EU, just like any other political body and administration, can be streamlined and improved in many ways. The EU could restrict some of the competences it lays claim to, and might in turn grow into a more coherent structure, in which single member states have given up treating the EU as a menu to pick from ('Europe à la carte').

It would go far beyond the scope of this paper to explain in more detail what the EU ought to include, can include, and must not include. What this paper however aims at is providing an answer to the question of whether the euro can have a future in the frame of an EU as a community of nation-states, and if so, in which institutional arrangement and subject to which rules.

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At the crossroads

Starting in the 1960–70s, old-industrial countries have been passing through a debt supercycle.[17] It appears that this epoch has presently been reaching its end. The euro was unhappily launched in the 'maturing' stage of that cycle, and its end now threatens to coincide with an end to the euro. The long-range asset-bubble and debt cycle may last for another decade or two. Given some unforeseen event, the house of debt may break down next month.

As long as we have a choice, keeping the common currency can still be desirable and useful. The euro's existence is a fact today, and as the euro payment system functions quite well technically, trying to keep the euro going is preferable to abandoning it wilfully. Despite all problems, the exchange value of the euro is still rather strong. Although not a true competitor to the dollar, the euro so far continues to be the second biggest global reserve currency thanks to the economic weight the euro area still has for the time being. 

On the other hand, as discussed at the beginning of this paper regarding the euro's ambivalent foundations and the section on intergovernmental bailout policies, the euro has so far not lived up to the expectation of integrating countries that are divergent in many respects. Rather than having been a catalyst for implementing a sound monetary and fiscal regime, the euro has been captured by bad habits of old. The euro turned the north-south gradient into a neuralgic divide, particularly regarding long-standing attitudes towards stable-currency versus soft-currency policies. Rather than bringing euro countries together in a closer currency union, the intergovernmental and ECB bailout policies of the debt and euro crisis, paving the way for a generalised joint liability community, have created fierce confrontation between the euro south and north.

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Unwinding the euro?

Meanwhile, voices across the currency union and across the political spectrum are demanding an end to the euro. Primarily, though, they come from the neonationalist right, and from the far left that suspects the euro of being the machination of ultraliberal financial capitalism and to which a good dose of labour-protectionist national policies is not unfamiliar.[18] The growing electoral success of the neonationalist right harkens to the 1930s.

Rather than admitting to their respective country's shortcomings and doing something about it, people and politicians tend to blame problems on external factors and are picking out scapegoats, among others, and in some cases preferentially, the EU and the euro. People and politicians deceive themselves by the illusionary expectation that after a return to national currencies the economic situation in their country would improve and that the rest would go on as if nothing had happened.

To the contrary, the cost of divorcing would be higher and more burdensome than the necessary efforts to stay together. Unwinding the euro, its institutions and liabilities would provoke additional political and legal disputes. Reintroducing national currencies would add to transaction costs lastingly. Private and public debt would not disappear upon giving up the euro. If a re-introduced national currency devalues, foreign debt would be burdensome all the more. Obtaining foreign credit and attracting foreign investment would become more difficult.

The divergence between the euro south and north would continue as a struggle between weaker and harder currencies, trying to devalue or revalue at discretion. To intra-European trade and cross-border chains this would hardly be beneficial. The single market would in any case be hampered due to higher transaction and trade-related funding costs. Overall productivity would more or less decline and the rank of a number of euro countries in the worldsystem would be downgraded. Finally, the euro has in fact changed Europe markedly for good and for bad. After dissolution of the euro, things would not be the same as they were prior to it. Expect a kind of rose war rather than amicable settlement.

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Ever closer debt and joint-liability union: stuck in the mud
In spite of the fact that measures taken have been resulting in continued financial and economic problems as well as resentful neonationalism, the governments of the euro member states and the central bankers in the Eurosystem show no intention of changing course. They compulsively continue along the path they have chosen as a matter of fact – the path of 'ever deeper union' – debt union, as it is often called, bailout and transfer union.[19]

The policies of that union are pursued in the name of preserving the euro. However, without restructuring the ECB and the Eurosystem, the union of over-indebtedness on the basis of financial repression, continued bailouts and regularised transfersas now routinely practiced by the euro governments, the ESM and the ECBis bound to increasingly weaken the economy and ultimately, for political reasons, break the euro.

Financial repression by artificially low interest levels and excessive monetisation of debt through QE cannot last for a long time. Interest rates will go up again, in other world regions for sure, also prompting repercussions for debt-ridden euro governments. Even a weak rise in interest rates will cause higher budget deficits inducing still more debt. A strong rise in interest rates would be another shock the currency union is not really up to any longer, because treating an additional number of euro countries in the same way as Greece up to now would simply go far beyond the scope of euro rescue potentials.

It is true that the US, Japan and Britain have similar or even higher levels of public and private indebtedness. The US, however, has the 'exorbitant privilege' of the dollar and the well-observed rule of no interstate bailout or Federal bailout of States. Japan's and Britain's public debt is held domestically for the most part, with the government, banks, finance and the economy ready to cooperate in the national interest, as is also the case in the US. The euro area, by contrast, is not well integrated and vulnerable from the outside and within.

Under increased pressure, various countries would again push for taking a next step towards the ever deeper debt union, coming in the form of another wave of 'exceptional' bank bailouts, and eurobonds as joint liabilities of euro member states. Such bonds would allow weaker countries to refinance at lower interest than they would otherwise have to pay, while stronger countries have to accept higher rates. As a matter of fact, the bonds issued by the ESM to refinance its operations as well as the financial asset purchases of the ECB already represent a de-facto communitisation of debt denominated in euros.

The ECB would have to compound its sovereign bond purchases and other QE measures, definitely entering into a stage of perpetual rescheduling and monetisation of public debt, which in turn raises the question of the ECB running on negative equity or being recapitalised by the member governments—governments struggling with insolvency. Such a situation, too, will include increasing open-market rates on sovereign debt, despite ECB purchases of bonds because these purchases will then be seen as desperate emergency actions. Most over-indebted euro governments will face difficulty refinancing on the open market. Capital flight will have set in early on. At a certain point in time, the ECB might feel forced to resort to a regime of external capital controls and outright credit guidance and interest-rate administration.

One may ask whether such a situation would be reached in the first place. There would be strong political reactions, in all euro countries both in the euro north and south. Countries that are most affected, have a preference for keeping the debt, bailout and transfer regime. If the less affected countries would say 'stop it, enough already', that wouldeverything else being the sameend or split the euro. If no one dares say 'No, things cannot go on like this', a stagnant debt community will take its course from bad to worse anyway. Continued decline is indeed the perspective of such a stuck-in-the-mud scenario.

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Leaving the euro? Parallel domestic currencies? 
To avoid stuck-in-the-mud, quite a few discussants have proposed allowing struggling member states to opt for a temporary time-out from the euro, or alternatively, to reintroduce a national currency in parallel to the euro.[20] Both approaches are not well conceived.

Single states temporarily leaving the euro means to carry to the extreme the awkward principle of 'Europe à la carte'. What kind of community is it whose members opt in, or out, or in and out and back again, at situational discretion? Having created a patchwork structure of different European Communities – 'join as you like' – was not a favourable development. From this angle the euro should not have been introduced in the first place as too many countries were not willing to join (not by chance those with comparatively stronger currencies in the EU north).

Extending the patchwork principle to 'leave as you like' would leave us with a patchwork of holes. Any member state of the EU or EMU is free to withdraw from the union. It should however be understood that membership is not open for resubmission anytime soon. Both the EU and EMU ought to amend their rules accordingly.

Independently, what is the point for economically less competitive national economies, perhaps threatened by sovereign default, to leave the euro or even the common market? Supporters of the idea argue that returning to a national currency allows that currency to devalue, thus gaining in cost-competitiveness. An implicit assumption of the argument is integrated markets having a single price for products and services. Respective countries are supposed to produce goods at a lower domestic price level and sell at a higher price level abroad.

Empirically this is true only to a certain extent and for certain products such as, for example, globally traded commodities that are insensitive to local wage levels. For the larger rest, prices for most things as much as wages differ considerably from one region or location to the other. Prices clearly do so also within the single European market and the euro area. The true hope then is to increase foreign sales thanks to lower export prices on the basis of lower levels of domestic wages and prices.

However, given today's cross-border production chains and the related flow of goods and services, an exit country would still have to import lots of pre-products and services from abroad, the prices of which would be higher, corresponding to the currency devaluation, and thus undo to an extent the cost advantage of having devalued. Nevertheless, comparatively low labour costs in cross-border chains of provision can remain advantageous for a longer period of time, and the same is true, to a degree, in tourism as in the Mediterranean, or in purely domestic products, especially agroproducts. But this too can only be expected as long as such market segments remain lowly industrialised, not involving high fixed-capital investment, pre-product and marketing costs, much of these occurring abroad.

At the same time, debt taken up in euros and other foreign currencies does not devalue, to the contrary, it revalues in mirror image, resulting in a factually higher debt load of the exit country. Both higher debt and higher import prices will induce domestic price increases.

The European Lex Monetae grants every country the right to choose its currency. A debtor country leaving the euro might derive from this the more far-reaching right to have its liabilities converted 1:1 from the old currency (the euro) to the new one (say, the drachma or lira). In the unlikely event of a respective country getting away with it, such a 1:1 conversion of liabilities would certainly spare that country an augmented debt burden, but would nevertheless be an additional burden in that this country would be shunned by international finance for a long time and could obtain foreign credit only on considerably worsened conditions.

What then remains is financing in the national currency of the exit country. Whether this will be an advantage or disadvantage, is not fixed in advance; not in an internationally connected economy where there is an unavoidable degree of dependence on obtaining foreign currency, and not in a bankmoney regime where a national central bank has no effective control over the banks' credit and bankmoney creation.

Funding imports by domestic credit does away with the foreign exchange risk thenceforward, but will not come with a cost advantage at a given point in time, because a correspondingly high amount of domestic currency will have to be taken up – if the currency were accepted abroad anyway. If the latter were not entirely clear, a respective country is also likely to develop an informal currency split in that a foreign currency (the euro or the dollar) will be used in parallel to the domestic currency. This in turn tends to coincide with capital flight.

Being a sovereign nation-state remains a pivotal principle. However, one will not confound formal legal independence and self-determination with actual interdependencies and degrees of heteronomy, all the more so under today's conditions of unprecedented density of cross-border interrelations. In dealing with the trade-off between domestic independence and foreign interdependencies the question of size comes into play. Smaller countries are exposed to the impact of foreign factors to a greater extent than bigger countries, regardless of being on their own or, for example, being members of the EU or EMU. And yet, being on their own they count for less than as a member of such a community. What remains true for most European nation-states is equally true for national currencies. The currency of a sovereign small nation-state of middling economic strength will in most cases not really be that 'sovereign'. Many a small country finds it difficult to have its own currency accepted in international trade and is likely to have to follow the lead of a foreign, weighty reserve currency or even peg its own currency to it.

The same considerations also apply to the approach of keeping the euro while reintroducing a national currency in parallel to the euro. This comes down to a split currency system, with the euro designated for foreign trade currency, while the national currency for domestic dealings; officially, though not necessarily in practice, because domestic actors too would prefer to be paid in the trade currency. In most respects this would not really be different from leaving the euro. Experiences with split currencies were ambivalent with regard to all the aspects mentioned. Respective countries, for example South Africa in former decades, abandoned the split currency regime after a while.

The prospects of a parallel national currency would be different if it were implemented as a sovereign money system rather than continuing with the present bankmoney regime. In a sovereign money system the respective central bank has full control over the creation of money (not the uses of the money), while the government fully benefits from the gain of money creation, the seigniorage. A sovereign money system nevertheless includes a thorough separation of monetary and fiscal responsibilities.

If a national government and central bank would override that element in order to 'print money' ad libitum, beyond actually attainable productive capacities and potentials, not much would be gained. The respective nation might at first experience an economic upswing, followed however by a lasting stagflationary slump, in final effect not that different from what the southern euro countries, misled by all too low interest rates, are still experiencing with the sovereign bond bubble. One cannot monetarily outsmart the gravity of structural economic deficiencies.

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Defusing the situation
Stuck-in-the-mud is avoidable, but by other means than discussed so far. A turn for the better would have to begin by defusing the situation of financial overinvestment and overindebtedness. This can be achieved to a good extent by a combination of three measures.

The first is the option of a negotiated capital cut, or debt cut respectively, on sovereign bonds. In the course of the Greek crisis such cuts were agreed upon in March 2012 when creditors, mostly still banks and private investors at the time, were persuaded to accept a 53% write-down of Greek bonds and roll over the rest at still lower interest.[21] That added up to almost a third of the Greek debt at the time. No small thing. In the case of Greece it did not help as much as was hoped for. It would definitely have improved the situation in almost all other euro countries.

It needs to be accepted that in the case of the sovereign bond bubble both creditors and debtors have to bear a share. Banks, the primary 'market makers' in the initial subscription of bonds, clearly bear part of the blame. They have not really had to bear much of the pain so far. Except for the case of the Greek haircut they were iniquitously enabled to offload much of the bad sovereign debt on the EFSF/ESM and the ECB. In consequence, a considerable part of possible capital cuts, or losses incurred otherwise, will now have to be borne by these institutions as well as by single governments as creditors in unilateral aid, and the IMF – at the bottom line by northern creditor governments.

Furthermore, capital and debt cuts still need to be combined with a certain degree of austerity. Blaming it all on the debtors is unfair, but debtors they are and letting them off the hook without further ado would be unfair as well. At the same time, the pain is part of the process of internal readaptation, unavoidable in a currency union beyond a debt and transfer union bound to get stuck in the mud.

Finally, a degree of zero-debt monetary financing or 'helicopter money' would beneficially complement continued but lesser austerity in conjunction with capital and debt cuts. Helicopter money can be issued as a per capita dividend for private households. Or better, perhaps, the money should be used for investment in public infrastructure, maybe funded by public investment banks and refinanced by monetary financing.

Helicopter money is no more of an 'unconventional' policy instrument than is QE for the banking and financial industry, or imposing negative interest rates (with negative results indeed). In contrast to these measures, monetary financing would come with some positive impulse for effective demand and employment in the real economy, especially in the euro countries most affected by the debt crisis and austerity.

Helicopter money may violate Art. 123 (1) TFEU, but so does overstretched and ineffective QE for the banks and nonbank financial agencies (Art. 123 (2) TFEU) and, above all, the debt and transfer regime built on the outright breach of the no-bailout Article 125 TFEU.

Taken together, a package with the three elements of monetary financing, capital/debt cuts, and continued but lesser austerity would help coming closer to normal conditions. It should be understood, however, that defusing a problem does not mean resolving the problem. Conditions in today's state-backed private bankmoney regime are recurrently unstable and unsafe, threatening to result in another series of crises in a not too distant future. The three-measures-package would effectively achieve what the ECB has claimed for its measures hitherto and has partially but insufficiently achieved, that is, buying time for mitigating the problems. Apparently, it is about time for a system reset and some change of the rules of the game.

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Reset: no bailout combined with internal readaptation
'Reset' is used here as a cipher for returning to original core principles of the euro, plus realigning the ECB and the Eurosystem as well as abandoning misguided ideas on a European banking union.

A euro reset presupposes the prior implementation of a defusing approach as discussed in the previous section. Otherwise, in view of impending sovereign defaults, a reset would induce immediate collapse in a number of countries.

At the core of the original principles of the currency union, thus the core element of a euro reset, is the no-bailout rule. It must be reinstated and complied with under any circumstance, no ifs, no buts. No bailout means national responsibility for national debt. If a euro member state defaults, so be it. It is the responsibility of that country and not the community's business.

The monetary history of the US clearly shows that complying with the no-bailout rule helps pre-empting a currency crisis rather than inducing one. A State default is a fiscal crisis of that State, a serious event that occurs from time to time, but that State is not bailed out by the Federation and no one ever thought this might induce a currency crisis of the dollar. Some such link between state default and currency crisis may apply to a national currency if the central government defaults. It does not apply when regional or other public bodies default, and it does not apply when a euro government defaults while others do not. That the banking and debt crisis of 2008–12 was declared to be a crisis of the euro, or even the EU, represents an info-op from the side of the creditor banks and other institutional investors who wanted to be rescued in the first place.

In contrast to the no-bailout rule, the Maastricht criteria of 3% deficit and 60% public debt should be repealed; firstly, because budget deficits and sovereign debt are about fiscal rather than monetary questions, and fiscal matters ought to remain national; secondly, because such thresholds are purely arbitrary and are misperceived as an invitation to a habitual 3% deficit rather than getting used to the idea of a balanced budget; thirdly, because good housekeeping can mean different things in different situations.

Assuming monetary and fiscal policy to proceed in tandem and at the service of economic policy is a normative doctrine. Unsound fiscal policies are certainly not beneficial to sound monetary policies, as too loose or too tight monetary policies are not helpful to stable fiscal policies. But this is not what is actually meant. In actual fact, the monetary-fiscal tandem doctrine means that monetary policy should support the economic policies of the government of the day, which regularly comes down to calling for loose money in the interest of government deficit spending. In recent decades, loose money, rather than triggering real capital expenditure, has contributed greatly to the over-indebtedness of governments and private actors as well as to inflation or asset inflation and financial crises.

Money is at the basis of finance, as the first and final purpose of finance is to fund real-economic activity. Monetary policy by its very nature does fulfil an economic mission. That mission, however, is not to provide free-spending politicians or gambling investment bankers and wealth managers with cheap or gratuitous money, but to provide the private and public economy flexibly with an amount of money that is adequate for the potential of output generation and capacity utilisation of the economy, including the money required for feeding a financial economy designed to this end, which in turn also includes sound practices of financial wealth management.

Evaluating sovereign solvency should be left to the judgement of the markets, that is, left to market-borne interest rates. In the beginnings of the currency union the markets fatally failed at this job when they mistakenly betted on downward convergence of interest rates on the ground of allegedly ever closer assimilation and financial integration of euro countries. The worldwide and overshooting downward trend of interest rates due to overshooting bankmoney creation and capital supply was a major cause of the banking and debt crisis in general. As regards the debt of various euro countries, banks and nonbank investors will not make the same mistake twice. Different interest rates, much like different prices for goods and services, is no problem for the euro, rather it is an important part of the solution. Put pointedly, the problem is artificially 'harmonised' and too low interest rates rather than market-borne differentiated interest rates.

The ECB fractionally refinances the banks with reserves for interbank use throughout the currency union at the same central-bank interest rates. This is one thing. It does not imply, however, that the lending and deposit interest of the banks and the yield of sovereign bonds is the same across all euro countries. Expecting some such thing, or even viewing nationally and regionally different interest rates as a problem, is rooted in misconceived central-bank base-rate policies and the mimetic interest-rate administration of the banks.

Central-bank interest rate policy is a largely ineffective substitute for the lost ability to achieve stable conditions by way of readaptive monetary quantity policies. Within the present bankmoney regime, the control of money has been lost to the banks beyond reclaim. Central-bank and interbank rates, however, cannot strongly influence interest rates in general, because base rates apply to only a small fraction of the entire turnover on financial markets, while the assumed transmission mechanisms – if these were ever effective at all – are broken.

Central bankers should not try to manipulate rates in any direction whatsoever. Instead, they should think about how to regain control of money creation and the stock of money, leaving interest rates, like other prices, to the markets, and considering the resulting interest rates as one of the major indicators to be taken into account for effective monetary quantity policies

The complementary side of no-bailout is the waiver of national currency exchange-rate policy and explicit and formally accepted internal readaptation of prices, wages, and interest rates. The no-bailout Art. 125 TFEU would have to be amended correspondingly. Coherent fiscal and social policies do not exist in the currency union, will not come into existence anytime soon, are not really necessary for running a currency union, and ought to be left to the member states anyway. Rather than linking the euro to the fiscal policies of member states, the euro must be shielded from them. In consequence, internal readaptation must be accepted without reservation, and will have to be the second basic principle of a reset euro, complementing the no-bailout rule. If this is it not accepted as a necessity, the euro will inevitably go down the slippery slope as a bailout and transfer union of chronically over-indebted nation-states, losing ground to the competition in the worldsystem year after year.

Part of the reset in order to avoid getting stuck in the mud is ruling out shared liabilities of euro member states. The emission of joint eurobonds or similar debt instruments shall not be permitted. Such instruments belong in a bailout and transfer union in that they aim at unloading some part of the risk and cost of national debt onto community bodies or the Eurosystem or onto other euro governments.

The institutionalisation of the ESM (European Stability Mechanism, or rather, 'European instability cushioning mechanism') as well as the excessive monetisation of debt by the ECB's QE programmes should be seen as historical one-off emergency measures, born out of desperate helplessness in the face of an extremely unstable money and banking system. The ESM and the ECB's desperado politics cannot be permanent practices. The ways the ESM and QE programmes are set up now, they act as major stepping stones into the bailout and transfer union of over-exposed financers and over-indebted governments. In consequence, from a certain point in time the ESM should definitely stop granting new support and emergency credit, and then should be wound up when outstanding business is concluded.

Some commentators have suggested an insolvency procedure for single member states. What would this be other than a semi-bailout and transfer scheme in disguise? Just leave the problem to the creditors and debtors involved in a given case. Do not barge into your neighbour's credit and debt dealings.

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Realigning the Eurosystem and the ECB

Another crucial part of a euro reset is a number of specifications regarding the role of monetary policy in the Eurosystem led by the ECB. The system is in need of overhaul in several respects.

Today, the legal mission of the ECB is not well defined. Art. 127 TFEU says the Eurosystem shall 'maintain price stability' and, if compatible with this, 'shall support the general economic policies in the Union'. What this actually means and how to operationalise specific policy targets is completely left to the discretion of the ECB Governing Council. There are no legal specifications at all on quantity policies and interest-rate policies, the most fundamental choices of monetary policy.[22] In the present situation this may not be that important, because the factual decision on tight or loose money lies with the banking industry's primary credit creation, while the central banks accommodate the banks' residual demand for central-bank reserves and cash after or upon the fact. 

Furthermore, Art. 128 TFEU gives the ECB the monopoly on banknotes. Banknotes and coins, however, representing 10–18% of the money supply M1, have become a mere technical exchange form of bankmoney and are not particularly relevant anymore. The predominant and system-defining means of payment today is bankmoney. The bankmoney regime has undermined central-bank monetary policy which has become correspondingly ineffective, but bankmoney is treated rather like an elephant in the room.

A central bank ought to be independent and impartial, yes, but not only regarding government interference, but also concerning particular interests of the banking and financial industry. A central bank ought to be able to pursue discretionary policies, yes, but on the basis of a well-defined and detailed legal mission. Starting from the present state of affairs, this would include quite a number of things. In this paper only a few with special relevance for a euro reset shall be mentioned.

Regarding the institutional arrangement, the voting rights in the ECB Governing  Council would have to be adjusted so as to reflect national funding obligations and risk sharing. According to Art. 10.2 of the ECB Statutes, each governor of a national central bank in the Eurosystem has one vote. The same applies to the six members of the Executive Board, including the President and Vice-President. The voting rights differ, however, when there are 16–22 member states as is presently the case at 19 member states. The five biggest countries now share 4 rather than 5 votes, the rest share 11 instead of 14 votes, both on a monthly rotation. The criteria for size is the national GDP (5/6) and the aggregated balance sheet of MFIs in a respective country (1/6). This means at any point in time that 4 member states have no voting right. Basically, tiny members such as Malta or Cyprus still have the same one vote as the big members in the currency union. At more than 22 member states, the rule would be different again.

The voting rights in the ECB Governing Council are extremely unbalanced and a deep forward pass for satirisers and, by the way, an invitation for separatism. Why have these voting rights never been subject to public debate? When and why was that system designed in this way, and who signed up to it, presumably against their better knowledge?

As an alternative, as is common practice in any financial institution, the voting rights in the ECB Governing Council should be determined according to ECB capital participation, that is, a combination of the size of national population and GDP. According to the ensuing share, the ECB profit (seigniorage) is allocated to member states, as well as the liabilities of the ECB, i.e. funding obligations, also including those that can result from ECB losses. The percentage share of each member state would be rounded to the nearest positive integer. In addition to the 100 votes represented by the governors of the national central banks, the members of the Executive Board could be given five votes each. In the event of a tie, the President would have the casting vote.

Even though the Eurosystem must be independent, there must nevertheless also be some checks on that supra-national power. One is a more detailed and specified legal mission regarding the goals, core indicators, operational targets and applicable instruments of the ECB's monetary policy.

It must be clarified that the ECB and the national central banks as well as their staff are subject to the administrative and criminal jurisdiction of their place of establishment.

Another check should relate to the incumbency of the top personnel. The term of office for members of the ECB's Executive Board, including the President and Vice-President, should be four rather than eight years, and should be renewable two times rather than non-renewable as is the case now (Art. 11 of the ECB Statutes). Furthermore, there ought to be a procedure for an off-schedule removal of members of the ECB's Executive Board. The European Council that appoints the members of the Executive Board should also be given the possibility of removing one or several or all of the Board's members, certainly on the grounds of properly defined statutory reasons.

All national central banks in the Eurosystem should be fully nationalised. They ought to have the downright status of a national monetary authority, and, if still applicable, should no longer be run as a joint stock company.   

Regarding ECB payment operations, the accumulation of daily payment deficits among the national central banks in the TARGET2 payment system should be ruled out. Such deficit accumulation is just another mechanism of out-of-control money creation in the euro debt union. Instead, there must be a regular final settlement mechanism on a weekly or monthly basis, maybe similar to the respective mechanism in the US Federal Reserve System.

ELA credits (Emergency Liquidity Assistance) individually granted by national central banks to domestic banks, should no longer be permitted. ELA too is just another mechanism of unloading national risks and liabilities onto all members of the Eurosystem. The possibility of a 2/3 veto of the Governing Council against ELA credit has proven to be an abstract option. Central-bank money in the Eurosystem cannot be controlled 'decentrally', i.e. nationally. The currency union rests on transferring monetary sovereignty to the ECB, which in turn must keep to the rules of a monetary regime decided upon by the member states. A coherent monetary policy regime in the Eurosystem cannot work if, when in trouble, there are up to 19 different monetary policy regimes of allegedly still 'independent' and 'sovereign' national central banks.

The ECB and national governments should stop keeping zombie banks artificially afloat. The distressed claims of such banks should be written down and the respective banks should be wound up or recapitalised, if need be also by temporary nationalisation.

Sovereign bonds held by banks ought to be liable to equity requirements like any other securities.

The project of an artificially forced European banking union is another misguided step towards 'ever closer union'. A central bank today is the 'bank of banks' concerning the banks' regular refinancing. But the interference of the ECB in the banking business itself (as supervisors) and a responsibility for the survival of the banks in the eurozone is overshooting the mark by far.

Bail-in prior to bail-out (as introduced in the US by Dodd-Frank) may spare public coffers, but means the forced recapitalisation of banks by its customers. Governments like such arrangements, for they avoid tax funding of their interventions.

For the rest, the so-called banking union is about communitisation of bank liabilities and bad bank claims. This is obvious with the communitarised deposit insurance. It already started with the decision of June 2012 to allow ESM means to be used for recapitalising or otherwise bailing out teetering banks (rather than supporting governments only), pushed through by France, Italy and Spain. Similarly, about three quarters of the balance sheet of the ECB at the time consisted of claims on southern banks.

Part of the banking union package has been the introduction of bank bail-in prior to bail-out of banks in the EU (as introduced in the US by Dodd-Frank). Bail-in means burdening bond holders as well as bank customers as balance-sheet 'creditors' of their bank prior to drawing upon the taxpayer. This is just another questionable approach to using other people's money for saving insolvent banks. This applies all the more to communitarised deposit insurance which at the bottom line means making northern banks pay up for the souring loans and investments of southern banks.

A further element of the 'ever closer' debt union has been charging the ECB with the task of supervising the 'systemically relevant' large banks in the euro area. This represents an inappropriate ascription of functions to the ECB. The ECB is an important creditor to the banks in its realm. This might lead to assume that the ECB has a special incentive to keep a sharp eye on banks. The ECB's unrealistic 'stress tests' tell something different. Central banks have never prevented commercial banks and investment banks from mismanagement and monetary overshooting, because central banks regularly accommodate banks, especially in a situation of crisis. At present, however, the ECB's low and negative interest rates are squeezing the banks' interest margins. This contributes to destabilising the banking sector, which is not exactly what a supervisor is supposed to do. There is a collision of interest.

Basically, a central bank is responsible for the currency and monetary policy and must not be responsible for the banking business and financial markets. In today's bankmoney regime, however, the mistaken ascription has a real and relevant background as already touched upon in the section titled It's the money system, stupid! That background is the false identity of money creation and bank credit in the present bankmoney regime. Money and banking are almost identical today, and the banks and the refinancing central bank of a currency area are tied together in a dysfunctional way. Thus, under the prevailing conditions of the bankmoney regime, the ECB is much too entangled with and interdependent on the banking industry to be the neutral and non-partisan agency it ought to be. Instead, the functions of the European Banking Authority should have been extended accordingly, while the links of the governing bodies of that authority to the ECB and various financial industries should have been remove.

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Monetary reform

At this point, the analysis has reached structural aspects of the money and banking system. Surprisingly, there seems to be little awareness that in a highly monetarised and financialised economy, the money system is a defining foundation of the economy, a framing condition, constraint and root cause of what is possible in finance and the entire economy for better or for worse. As a result, there is equally little awareness that capital markets and the economy cannot work properly if there are flaws in the money system. Equally, there seems to be little awareness that the money system today is almost identical with the banking system. That which distinguishes banks from nonbank financial institutions is the intersection where money and banking are identical, more precisely speaking, where the banking sector has captured the money system by imposing the primacy of bankmoney over sovereign money (central-bank money).

As long as the entrenched confusion of money and bank credit prevails, the central banks' monetary policies and the banking industry's business policies are closely knit together, asymmetrically so, however, in that the central banks act in fact subdued to the banks they are supposed to control. There cannot be an effective monetary policy by central banks as long as monetarily quasi everything is predetermined by the banks' pro-active lending and investment business.     

Basically, the no-bailout rule regarding state finances would need a complementary no-bailout rule regarding banks and nonbank financial institutions. A great deal of new bureaucratic regulation is actually being justified on the ground of wanting to avoid future bank-bailouts by governments burdening the taxpayer (while unhesitatingly putting in the bankmoney of the same citizens by way of bail-in instead). New Basel rules on equity and liquidity, living wills according to Dodd-Frank, or what else, will ultimately not help much as long as the bankmoney privilege continues to exist, rendering central-bank monetary policies largely ineffective and holding the people's money hostage to the banks' balance sheet.

The monetary system as the basic framework and root cause of financial crises is no special feature of the euro. Dollar, pound, yen etc. are basically all experiencing the same sort of problems and crises, dealing with them in basically the same way, albeit differently in timing and practical detail, thus coming out with different mixed results. The currencies and financial arrangements in newly industrialising countries, too, are in the midst of producing the same problems.

What makes a difference to the detriment of the euro, however, is that even major banking and financial crises will not call into question the very existence of the dollar, pound and yen as currencies that are anchored in a coherent enough nation-state and national identity – which however is the weak spot of the euro that is vulnerable to all too divergent national peculiarities.

In any event, severe banking, debt and other financial crises will keep coming back the more a full-blown bankmoney regime has imposed itself, replacing sovereign money and undermining central-bank control of the monetary system. It follows from this that also in future crises, large banks still cannot be allowed to go bust and will have to be rescued by bail-out and bail-in, simply because in the present bankmoney regime, the money and bank credit are coupled in false identity, or stated differently, because the people's money is not positively existing legal tender, but just a bank liability on the banks' balance sheet. The lending and investment business of the banks on the one hand and the management of money and payments on the other are quasi fused together today, as the money of the customers and the money of the banks are not kept separate from each other, but are managed via one and the same bank account with the central bank. As a consequence, if the lending and investment business of banks is threatened, the existence of the bankmoney and the ongoing functioning of cashless payments, i.e. the ongoing functioning of the entire economy, are threatened as well. That is why in a sense all banks are 'systemically relevant' and why the banks must be kept from going under in all circumstances.

The actors in the euro currency union, desperately in search for the effective 'unconventional' step, should acquaint themselves with the thought of embarking on monetary reform, that is, dissolving the false identity of money and bank credit by replacing bankmoney on account with sovereign central-bank money on account, perhaps also by introducing sovereign digital cash as a modern follow-up to traditional solid cash. Such kinds of sovereign money would be issued, as far as the euro is concerned, by a reset and realigned ECB and Eurosystem as the independent and impartial monetary power of the euro area.

Backing up today's private commercial bankmoney by central-bank and government support is what guarantees the currency and bankmoney, to the extent bankmoney can be guaranteed at all. Yet, while the banks create the money, they cannot give validity and value to the money. It is the central banks and governments that ensure the validity of a currency, and it is real output that creates the value of the money, i.e. its purchasing power. Bankmoney creation is an illegitimate and dysfunctional privilege. Over the course of the dissemination of cashless payment practices for about 100–150 years, the prerogative of money creation has been captured from the state where it belongs as a sovereign right of the same importance as legislation, jurisdiction, public administration, taxation and the use of force.

Sovereign money reform would restore control over the stock of money and thus enable effective central-bank monetary policies. It would make money the safe property of its owners, would ensure sufficient and flexibly readjustable money supplies, would help to prevent overshoot in financial and business cycles, and help to keep within bounds inflation and asset inflation as well as volatile exchange rates and interest rates. As a welcome byproduct, the one-off transition seigniorage coming with a transition from bankmoney to sovereign money would help to significantly reduce public debt without the weeping of capital cuts and the wailing of austerity.[23] 

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Outlook. The odds of a consolidated EU and a reset and realigned euro

Since the Brexit vote of 23 June 2016, the euro area has become more congruent with the EU. Among the remaining eight EU states outside the euro, in Scandinavia, Eastern Europe and the Balkans, there is no big European economy, however different these countries are in terms of population and GPD per capita. Against that background and after eight years of problematic bailout policies and delayed capital and debt deflation, it has now actually become quite realistic to assume that the future of the EU depends on the future of a successfully reset and realigned euro.

Of course, the reverse holds true as well: the future of the euro depends on the future of a successfully consolidated EU. After the Brexit vote, ever closer union is definitely out of the question for a long time, as is further expansion of the EU. Instead, the watchword is consolidation. Since the Brexit vote at the latest, even the most stubborn Eurocrat and the most fervent pan-European idealist should understand that business-as-usual will simply result in increased resistance to the 'ever closer union' and its further expansion.

The crisis policies of recent years have laid bare the north-south divergence within the euro and at the same time made plainly visible the fact that euro-related policies, which at first were creditor-dominated, have become ever more debtor-determined. In particular, controversial ECB policies are decided by southern majority vote. As to paradigmatic divergences and different attitudes towards monetary and fiscal policy, the antipodes among the big economies in the currency union are Germany and Italy, with France turning the scale. Northern countries are often outvoted, depending on which side France is on.

If in doubt, France – more like Italy and unlike Germany – prefers monetary laxity to stable-currency policies. In accordance with its own history and habits, France has from the beginning of the debt crisis pushed for bailouts and communitisation of debt rather than a regime of no-bailout and internal readaptation. Three German officials (Stark, then chief economist and member of the executive board of the ECB; Weber, President of the Bundesbank; and in fact also Köhler, the Federal President and former head of IMF) resigned in protest against the ECB's march towards a debt and bailout union. No one really cared and the resig­nations were forgotten the day afterwhich bodes ill for a euro reset and a realignment of the Eurosystem.

In public, the French government prefers to take cover, apparently not unhappy to leave the confrontational part to other northern countries. Especially Germany has been unwary enough to delegate its own officials to the 'Troika' and take on the creditor 'lead' role others have been reluctant to assume. It should have been understood after all that if someone is calling 'Germans to the front' there is a catch.

Among the euro countries, basically all northern members, from the north-west to the east, can be expected to be supporters of a restart and realignment of the euro, not without concern and reservations but basically in agreement. France is likely to present itself rhetorically as a northern country, while it would not come as a surprise when in actual fact France would try to thwart a euro reset. In the euro south, Spain and Portugal might express their support, but how far that would really extend is also unclear. In contrast, Greece and Italy, in their present stance, are bound to insist on bailouts, fiscal relief and exemptions from euro rules, perhaps threatening to leave the currency union if unheard. Such a threat is primarily of a political and geo-strategic nature. If France did really support a euro reset, and the monetary and fiscal policy in a reset currency union were generally credible, Italy and Greece could leave the euro or declare insolvency without the euro being at stake. The losses to the ESM, creditor central banks, non-Italian banks and euro governments would be important but not completely ruinous.

France is positioned in the midst of the diverging monetary and financial interests in the euro area. France will thus be the decisive actor. As much as the future of the EU now depends on the future of the euro, the future of the euro depends on which side France will take. France must break cover and commit itself unambiguously to a euro reset, because if France does not, the Franco-German understanding, which is already strained, will break down – which then might be the beginning of the euro's end.

In the days after the Brexit vote, quite a number of huffy EU grandees stated that the English were harming themselves, as if the English had fallen victim to their own anti-EU propaganda. To a degree this may be accurate. Independently, the English may in the end have made the right choice if the continental Europeans prove to be unable to reset the euro and consolidate the EU. Who laughs last, laughs loudest. For the time being, and on both sides of the Channel, one should be honest enough to admit that the outcome of the Brexit vote, questions of who might win or lose what and how much, is completely open.

Under the present conditions, there is no move without political risk. But redirecting the course of the European project towards EU consolidation and a euro reset—that is, no more bailouts, no debt communitisation, no shared liabilities, no intergovernmental transfers, instead, internal readaptation—is a financial necessity. Politically, at the same time, it would take some wind out of the sails of the Front National and other neonationalist right-wing movements.

In November 2011, when the euro debt crisis was heating up, I was invited to Padua to speak on the debt crisis and monetary reform. To my surprise, I was repeatedly asked whether it is true that Germany is planning to leave the euro and reintroduce the Mark. No one in Germany, except the far right, had ever thought about such a turn of the story. After a while it dawned on me that the Italians had a quite realistic assessment of the soundness of the country's banks and government finances, likening the north-south divergence of the eurozone to the north-south divide within Italy. When putting themselves in the situation of the euro north, they might wish to cut off from what they see as a never ending money sink.

Indeed, if an agreement on resetting the euro, realigning the ECB and the Eurosystem and consolidating the EU cannot be achieved, the continued march towards the ever closer debt, joint-liability, bailout and transfer union will lead straight into overall decline. The final break-up of the EMU and EU might then come about by northern as well as by southern countries splitting off from the union – creating a rag rug of middling and small nation-states and leaving Europe on the whole to increasing irrelevance, not unlike the fate of Ancient Greece.

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[01] Marsh, David 2013: Europe's Deadlock, New Haven/London: Yale University Press, 4–19, 60; also see id. 2009: The Euro. The Battle for the New Global Currency, New Haven/London: Yale University Press, 99 i.a.

[02] The diverging concepts of monetary policy pursued by Germany and France are central in the euro book by Markus Brunnermeier, Harold James und Jean-Pierre Landau, The Euro and the Battle of Ideas, Princeton University Press 2016. 

[1] Mundell, Robert 1961: A Theory of Optimum Currency Areas, The American Economic Review, Vol. 51, No. 4, 1961, 657–665. – Goodhart, Charles A. E. 1998: The two concepts of money – implications for the analysis of optimal currency areas, European Journal of Political Economy, 14 (1998) 407–432. – Mongelli, Francesco Paolo 2002: 'New' views on the optimum currency area theory: what is EMU telling us? European Central Bank, Working paper series, No. 138, Frankfurt. Idem 2008: European Economic and Monetary Integration, and the Optimum Currency Area Theory, Directorate-General for Economic and Financial Affairs of the European Commission, Economic papers, No. 302, Brussels.

[1b] Wray, L. Randall 2012: Modern Money Theory, New York/London: Palgrave, 218.

[1c] Wynne Godley / Marc Lavoie 2007: Monetary Economics. An Integrated Approach to Credit, Money, Income, Production and Wealth, London: Palgrave.

[2] In 2015, for example, the German exports to euro countries amounted to € 435 billion, and the imports from them totalled € 426.5 billion. Source: 77151/um­frage/deutsche-exporte-und-importe-nach-laendergruppen.  

[3] Encompassing analyses of the transatlantic financial crisis are given in Wolf, Martin 2014: The Shifts and the Shocks. What we've learned from the financial crisis and have still to learn, London: Allen Lane. - Turner, Adair 2015: Between Debt and the Devil. Money, Credit and Fixing Global Finance, Princeton University Press. - Financial Crisis Inquiry Committee 2011: Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States, Washington, DC: US Government Printing Office, January 2011. – Peukert, Helge 2012: Die große Finanzmarkt- und Staatsschuldenkrise, 4. überarb. Auflage, Marburg: Metropolis.                     

[4] Diaz-Alejandro, Carlos F. 1984: Good-bye financial repression, hello financial crash, Kellogg Institute, working paper #24, August 1984. – Reinhart, Carmen M. / Sbrancia, M. Belen 2015: The Liquidation of Government Debt, International Monetary Fund, Working Paper wp/15/07. –   

Smith, Jeremy 2004: Financial repression – myth, metaphor and reality, Open Democracy UK, 3 March 2014,

[5] Respective issues are expounded in Huber, Joseph 2016: Sovereign Money. Beyond Reserve Banking, London: Palgrave, forthcoming Oct 2016. Also cf. Josh Ryan-Collins et al. 2012: Where does money come from? London: New Economics Foundation. – Alvaro Cencini / Sergio Rossi 2015: Economic and Financial Crises, London: Palgrave. - With similar content, but overstating credit creation 'out of nothing' by the banking sector and, in mirror image, failing to expose the reactive role of central-bank fractional refinancing of bankmoney, see Werner, Richard A. 2014: Can banks individually create money out of nothing? The theories and the empirical evidence, International Review of Financial Analysis 36 (2014) 1–19. 

[6] ECB, Asset Purchase Programmes, html, May 2016.

[7] ECB,  What is ANFA?
The ECB does not disclose ELA positions separately, but mingles them with other central-bank lending positions.

[8] Current figures at – Also see Sinn, Hans-Werner 2015: The Greek Tragedy, CESifo Forum, Special Issue, Munich, June 2015, cf. pp. 4–6.

[9] Bernanke, Ben 2016: What tools does the Fed have left? Part 3: Helicopter money, Bernanke's Blog, 11 April 2016, 2016/04/11-helicopter-money. - Wolf, Martin 2013: The Case for Helicopter Money, Financial Times, 12 Feb 2013. - Keen, Steve: The Debtwatch Manifesto, sub-chapter A Modern Jubilee, www. debtdefla­, 3 January 2012. – www.sovereignmoney. eu/monetary-financing.

[10] ECB Data Warehouse, May 2016,

[11] Frankfurter Allgemeine Zeitung, 11 März 2016, 15. H.-W. Sinn 2014: Gefangen im Euro [Trapped in the euro], München: Redline.

[12] Cf. > Why central banks perform worse than they could.

[13] Cf. > section on negative interest.

[14] Cf. > Why central banks perform worse than they could.

[15] Turner, Adair 2015: Between Debt and the Devil. Money, Credit and Fixing Global Finance, Princeton University Press, 213–230. - Jackson, Andrew / Dyson, Ben 2013: Sovereign Money, London: Positive Money, pp. 16, www. –

[16] Rather than national economics in the 19th century, it has been 20th century sociological modernisation theory that has worked out the pivotal role of the nation-state in modernisation processes of culture, polity, economy and technology, for example in the works of Seymour M. Lipset and Stein Rokkan. Cf. Flora, Peter (ed) 1999: State Formation, Nation-Building, and Mass Politics in Europe: The Theory of Stein Rokkan, Oxford University Press.

[17] Mauldin, John / Tepper, Jonathan 2011: Endgame: The End of the Debt SuperCycle and How It Changes Everything, Hoboken, NJ: John Wiley & Sons. Also cf. A Primer on the debt supercycle by BCA Research, 2014,

[18] For example, see Costas Lapavitsas 2012: Crisis in the Eurozone, London: Verso Books. – Wolfgang Streeck 2015: Why the Euro Divides Europe, New Left Review 95, Sep-Oct 2015. https://newleft Idem 2014: Buying Time. The Delayed Crisis of Democratic Capitalism, New York: Verso Books. Extensive review by Watson, Mike 2015: Out of the Euro!

[19] Of late, 'ever closer union' is also pushed underneath as allegedly 'reforming the currency union' through measures geared at greater convergence with regard to fiscal policies (public expenditure, debt and taxes), national price levels, competitiveness and more balanced external balances – a strange mixture of partially ill-conceived and partially fictitious goals. For example cf. What kind of convergence does the euro area need? written by auf dem Brinke, Anna / Enderlein, Henrik / Fritz-Vannahme, Joachim, commissioned and published by Jacques Delors Institut, Berlin, and Bertelsmann Stiftung, Gütersloh, 2015. - Similarly, but still more pervasive and interventionist Joseph E. Stiglitz 2016: The Euro. How a common currency threatens the future of Europe, New York: W.W. Norton & Company, 239–271. He calls for  any kind of overdone union -  debt and joint-liability union, comprehensive banking union, fiscal and transfer union, and inhibition of foreign-account surpluses.

[20] Contributions to reintroducing national currencies in parallel to the euro at www.

[21] Eurostat, Greek Ministry of Finance, rep. by FAZ, 28 Apr 2015, 18.

[22] All legal acts regarding the Eurosystem and the ECB at html/index.en.html.

[23] For more details of sovereign money reform cf. Huber, Joseph / Robertson, James 2000: Creating New Money, London: New Economics Foundation. – Jackson, Andrew / Dyson, Ben 2012: Modernising Money, London: Positive Money. - Joseph 2016: Sovereign Money. New Perspectives on the Future of Reserve Banking, London: Palgrave, forthcoming. –

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[1] Marsh, David 2013: Europe's Deadlock, New Haven/London: Yale University Press, 4–19, 60; also see id. 2009: The Euro. The Battle for the New Global Currency, New Haven/London: Yale University Press, 99 i.a.

[2] The diverging concepts of monetary policy pursued by Germany and France are central in the euro book by Markus Brunnermeier, Harold James und Jean-Pierre Landau, The Euro and the Battle of Ideas, Princeton University Press 2016. 



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The euro's ambivalent foundations         
- The political context

- Factor mobility. The theory of optimum
   currency areas

- Cross-border disparities and imbalances
- Brief digression: 'Trade Champion' Germany
- Prevailing national patterns. Divergent
  concepts of monetary and fiscal policy

The euro crisis is a banking and debt crisis - which was turned into a currency crisis

Crisis management on the part of the eurozone governments. The central
lapse of EMU: breach of the rules of no bailout and internal readaptation

The results from government interventions: Delayed crisis resolution, bailout instead of internal readaptation, neonationalist confrontation

It's the money system, stupid!

Crisis management on the part of the ECB: from tentative to desperate

The results from ECB interventions: Delayed crisis resolution, permanent failure of conventional monetary policies, financial repression and monetary financing without real-economic effect

Crisis management to what end? The unresolved euro crisis

Which future for the EU? A community of nation-states

At the crossroads
- Unwinding the euro?
- Ever closer debt and joint-liability union: stuck
   in the mud

- Leaving the euro? Parallel domestic

- Defusing the situation
- Reset: no bailout combined with internal

- Realigning the Eurosystem and the ECB
- Monetary reform

Outlook. The odds of a consolidated EU and a reset and realigned euro



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