Euro@25: Have crises strengthened the Economic and Monetary Union?
The crises that rocked the monetary union between 2008 and 2012 resulted from an accumulation of macroeconomic and financial imbalances. These manifested themselves in a variety of ways: property bubbles, excessive public and/or private debt levels, high public and/or current account deficits, weakened competitiveness, the build-up of non-performing claims on banks’ balance sheets, toxic links between the financial health of banks and governments, etc.
These imbalances became unsustainable, leading to acute financial crises that forced countries with deficits to reduce drastically the gap between public spending and revenue, to reform their economies (the labour market, pensions and competition) and to intervene directly to restore the stability of the financial sector (e.g. through recapitalisation, consolidation, etc.).
First additions to the architecture of the euro area
Financial assistance mechanisms wereput in place to enable these countries to spread the painful fiscal adjustments out over time. In 2010, Greece benefited from bilateral loans from other euro area Member States (and the IMF). In 2012, these Member States provided loans through the European Financial Stability Facility (EFSF). As from 2011, the EFSF also made available loans to Ireland and Portugal. In 2012, the euro area Member States set up a permanent institution, the European Stability Mechanism (ESM), with financing capacity based on capital contributions. The ESM has granted loans to Spain and Cyprus.
The ECB also repurchased government debt titles and provided emergency liquidity to banks during the acute phases of the crises. In 2012, the introduction of outright monetary transactions and the ECB’s commitment to do “whatever it takes” to safeguard the monetary union helped calm the financial markets.
Caption : cf. « Whatever it takes » ; Mario Draghi, 2012
For their part, the EU Member States sought to strengthen the institutions that guarantee the soundness of their public finances. In 2011, a directive establishing minimum requirements for national budgetary frameworks and regulations aimed at strengthening the fiscal rules were adopted. In 2012, twenty-five Member States signed the Fiscal Compact, thereby committing to implement in their national legislation a fiscal rule requiring that the general government budget be balanced or in surplus.
To discourage Member States from living beyond their means (and running up current account deficits), a so-called macroeconomic imbalance procedure was introduced in 2011. This surveillance process contributed to better crisis prevention.
The euro area also took the first steps towards a banking union. The Single Supervisory Mechanism ensures direct supervision of the largest banks in the euro area, while the Single Resolution Mechanism aims to resolve failing banks in an orderly fashion and at a minimal cost to the public purse.
Additional measures following the Covid-19 and energy crises
The wave of reforms lost momentum after the sovereign debt crisis, but the Covid-19 pandemic and the energy crisis forced the European institutions to adopt additional measures.
Starting in April 2020, the EU began to expand its assistance mechanisms. The SURE programme extended low-interest loans to eighteen countries to fund short-term employment schemes and to safeguard jobs. In July 2020, the European Council agreed on a recovery plan of up to about €800 billion. The European Commission raised funds on the capital markets, making them available to Member States in the form of loans as well as transfers. The latter imply concrete solidarity between Member States, with those countries most affected by the pandemic benefiting more.
This solidarity remains a milestone in the history of the European project but is far from constituting a decisive step towards a European superstate. After all, a pandemic is a tragedy that affects all countries, leaving no room for the moral hazard argument that traditionally underpins the reluctance of frugal states to finance the expenditure of the more lavish ones. The transfers were, however, conditional on the beneficiary states adopting reforms and making investments over the period 2020-2026.
The ECB also played a decisive role in stabilising the euro area. As early as March 2020, its pandemic emergency purchase programme made it possible to guarantee advantageous borrowing conditions for all Member States. In July 2022, the PEPP was supplemented by a permanent mechanism (the transmission protection instrument) designed to prevent purely speculative movements on sovereign debt markets.
Between 2020 and 2023, the key role of national budgets in stabilising the economy meant that the safeguard clause in the European budgetary rules had to be activated. These rules have since been reviewed, leading to the adoption of a neweconomic governance framework.
The new rules, which entered into force in May 2024, require Member States to submit medium-term fiscal-structural plans to remedy excessive deficits and reduce their debt, while taking into account the expected increase in spending linked to population ageing. The emphasis is on keeping spending under control. Conditional on making credible commitments to structural reforms and growth-enhancing investment, countries are allowed to spread the necessary fiscal consolidation effort over seven years instead of four.
An imperfect and incomplete architecture
Ultimately, the crises that shook the monetary union helped strengthen the institutional architecture of the euro area. However, the euro area is still not a complete monetary union in the same way as the US states, which are bound by the dollar: there is no significant federal budget to provide European public goods or ensure macroeconomic stabilisation; there are no common safe assets; the banking union still lacks a common deposit guarantee scheme; and capital markets remain fragmented. Progress in these areas remains mired in issues of moral hazard and national preferences.
Most of these shortcomings are the subject of proposals in the report submitted by Mario Draghi to the president of the European Commission in September 2024. Will the existential crisis of deteriorating European competitiveness be enough to spur the EU authorities − in the spirit of Monnet’s words − to come up with solutions to complete the monetary union? A forthcoming article for the NBB blog will look at the desired changes.
