Lessons on the euro’s woes

Published on the Malta Independant¸ issue Sunday¸ 5th December 2010


The recent attempts to bail out Greece and Ireland is a complicated business that has left many suffering souls who had believed that the euro was invincible and the bonanza of low interest rates would prevail in their profligate economies. Now they are paying a high price and their sovereign debt is in shaky territory. Their 10-year bonds are fetching an interest rate that is at a 200 point premium over those of Berlin. It may rise even higher and make repayments dearer for cash strapped taxpayers. Of course market uncertainty is factored into the rate of such bonds. Berlin is the paymaster and it pays the piper so justifiably it is setting the tune.

Why did this sudden wave of currency crisis hit Ireland¸ a country that up to two years ago was the Celtic tiger – a champion boasting a higher standard of living than the UK? One answer could be its trade imbalances and the uncontrolled loans given by its banks to finance a bloated property sector. Of course more borrowing at national level means a larger debt servicing cost¸ which¸ added to the excess spending in the welfare and public sector¸ continued to balloon during a bull market. The story changed abruptly in 2008 when the US sub-prime crisis and toxic debts that supported it flooded the global market. Ireland’s three major banks were too dear to the Irish pride to be allowed to go bankrupt with a growing pool of unpaid creditors¸ so the Cowen government did what was expected and assumed their toxic debts¸ which shot the country’s sovereign debt sky high. It took €85 billion to plug the hole. It came as a rude surprise when Ireland’s public finances¸ seemingly robust under the Celtic Tiger regime¸ took a sharp turn for the worst.

Before joining the eurozone 10 years ago¸ the Irish currency (the punt) was pegged to the sterling and in the midst of such a crisis it would have devalued the punt and a new equilibrium reached. This cannot happen in the euro club hence the painful bailout with its acrimonious conditions of austerity. In simple terms¸ the Irish had no option but to salvage its banks by borrowing into the future earnings of its taxpayers. Now with higher interest rates¸ can the austerity-stricken taxpayer carry the cross on the steep way to redemption date? It is a poisoned chalice that could not be avoided. Angry workers are asking if the patient takes the sour medicine will this alone make him/ her strong enough to plough the fields when the storm is over. Will the surplus countries continue to bale out sicker countries honouring the euro club members’ solidarity or will a time come when a two-tier union emerge? The answer is fraught with uncertainties. Expectations within the eurozone are high but outsiders such as the sterling commentators are more sceptical.

The remedy in the short term demands both political and economic competence. Recent rumblings from Italy’s own fragile economy comes at the wrong moment but in times of crisis it does not rain it pours.

Italy’s government faces a severe vote of confidence next week and its economy is highly in debt. This reaches a figure of over 120 per cent of GDP (although most of it is of a domestic nature). The warning signs for Italy’s high unemployment of 8.6 per cent plus a fragile government does not bode well for the euro. Its bond spread exceeds that of Germany by 210 points. The trouble will start when Italy goes to the market