There is broad consensus that market integration within Europe is essential; it is part of the glue that holds the region together by generating powerful bonds of self-interest. But in debates about the future of the eurozone, most accept that continued divergence in economic fortunes between member-states is politically corrosive for the European project. There is, however, little agreement on the instruments that could bring about less divergence, let alone convergence.
Some economists believe a crucial component of a new paradigm should include reform of the ECB’s mandate to make its lender of last resort function explicit; at present, is an implicit political deal subject to political decisions at the eurozone level (such as on debt sustainability). But this would require the existence of a common European safe asset. At present the de facto eurozone safe asset is the German 10-year bond, and Germany benefits or gets a ‘rent’ from this in the form of very low bond yields and hence borrowing costs. Were the eurozone’s member-states to agree to jointly issue Eurobonds – in the process making eurozone countries responsible for each other’s debt states – the currency union would have a common safe asset, enabling the ECB to act as a fully-fledged lender of last resort. This, many economists believe, could facilitate long-term convergence; at present the governments of weaker countries (and the firms and households based in then) pay higher real interest rates than their better off counterparts.
But the issuance of Eurobonds would require a degree of political integration well beyond what is currently possible within the eurozone; a eurozone budget backed by the issuance of common eurozone debt would comprise a transfer mechanism. A possible quid pro quo for Germany agreeing to the common issuance of debt could be other eurozone member-states to agree to adopt restrictive fiscal regime similar to that in place in Germany itself. But such is the current political toxicity of any transfer mechanism, even attempts to reach agreement on a common system of unemployment insurance have come to nothing. In the face of this political stalemate, the eurozone has limited itself to the establishment of a so-called Budgetary Instrument for Convergence, a fund of €17bn to be disbursed over a 7-year period. Many experts though argue that this is too little to provide a counter-cyclical stimulus across the eurozone in a downturn and will be financed through the existing EU budget rather than involving additional funds.
The completion of the EU’s banking union is seen by many as another necessary element of a new paradigm. Notwithstanding the establishment of the ESM, the ties between banks and their home sovereign remain strong within the eurozone, which means that in times of stress, banks may still be subject to deposit flight. But there is disagreement over what a comprehensive banking union would look like. For some, it would require a common safe asset as a large common fiscal backstop to the eurozone’s banking system; others think it would be sufficient to increase the funds under disposal at the ESM and agree a system of common deposit insurance. The German finance minister, Olaf Scholz, argued in November 2019 that Germany should end its opposition to common deposit insurance, but it is unclear whether other member-states will accept Germany’s conditions, such as that they take further steps to strengthen their banks and place tighter limits on the amount of domestic government bonds these banks can hold on their balance sheets. There is some support for a capital markets union, which could help mutualize risk by fostering cross-country investment (and diffusing the costs of a crisis in a particular member-state), but this too requires political integration, for example in the areas of insolvency regimes and business taxation, which is currently not achievable.
For a growing number of economists, a further element in a new paradigm could be a rethinking of national ‘competitiveness’. They argue eurozone countries should place more emphasis on boosting domestic demand and less on maximizing export ‘competitiveness’. Current account balances within the eurozone have not been competed away as the market liberals thought inevitable. And in the absence of risk-sharing mechanisms it arguably puts pressure on all eurozone to emulate those countries’ strategies (in a drive to become creditors and hence reduce the risk of market-driven panics). The simultaneous drive by all members of the eurozone to run trade surpluses has resulted in large eurozone surplus with the rest of the world, leaving the bloc vulnerable to a worsening global economic outlook.