Monday, February 1, 2010

Eurozone: What Centralizers Think

Wolfgang Munchau, an editorial commentator in the Financial Times and a staunch promoter of European centralization, warns of the coming Spain problem (FT January 31) as the “clear and present danger” to the zone’s survival, and its entering “the most dangerous phase in its 11-year history.” The solutions?

First establish a “robust and transparent system of crisis management” that would minimize moral hazard: “countries that benefit from help will have to accept a partial loss of sovereignty.” Centralization.

“The second essential prerequisite for survival is a reduction in internal imbalances, which lie at the core of the current crisis.” In other terms, a condition for solving a crisis is to treat the causes of the crisis. Nothing new there, except that doing so necessitates, according to Munchau, more coordination by the finance ministers of the eurogroup. More centralization.

Third, centralize financial regulation. But this begs the question of the responsibility of the national regulations in the crisis. Is it proven that Spanish financial regulation is worse than say the French or British ones? And if this is the case, then why not let Spain adopt the British of French regulatory system (a competition of regulations) or “import” some parts of them, rather than imposing to all the member countries a supra national one?

If regulatory and policy centralization is the solution, one has to assume that decentralization was the cause of the problem. Many commentators, on the contrary, have shown that suppressing the national exchange rate indicator ( a centralization of exchange rate and monetary policy) created an incentive for governments to increase public deficits, with no visible external consequence such as a currency depreciation, and that national imbalances are aggravated by the disequilibrium exchange rates embedded in the common currency system. While a swift depreciation of a national exchange rate would have helped to reduce the imbalances, a common currency forbids the use of such an instrument and thus exacerbates the problems.

When advocating centralization policies, one should make explicit the expected costs along with the hypothetical future benefits.

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