Why Germans Love the Euro: And Why the "Club Med" Remains Less Enthralled

By Schonberg, Stefan | The International Economy, Spring 2007 | Go to article overview

Why Germans Love the Euro: And Why the "Club Med" Remains Less Enthralled


Schonberg, Stefan, The International Economy


Eight years after the euro was introduced in 1999, European policymakers and economic commentators are drawing divergent conclusions concerning the merits of the common currency. What is most striking lately about views offered in speeches and press articles analyzing experiences with the euro: The more an individual euro-area country has profited from the euro in terms of increased monetary stability and lower interest rates, the more critical the judgments on the benefits of the euro become--a somewhat perverse outcome.

Countries like Italy, Greece, and Portugal--which never experienced such low inflation rates over an extended period of time in their modern history and which enjoyed huge windfall profits when their interest rates dropped close to the German level at entry into European Monetary Union--have squandered these benefits. Instead of investing the interest payments their budgets were spared into economic reform, most of the savings went into consumption. Without reforms, the growth of their production potential dropped relative to the other euro-area members, an outcome for which the euro is made responsible.

In France, on the other hand, dissatisfaction with the euro seems to be mainly of a political nature. French policymakers appear to have problems in coming to terms with the political independence of the European Central Bank. One element of disillusionment in France concerning the euro, however, is similar to that prevailing in the countries of the Club Med: the recognition that the initial advantages the euro provided relative to the other euro area members have disappeared.

Contrary those in the Club Med, German policymakers are, almost without exception, full of praise for the euro. Yet the common currency has been more of a mixed blessing for Germany.

In terms of its internal stability, the euro has been without doubt a success. The average annual rate of inflation during the eight-year existence of the euro, measured as the increase in the ECB's "harmonized index of consumer prices," was 2.05 percent--even lower than the average German inflation rate during the preceding eight years (2.25 percent). In assessing that outcome, however, one needs to take into account that the Eurosystem was lucky, operating in an environment of worldwide falling inflation rates. In relative terms, the comparison favors the deutschmark. The bonus in terms of lower inflation Germany enjoyed in relation to other countries in the pre-EMU era was higher than the bonus the euro area experienced since 1999 in relation to the rest of the world.

The outcome is less positive when assessing the euro's role for economic growth. Notwithstanding the tranquilizers offered routinely by the ECB and the EU Commission, stressing that the growth and inflation differentials among euro-area members have remained stable and that the conjunctural cycles have become more synchronized since entry into EMU, the fact remains that the euro area has a considerable way to go in forming an optimal currency area. Despite frequent official declarations to the contrary, a monetary policy which results in relatively low real interest rates for the high-inflation members of the eurozone and in relatively high real interest rates for the low-inflation members causes economic costs, in particular in the form of losses in growth and employment.

The reference to the United States, always made by European policymakers and central bankers in that context, misses important differences. The U.S. economy is much more able to adapt to changing economic circumstances, the U.S. labor force is more mobile, and fiscal policy in the United States absorbs economic shocks to a higher degree than in the euro area. Also, inflation differentials between regions appear to exist for much shorter periods of the time in the United States than in the eurozone. Under such circumstances, regional economic divergences in the United States are less costly than in the eurozone. …

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