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Aspirin for the Euro Zone?

May 8, 2012 • 206 Views

Tomorrow is Euro Day and it reminds me of aspirin.

On May 9, 62 years ago, the French foreign minister proposed a limited economic partnership with West Germany. By the time the treaty was signed in 1951, the Netherlands, Luxembourg, Belgium and Italy had joined also to form a 6-nation coal and steel free trade zone. With people, services, goods and capital moving ever more effortlessly across European borders, that free trade zone grew and became a monetary union. Here, I would usually say that 19th century free trade advocate David Ricardo would be smiling.

Instead, aspirin comes to mind.

Imagine for a moment, a country with a sick economy. Lenders know it is ill so they ask for relatively high interest payments when that country borrows. Then though, the country joins the euro zone.  Rather like taking aspirin for a fever, being a euro zone member makes it look healthier than it really is. As a result, lenders let the country borrow more easily. But really, it was still sick. It needed an economic antibiotic to attack the disease rather than just an aspirin for the symptoms.

That country is Greece. And now, with its illness having resurfaced, Greece has been prescribed fiscal medicine that includes 11 billion euros of spending cuts. Based on current political turmoil, they believe it was the wrong prescription.

Our Bottom Line: Can euro zone monetary union work without nations being required to take fiscal–spending, taxing, borrowing– medicine?

The Economist has a superb series of maps that display, country by country, different euro zone debt, growth, unemployment in which Greece, Portugal and Italy stand out for their massive debt. This Chicago Tribune story from Reuters tells more about Greek political turmoil. And here, in a NY Times Magazine article, Paul Krugman clearly and logically talks about euro zone history and challenges.

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