This article was featured as part of ESSA’s annual Equilibrium publication.
The EU crisis has been painful for EU citizens and policy-makers alike. However, it’s not necessarily all bad news. With a long-term outlook, it is possible that the Eurozone could be stronger for the crisis. More specifically, the crisis has exposed the need for stricter adherence to Eurozone membership requirements and ongoing policy management focused on maintaining economic growth.
Of the twenty-seven European countries making up the European Union today, seventeen are Eurozone members and have adopted the euro as their currency. In order to become part of the Eurozone, countries are required to meet the five convergence criteria in the Maastricht Treaty developed by the ECB, ultimately aimed at promoting stability and economic cohesion in the region. That is, prospective member countries are required to have:
- An inflation rate no greater than 1.5% above the average of the three Member countries who have achieved the best results in terms of price stability,
- A government budget deficit relative to GDP less than 3%,
- A government debt-to-GDP ratio less than 60% (compared to the year previous),
- A nominal long-term interest rate no greater than 2% above the average of the three Member countries who have achieved the best results in terms of price stability, and;
- Joined the second European Exchange Rate Mechanism (under the European Monetary System) for two years in a row and have maintained a stable currency against the euro (specifically, within 15% either way of the value of the euro).
It has been argued that had the EU policy-making bodies required stricter adherence to this criteria, more than half of the present member countries would have been denied Eurozone membership. Let’s take government debt, for instance. Seven out of the twelve original member countries had a debt level exceeding 60% the year before entry. Eurozone membership was nonetheless extended to them, with the proviso that the debt should “diminish sufficiently and approach the reference value (60%) at a satisfactory pace.” However, the government debt of countries such as Germany, Greece and Austria exceeded 60% the year before entry and was still increasing (from 59.7% to 60.3% in Germany, from 111.6% to 113.2% in Greece and 63.8% to 64.3% in Austria). In the case of Belgium and Italy, both of their debt ratios were exceeding 60% the year before entry although declining, but arguably not at a “satisfactory pace”. In 2008, Belgium’s debt ratio stood at 88% (not even halfway to 60%) and Italy’s at 105% (significantly off-track from 60%).
In terms of government budget deficits, both Greece and Spain became members of the Eurozone despite the fact that their government budget deficit relative to GDP exceeded 3% in the year prior to entry. Their membership was extended with the proviso that it “should be exceptional and temporary and remain close to the reference value.” It has since been revealed that there was fraud, “creative accounting” and manipulation that permitted countries such as Greece and Italy to hide the true level of their budget deficits. Nonetheless, the EC gave its “stamp of approval” without demanding stricter adherence.
Interestingly, bar Germany, countries that had already exceeded the government debt and budget deficit maximums defined in the Eurozone convergence criteria prior to entry (e.g. Greece and Spain) have been amongst the worst performers in the time of the GFC and EU crisis. For example, the unemployment rate of Greece and Spain is 27%, with youth unemployment hitting 58% in Spain and 64% in Greece, compared to Germany’s unemployment rate of 5.4% and 7.6% youth unemployment. Government debt levels in Greece and Italy are expected to be 175% and 131% respectively for the year. The crisis has exposed the vulnerabilities of their economies, highlighting the need for EU regulatory bodies (such as the European Commission (EC), European Central Bank (ECB) and European Council) to more effectively monitor and verify the condition of member state economies post-Eurozone entry.
The flaw in the ‘moral hazard’ thinking has also been exposed; in times of crisis, when all the funds have dried up – who will pay the way? Increasing responsibility lies with core countries (e.g. Germany) to carry the burden of weaker periphery countries (e.g. Greece and Spain). With greater economic disparity across the region comes greater cost. A survey commissioned by the Harris Interactive (May 2013) found 52% of Germans believed that Germany was showing too much solidarity towards the rest of the Eurozone, while only 8% believed that it was not enough.
For many periphery countries, the crisis has forced radical changes in policy that have been a long time coming. In particular, this includes better management of budget deficits and reforming labour markets in order to be more flexible dynamic economies with sustainable fiscal positions. As a result, the financial conditions of the past twelve months have greatly improved, particularly following Mario Draghi’s (head of the European Central Bank) pledge to do “whatever it takes” to save the single currency. Greece’s current account deficit has decreased from 15% of GDP in 2008 to 3% in 2012. Similarly, Portugal’s deficit has reduced from 12.6% to 1.5% over the same time period.
Further, the EC expects that Greece’s primary budget balance will reach 0% by the end of 2013 (significantly less than the 10.5% deficit recorded in 2009). Many have argued that the Eurozone ‘bubble’ has protected countries such as Greece and Italy from completely collapsing over the past 5 years. The EC predicts that Latvia will join the Eurozone next January (with its GDP increasing by 3.8% over 2013) and tips Estonia to be the most prosperous Eurozone country in 2013 (with its GDP expected to grow by 3% over the year).
That’s not to say we’re in the clear just yet. The EC has still forecasted a 0.4% decline in the Eurozone GDP for 2013, although that is an improvement on the 0.6% contraction in 2012. However, one way to look at it is that the EU crisis was a necessary shock to the system, forcing policy and protocol changes that will promote prosperity and cohesion in the long-term. Lithuania’s recent unsuccessful attempt for Eurozone membership (2007), because of its inflation rate 0.1% over the maximum defined, is a promising step forward in the stricter adherence required for Eurozone membership.
 Maastricht Treaty Article 109j.1. European Union, 1993.
 Maastricht Treaty Article 104c(b). European Union, 1993.
 De Grauwe, Paul. (2009) “The politics of the Maastricht Convergence Criteria”. VOX: Research-based policy analysis and commentary from leading economists”. http://www.voxeu.org/article/politics-maastricht-convergence-criteria
 Maastricht Treaty Article 104c(a). European Union, 1993.
Harris Interactive (May 2013). “Germany’s influence of the European Union”. http://www.harrisinteractive.com/NewsRoom/HarrisPolls/tabid/447/ctl/ReadCustom%20Default/mid/1508/ArticleId/1224/Default.aspx
The Economist (May 15th 2013). “Taking Europe’s Pulse”. http://www.economist.com/blogs/graphicdetail/2013/05/european-economy-guide
 Lithuania in the European Union. (2007) “Criteria and Implementation”. http://www.euro.lt/en/about-the-euro-adoption-in-lithuania/euro-and-lithuania/criteria-and-implementation/
Maastricht Treaty Article 109j.1. European Union, 1993.
Maastricht Treaty Article 104c(b). European Union, 1993.
De Grauwe, P 2009 “The politics of the Maastricht Convergence Criteria” VOX, 15 April, http://www.voxeu.org/article/politics-maastricht-convergence-criteria
Maastricht Treaty Article 104c(a). European Union, 1993.
Lithuania in the European Union 2007 “Criteria and Implementation”. http://www.euro.lt/en/about-the-euro-adoption-in-lithuania/euro-and-lithuania/criteria-and-implementation/
Harris Interactive 2013 “Germany’s influence of the European Union”, 27 June, http://www.harrisinteractive.com/NewsRoom/HarrisPolls/tabid/447/ctl/ReadCustom%20Default/mid/1508/ArticleId/1224/Default.aspx
The Economist 2013. “Taking Europe’s Pulse” 15 May, http://www.economist.com/blogs/graphicdetail/2013/05/european-economy-guide