Warnings over future of eurozone

The eurozone is heading towards a break up unless there are moves towards much closer political and fiscal union, according to chief economist with State Street Global Advisers, Chris Probyn.

There were fears throughout most of 2011 and into 2012 that the single currency would unravel amid unbearable strains between the member states.

But the much more interventionist ECB under president Mario Draghi has calmed market fears, particularly in a speech last July when he said, “he would do whatever it takes to save the euro”. At the beginning of last September the ECB announced the Outright Monetary Transaction (OMT) programme that promised unlimited purchases of the short term debt of distressed member states in return for signing up to economic reforms.

Moreover, plans for a European Banking Union are also at an advanced stage.

But these steps, while unprecedented by eurozone standards, are insufficient to keep the region in tact, according to Mr Probyn.

He argues that the real cause of the debt crisis was huge current account imbalances between member states. The only solution that ensures the viability of the eurozone over the longer term is moving to a transfer union and that involves much closer fiscal and political integration.

“Germany’s approach to eliminating differences in competitiveness between member states is through fiscal consolidation and internal devaluation. It is a cruel approach and one that suits Germany because it locks them into a fixed exchange rate with its main trading partners,” said Mr Probyn in an interview with the Irish Examiner.

State Street is the second oldest and one of the biggest banks in the US. Mr Probyn said that there is “no intellectual basis” for austerity. He points to this country to support his argument. In 2007 Ireland had a fiscal surplus and a debt/ GDP ratio of 25%.

“The problem was with the banks. What should have happened is that a eurozone fund should have taken care of the banking crisis and the Irish Government should have been free to pursue a fiscal expansionary policy to offset the deflationary effect of the housing bust.”

There was no rationale to treat Ireland and Greece in the same manner as both countries had very different problems, he added.

The next big challenge facing the eurozone is the region wide stress tests planned for early next year. Mr Probyn said that proposals for a Banking Union are inadequate because the German government wants treaty change to introduce an effective resolution regime and deposit insurance scheme. As it stands, a banking union will not break the vicious link between bank and sovereign debt.

The Irish Government should apply for a precautionary credit line from the ECB through the OMT prior to the stress tests in case the banks need to be recapitalised following the stress tests, he said.

Mr Probyn expects that the UK will leave the EU because of closer integration and try and negotiate a trade deal with the bloc.