France v Germany

The Euro and the Battle of Ideas. By Markus Brunnermeier, Harold James and Jean-Pierre Landau. Princeton University Press; 440 pages; $35 and £24.95.

THE euro crisis that first blew up in late 2009 has revealed deep flaws in the single currency’s design. Yet in part because it began with the bail-out of Greece, many politicians, especially German ones, think the main culprits were not these design flaws but fiscal profligacy and excessive public debt. That meant the only cure was fiscal austerity. In fact, that has often needlessly prolonged the pain. Later bail-outs of countries like Ireland and Spain showed that excessive private debt, property bubbles and over-exuberant banks can cause even bigger problems for financial stability.

That is one early conclusion of “The Euro and the Battle of Ideas”, by three academics from Germany, Britain and France. They describe thoroughly the watershed moments of the crisis, how power shifted to national governments (especially in Berlin) and the roles played by the IMF and the European Central Bank (ECB). They blame euro-zone governments for failing to sort out troubled banks more quickly, for not realising that current-account deficits matter when public debts are in effect denominated in a foreign currency, for not making the ECB into a lender of last resort and for not pushing through structural reforms in good times.

Such complaints are often heard, not least from Britain and America. But more originally, the authors find the roots of these failings not in stupidity but in clashing economic ideas. Simplifying a bit, they focus on Germany and France. The Germans like rules and discipline, and fret about excessive debt and the moral hazard created by bail-outs. The French prefer flexibility and discretion, and worry about large current-account surpluses and the lack of a mutualised debt instrument. The Germans favour budget austerity even in hard times; the French favour fiscal stimulus on Keynesian lines. German policymakers are often lawyers, French ones more frequently economists.

Examples of such ideological clashes run throughout the book. They range from the design of the Maastricht treaty and the later stability and growth pact to the constitution of the ECB and the application of the fiscal compact. Throughout the crisis the French tended to see bank or national-debt woes as cases of illiquidity whereas the Germans usually viewed them as signs of insolvency. Similar divides have emerged in rows over Eurobonds (backed by France, opposed by Germany) and over accountability and democratic control at supranational level (backed by federal Germany but not by centralised France).

As the authors note, such differences in ideas are not party-political (they persist regardless of whether the two countries have centre-left or centre-right governments). Nor, interestingly, are they fixed forever in history: in the 19th century, and even more in the 1930s, it was France, not Germany, that favoured rigid rules, big surpluses and the discipline of the gold standard. Only after 1945 did that change.

The authors end on an optimistic note, with proposals for a Europe-wide insurance mechanism built on a form of Eurobonds designed to please both France and Germany. But their analysis might equally lead to pessimism. The euro crisis is far from over, with Greece needing more debt relief, Italy mired in banking problems and chronic slow growth and high unemployment almost everywhere. Britain’s Brexit vote will not help the mood, even if it was greeted by some as one more reason to push towards deeper fiscal and political union in the euro zone.

The trouble is that, as the book shows, France and Germany still have huge differences over the direction of travel. The French want debt mutualisation and more fiscal flexibility first, and are only then ready to talk about more discipline and deeper integration. The Germans are the reverse, pushing for discipline and integration before being ready even to think about debt mutualisation. After next year’s elections in both countries, such deep differences are likely to cause continuing problems for the single currency.