The high price of Europe’s pragmatism

Posted on July 24, 2016

GIBRALTAR - JUNE 22: A pay-per-view binocular with the British and European Union flags stands at the southern tip of the peninsula the day before the EU Referendum on June 22, 2016 in Gibraltar. Citizens of the United Kingdom and its territories will go to the polls tomorrow in what many expect to be a very tight vote on whether to remain in or leave the European Union. A result is expected early Friday morning. (Photo by Sean Gallup/Getty Images)©Getty

The ease with which an ob­server spots an unsustainable development increases with distance. The Brexit vote and eurozone crises were both easier to spot from the other side of the English Channel.

Virtually all my continental European friends saw that UK membership of the EU was unsustainable. How is it possible, they asked, to refuse to be part of the eurozone and the banking union, but also be a full member of the single market for financial services? Few British people I know even understood the question: they said it was sensible to exploit opportunities the single market offered to all members. They seemed unfazed by London acting as the financial centre for another currency zone.

    I notice a similar gap in perceptions of the eurozone. Many of my British friends have long seen clearly that the eurozone is unsustainable on the basis of present policies and institutions. But that view is not shared by policymakers and economists on the continent.

    Critics from Britain rightly argue that the monetary union is failing because of a divergence of economic performance. There are now backstops in place but they will not stop member states drifting further apart. The solution is at the very least a central authority in charge of banking and finance, a small budget and some joint debt instruments. If politics does not allow this, you have to accept the adage that if something is not sustainable it will come to an end.

    Sustainability is what this is all about. This is the main lesson from the Brexit vote. Britain will leave the EU not because David Cameron

    , the former prime minister, made a tactical error. He did, of course. But UK membership is ending because it was unsustainable. The EU has always been a project of political integration. The Remain campaign was premised on the notion that this was not so.

    For the EU you can define a sustainable solution as the opposite of a pragmatic one. Sustainable solutions are task-oriented; pragmatic ones are often short-sighted. The German refusal in 2008 to recapitalise the European banking system seemed pragmatic at the time. Chancellor Angela Merkel goaded the other leaders into the decision that every country rescues its own banking system. Eight years later, the Italian banking system is still insolvent and awaiting an urgent recapitalisation. We are still debating what toxic assets may be hidden in the balance sheet of Deutsche Bank. Ms Merkel’s decision was the start of the eurozone crisis.

    Or take the equally pragmatic decision in 2010 not to allow a writedown of Greek sovereign debt because German and French banks would otherwise have incurred unpleasant losses. The halfhearted programmes for Greece led to another crisis in 2012 and again in 2015. The latest news from Greece is that the recession is accelerating again.

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    Britain’s opt-outs are perhaps the most fateful example of misguided pragmatism. The opt-out from the single currency and the Schengen passport-free travel zone sounded sensible when agreed; they allowed a Conservative government to overcome its internal divisions for a short period. But they did not fix the underlying problem of a country deeply divided over its engagement in Europe. Britain’s opt-outs led to a progressive alienation between Britain and the rest of the bloc.

    So what non-pragmatic policies should EU leaders adopt? I would not categorise them in terms of the old “federalism versus intergovernmentalism” debates, but rather in terms of what is needed to make particular policy areas work. The monetary union is the most important part of the EU, especially now the UK is leaving. The eurozone will require a higher degree of political and market integration. The eurozone, not the EU, is the only geographical unit for which a single market makes sense, especially in financial services. The eurozone also requires further market integration, most importantly in labour. It needs free movement as a macroeconomic stabiliser — with people moving from countries with high unemployment to those with a shortage of labour; EU countries not in the eurozone can happily live with less integration.

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    The sustainable solution thus consists of a more integrated eurozone and a less integrated EU. The latter needs a customs union, a limited single market for manufactured goods and some services, and other common policies. There could be
    flexibility to accommodate the different needs of countries. It may even allow Britain to reconnect to the EU without becoming a “core” member.

    I would not expect serious discussions on any of this before next year’s national elections in Germany, France and the Netherlands. None of the above can be agreed in time to stop Brexit. But the importance of these talks cannot be overstated. They will decide whether Brexit is the beginning of the end, or of a new era of European integration.

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