Storm clouds over the euro

Battles raging in France, Germany and elsewhere over social security reform and the debate on social rights in the EU's draft constitution will decide the future of the European currency

The creation of the European Monetary Union (EMU) was an unprecedented achievement, promising deeper and larger markets. The stimulus to trade and investment is manifest. But will the euro last?

Two current developments will shape the answer. The first is the outcome of battles raging in France, Germany, and elsewhere over social security reform. The second is the debate over the inclusion of "social rights" in the EU's draft constitution.

Welfare state entitlements are vastly different from country to country in Europe. These differences portend intense conflicts within the EMU. France, Germany and Italy must scale back their social commitments, raise taxes, or borrow. But in the Eurozone's increasingly competitive environment, raising taxes would drive away business, while cutting benefits may be tantamount to political suicide. So the temptation to borrow is great.

The Stability and Growth Pact is designed to block that temptation by keeping budget deficits below 3 percent of GDP. But the pact is already straining, and today's serial violations may appear mild when the baby boom generation begins to retire and public pension and health liabilities become cash demands. Some national deficits may rise to twice the pact's limit.

If that happens, the affected countries can expect no help from the European Central Bank, which is prohibited from bailing out member states. Italy and Belgium, heavily indebted when the euro was launched, could become the classic victims of a vicious circle, in which high deficits trigger rising interest rates, higher borrowing costs, even higher deficits, and eventually default.

If an EMU country defaults, it will come under intense pressure to leave the euro in order to regain control of its currency and pay at least its domestic liabilities in devalued national paper. If that country is large, the shock waves could push other members over the edge with it.

Recent events in Argentina provide a warning as to how such a crisis can unfold. Ballooning provincial deficits, which Argentina's central government could not control -- but was obliged to finance -- pushed the country into default, forcing it to abandon a monetary pact (the currency's one-to-one peg to the dollar) to which the population was attached.

The euro faces a second basic challenge. The governments that launched the EMU anticipated that their workers and businesses would eventually be sufficiently mobile and flexible to adjust to economic changes affecting them differentially. At present, workers throughout the EU resist moving to change jobs, and social regulations hamper the mobility and adaptability of businesses. Legislatures are under pressure to relax these constraints.

But little noticed social provisions in the EU draft constitution, which Europe's leaders are expected to sign in less than a year, could compromise the liberalizing process.

In Part II of the draft constitution, a list of "social rights" is incorporated as "constitutional rights," enforced by the European Court of Justice. These include protection against "unjustified dismissal," the right to "working conditions that respect the worker's health, safety and dignity," and "entitlement to social security benefits [apparently regardless of cost] ... in cases such as illness, old age, and loss of employment."

The consequences for the euro would be grave. Without further liberalization, the EMU will remain subject to potentially fatal strains arising from shocks that affect some countries more than others.

Imagine that the economic boom that Greece is experiencing in the run-up to next year's Olympics turns to bust after the games end. Because the drachma does not exist anymore, it cannot be devalued. If the European Central Bank considers a large reduction of interest rates, contrary to its inflation objectives, the bank won't be able to help by cutting interest rates to benefit Greece.

So the appropriate response for Greece would be an energetic restructuring program, involving closing some businesses, requiring changes in working conditions, and perhaps even cutting wages. But if regulations block Greek firms from laying off workers, and if militant Greek unions refuse any changes in working conditions, the result could be a wave of bankruptcies and a surge in unemployment.

The Greek government, already burdened by social security obligations, would have to increase unemployment payments, at a time when its revenues would be collapsing. Radical proposals to leave the euro, and restart the Greek economy with a program of devaluation and budgetary expansion, could become compelling.

In truth, many of the rigidities underlying this hypothetical crisis are not attributable to provisions in the draft constitution. Greece has not liberalized sufficiently to insure its economy against idiosyncratic shocks, despite impressive reforms to date. A new Bill of Social Rights would not create destructive rigidities, but it could slow down the liberalizing process that countries like Greece need to withstand the vicissitudes of a common currency.

A euro crisis can be avoided. But to do so the nations of Europe must lift the twin clouds of pension debt and regulatory protections. France and Germany are pursuing modest but nonetheless courageous reforms. If their liberalizing efforts, and those of others, are not to stall, their leaders should see to it that the draft Bill of Social Rights is not frozen in its present form in the EU's constitution. Instead, these rights should be left in the hands of national legislatures, which have the flexibility to change their minds.

Georges de Menil is professor of economics at the Ecole des Hautes Etudes en Sciences Sociales in Paris.

We'll bail them out as usual. With our contributions to global warming, heat waves will be a constant feature of summer killing tens of thousands of elderly Europeans. Thus lowering the high cost of pensions. I'm looking forward to the letter of thanks from Chirac.

Maybe I should write him a letter suggesting that they enact a high tax on air conditioners thus continuing the deaths during heat waves, They could call it an energy tax.

The Euro was created because her member countries recognize that their Socialist safety nets and it's pro-labor, anti-business, job security regulations are destroying European competitiveness. They don't seek to replace the dollar. They simply wish to achieve parity with the U.S. in it's amazing growth and economic vitality.

Our recession is mild compared to the depression in France and Germany. We'd have emerged from it a year ago except for the fact that our trading partners remain so weak.

The discipline that the Euro was supposed to impose--national deficits of 3% or less--will force the end of Socialistic welfare programs, unless the Governments flinch now. In that case, the Euro is doomed and, with it, the European Union.

What a house of cards. Madated soicial spending, combined with madated limits on budget deficits. All due to the fundamental misunderstanding of what a right is. A right cannot be an obligation for others to provide something for you. Too bad so many in this country don't understand that either. Hopefully when it comes crashing down over there it won't be too late for us to learn from their mistake.

The socialist/progressive wing of the Democrat Party, embodied in such luminaries as Al Gore and Hillary Clinton, view Europe, especially France and Germany, as the model for what should be in our sadly backward country. They would mold our country in the shape of the Eurozone, and then take it one step further by forging some sort of economic and political union with these elitist wingnuts.

Will we ever know how close to disaster we came in the election of 2000? Unfortunately, the danger has not passed. If the Democrats return to power before the disaster that is Europe becomes evident to all, we face the same fate.

Faced with these new statutes, the court might well change its basic approach. Since its inception, the court's thrust has been to enforce the economic freedoms mandated by successive agreements since the Treaty of Rome. A Bill of Social Rights will require the court to balance this liberalizing mission with attention to the new protections. In this new legal environment, national efforts to dismantle business restrictions could grind to a halt. The consequences for the euro would be grave. Without further liberalization, the EMU will remain subject to potentially fatal strains arising from shocks that affect some countries more than others.

It's just a matter of time for a full-blown euro crisis.

There are those (me among them)who believe that the Euro is doomed to collapse, because rather than serve as a benchmark leading to fundamental reform, which the WSJ Europe fervently hoped for in its pre-Euro editorials, it serves to one more way to stifle any European government's ability to respond to economic downturns. Granted, the Euro is a handy device for commerce, but you cannot influence interest rates or monetary supply in response to very different circumstances within the member states.

There is already discussion in Europe on trying to end eliminating tax competition---an absolutely disastrous solution to current problems. This would ossify the already arthritic European economies--and it's probably one of the reasons that the accession states are so vitally concerned with leaving themselves an escape hatch in the Euro-constitution. Bad years ahead for the EU. Eastern Europe's growing productivity cannot be sustained if it is dragged down by a sinking German and French economic axis, and if this happens, there will be much greater upheavals in Europe's future.

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