Posted by: Dirk | October 24, 2012

The anti-European Sinn

Hans-Werner Sinn in his latest column believes that the idea of a United States of Europe is dead. He is against a banking union, arguing the following:

The assertion that the eurozone could be transformed into a United States of Europe is no longer convincing. The path toward joint liability is far more likely to lead to a deep rift within Europe, because turning the eurozone into a transfer and debt union that can prevent the insolvency of any of its members would require more central power than currently exists in the US.

Now there is a fundamental disagreement here about what happened and what is needed to return to business as usual. Hans-Werner Sinn assumes that government debt is the central problem of the euro crisis. Socializing this government debt, he argues, is not feasible since people don’t want it and even the US government has no power to save its states from financial follies.

Here is my counter argument. The European financial sector financed investments in a way that created tens and hundreds of billions of euros worth in non-performing loans (mostly to finance real estate in Ireland and Spain). Now in a capitalist system if you invest and your investment fails to perform you are bankrupt. However, banks used their political influence and had its debt socialized. This happened in Ireland, and it will happen in Spain, it seems. As a result, government debt explodes.

In the United States this kind of behavior used to be unacceptable, but the latest policies did their best to protect banks from bankruptcy and government interference no matter how reckless their business model was. However, the government does not care about the fact that most of the banks that are in trouble are from New York. The Fed provides financial help even though you could argue that the financial problems from the sub-prime mess are local. No US citizen has any doubts about the banking union that exists in the US. Of course, New York-based banks will be saved, and so will banks from other states be saved.

So, Hans-Werner Sinn is wrong in arguing that the United States of Europe would need powers that even the United States of American doesn’t give to its central government. The banking union exists, and it is enforced. Paul Krugman wrote about another example. As a result of the savings&loans crisis in the US in the 1980s, taxpayers were chipping in more than $100 billion (in aid to banks, not in loans). 60% of the losses were in Texas. A banking union is enough to stop the financial crisis in Texas and ensure that the Lone Star State does not suffer through a prolonged depression (and ignite calls for secession?). In Europe, the victims of financial bonanzas are the people in those countries in which the money was invested. Innocent bystanders now have to deal with unemployment rates of 25% as they are portrayed as restless lenders and inefficient soon-to-be-pensioners. None of this drama influenced policy in the US during the ongoing Great Financial Crisis or the savings&loans debacle.

Hans-Werner Sinn and other academics that watched without comment as private losses were socialized as in the bank-bailout of Ireland now claim that the bad, bad governments of those countries cannot be trusted and that this would block further European integration. To a certain extent, I agree that with the governments that we have today no bright European future is possible. However, that is not because these governments are inherently evil or inefficient, but rather because these governments have shifted all costs of the crisis on the poor while ensuring that the wealth of the rich was protected. Bailing out banks with taxpayer money without any real financial reforms while accepting high unemployment is bad policy. As a result of bad policy, the economy suffers. Europe has a political problem connected to the distribution of power. Only some make their voice heard, and their interests benefit only a few and not the many.

Iceland did something else and that turned out better than expected:

For a country that four years ago plunged into a financial abyss so deep it all but shut down overnight, Iceland seems to be doing surprisingly well.

It has repaid, early, many of the international loans that kept it afloat. Unemployment is hovering around 6 percent, and falling. And while much of Europe is struggling to pull itself out of the recessionary swamp, Iceland’s economy is expected to grow by 2.8 percent this year.

But during the crisis, the country did many things different from its European counterparts. It let its three largest banks fail, instead of bailing them out. It ensured that domestic depositors got their money back and gave debt relief to struggling homeowners and to businesses facing bankruptcy.

Again, what Europe faces is a political problem. Everybody by now understands that austerity puts the financial burden on the weakest in a society, and that as a result aggregate demand falls strongly. The less money you have, the higher share of income you spend on consumption. If you increase taxes on these people or decrease their wages, they will struggle to keep up spending since they are also paying down debt. As a result, unemployment rises and with it tax incomes fall. The country will not be in better shape but in worse shape. While this is clear to almost all observers, the medicine is still given to the patients.

The Schuman declaration, a document that influenced the start of what evolved into the European Union, reads:

Europe will not be made at once, nor according to a single master plan of construction. It will be built by concrete achievements, which create de facto dependence, mutual interests and the desire for common action.

It is sad to see the European abandoned by economists like Hans-Werner Sinn. Since no alternative proposals are brought forward, there is no other possible conclusion.


  1. Great article!

    In fact, “conservatives” such as Sinn have come out with hysterical objections against TARGET2 because they have discovered a big and (for them) dangerous secret: that, in practice, this well-designed “payments and clearance system” already guarantees that Europe may become an automatic transfer union if the periphery countries so much as will it.

    As Marc Lavoie and others have pointed out, a government that is also owner of a commercial bank may regain monetary sovereignty by issuing bonds to said bank and then use the deposits to pay off creditors abroad. The previous debt will be dumped forever in the TARGET2 balances, a solved problem never to be heard of again.

    The missing link until now has been the ignorance, incompetence and lack of “cojones” of the southern European governments. They have indeed proved to be either one or the other and at any rate incapable of defending their peoples’ interests within the framework of the existing rules of the eurozone. They should all be fired by the electorates in the next round of elections.

    Then new governments will be able to suspend austerity while using the TARGET2 system to good effect. This will be the only possible way to save the eurozone, btw. Failure to implement this solution will likely lead to a complete breakdown of the currency area in the medium term, because the populations will simply refuse to continue taking the bitter and quite unnecessary pill of austerity after a soon-to-come tipping point of suffering is reached.

  2. Hi Jose
    I was wondering if TARGET2 system is intended for eurozone members only or for all EU members? I would appreciate an answer. Thank you.

    • Hi, J Jordan,

      I think it is intended for eurozone member states but the NCBs of those countries that plan to join the EMU may participate in order to facilitate the settlement of transactions in euros.

      According to the Annual Accounts of the ECB (2011) there were 6 non eurozone NCBs participating in TARGET2, namely “The Bulgarian National Bank, Danmarks Nationalbank, Latvijas Banka, Lietuvos bankas, Narodowy Bank Polski and Banca Naţională a României” (page 9 of the Accounts).

      And the Intra-ESCB balances of non-euro area NCBs vis-à-vis the ECB, arising from their participation in TARGET2 are disclosed under a separate item on the ECB’s Balance Sheet as “Liabilities to non-euro area residents denominated in euro”.

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