Markets rejoiced at the outcome of the latest EU summit. After recent mediocre performance the euro increased its value against the dollar by 1.7% on Friday. Investors in Spanish and Italian government bonds slowed their race to the exit, making it more affordable for these governments to carry the debt burden and therefore a bit less likely that they will require bailouts. European stocks benefited as well: Italian stocks jumped by 6.59% and Spanish stocks by 5.66% — big gains for a single day.
So, is Europe now “solved”?Eh, not exactly. There are still important details to figure out. And the decisions made on these details will determine whether Europe, and thus the world economy, really has a chance at escaping the heavy funk it has been in since the onset of the Great Recession. Let’s boil everything down to just 1 question, the only question that really matter in this crisis.
Is Europe going to create the political or fiscal union needed to save its currency union?
The crisis might be solved tomorrow if eurozone countries agreed to create a United States of Europe. The strong (Germany, Finland, Austria, the Netherlands) would agree to help the weak (Greece, Ireland, Portugal, Spain, Italy) repay the debts that have currently gotten them in over their heads. But the citizens of the richer northern countries are not very happy with any plan that would see them sharing their tax dollars with countries that they don’t think deserve such charity. Also such burden-sharing is explicitly against the German constitution. The only way the northern countries would sign up to this is if the southern countries agreed to give up some of their political independence to a more powerful central government in the EU. Southern countries would, in fact, look less like “countries” and a bit more like states or provinces.
The final joint statement from Friday’s summit contained no such bombshell. But it did endorse a new role for the European Central Bank as the single, powerful, centralized banking supervisor. Such a supervisor would have the power to monitor each country’s banks, to force them to make changes to their business or risk models as needed and, in extreme cases, to even force them to shut their doors when they are too far gone to save. The statement implied that once such a supervisor is up and running, aid for troubled banks in Spain and Ireland could be pumped directly into those institutions. This would avoid the countries having to take on even more debt, themselves, to save their banks. The markets might therefore stop attacking the bonds of these governments.
A central banking supervisor may sound like no big deal but here’s the thing about Europe: its largest companies and industries are all incredibly dependent on banks. Whereas American companies tend to use stock or bond issuance to raise the money that they need, the Europeans have traditionally relied on bank loans instead. So having healthy national banking champions is incredibly important to each European nation. They have much to fear when the power of life and death over banks is moved from each individual land to a centralized body over which they have little control.
All of this is to say that the details, agreements, decisions and compromises needed to actually create such a banking supervisor will not be easy or quick to reach, if they can be reached at all. And without this we are basically in an unchanged situation in Europe.