The potentially very important agreement among euro zone leaders on June 29th to move towards a banking union has yet to live up to any of its potential. Big questions remain about how fast and how comprehensive a euro zone banking union will be, if it ever materialises.
That is where we are now. The short-term future looks worse.
The Greek economy may be showing tentative signs of stabilising, but the worst is not over and recovery is a long way off. The new government continues to seek concessions before proving its ability to implement reform measures.
Given the economic and political trends, it is difficult to see Greece in the euro area one year from now. While its ejection would make the zone stronger in the long term, in the short term the effect could be to trigger panic in the rest of the periphery, thereby precipitating a disorderly unravelling of monetary union. Talk of building a credible firewall around Greece has come to nothing and, given the record to date of euro zone policymakers, no solid ring-fencing of Greece appears likely, if that is even possible.
Italy being locked out of the bond market is an even bigger and more immediate risk than a Greek exit. The public debt of the world’s eighth-largest economy is very high and rising fast – €1,946 billion at last count. The euro zone’s bailout mechanisms have nowhere near the resources to bail out Italy if it cannot raise the tens of billions it needs each month.
The Italian state’s cost of borrowing remains below the peaks of the end of last year, but the economy is now much weaker, and getting weaker still. Consumer spending and confidence are falling more precipitously than during the Great Recession of 2008-09, and unemployment is rising more rapidly. The collapse in investment is not much shallower than during that period.
Without growth, Italy’s debt dynamics will become unmanageable. Growth looks unlikely over the next year. Deep recession is far more likely.
As if that were not bad enough, there is enormous political risk. An election must be held by April. Opinion polls show support for the reforming caretaker government falling from 71 per cent last November to 33 per cent in June. The polls give no indication that Italians are uniting behind any effective alternative. A political vacuum looms in Rome.
Without a radical change in euro zone structures and its policy response, Italy is headed for default. The decision to allow that to happen – or to prevent it – will ultimately be taken in Berlin....
.. Europe’s economy is weak, its financial system fragile, its leaders divided and its peoples sceptical of further sovereignty pooling. One can only conclude that disintegration is now a more likely outcome than further integration.REPEAT: ... the short term the effect could be to trigger panic ...