Instead of going all out for the serious reforms it needs, Europe is likely to settle for the minimum

IN THE HEART of the EU's administrative district in Brussels, a little way inside the council building where EU ministers hammer out legislation, stands a big bronze bust of Justus Lipsius. A 16th-century humanist who sought to reconcile Christianity and Stoicism, Lipsius betokens learning and integrity.

On closer inspection, though, the bust turns out to be made of painted plaster. If you rap it with your knuckle you hear the thwack of gypsum rather than the ring of cold metal. Low down on the great scholar's mantle is a small white patch where the paint has chipped away. Far from adding dignity to the business of the council, the mock-bronze inadvertently honours the Brussels tradition of making do. It is this spirit of grubby compromise, not lofty idealism, that will determine the future of the euro.

That is because, as Joseph Schumpeter argued, a monetary system cannot be separated from the society that underlies it. Saving the euro is about much more than the optimal design of a currency area. Even as the euro zone fights to steady its banks and its sovereign borrowers, it must grapple with the profound choices that this special report has set out.

Four choices

The most important of these is Europe's attitude to globalisation. The more the euro zone embraces growth-enhancing reform, the lower the chance that its members will, after years of grinding austerity, succumb to the political fatigue that could lead to the euro's collapse. However, the economic imperative for austerity and restructuring is already putting the governments of the euro zone's troubled periphery under severe strain.

A second choice is about what it means to be “European”. Among the euro zone's creditors, populist parties are increasingly rallying against the EU. Battered by austerity, the citizens of debtor countries could easily go the same way. Elites all across Europe have lost their authority. The European Commission and the parliament tend to be resented by national governments. All this limits the scope for fixing the euro by transferring sovereignty to Brussels.

A third is about the leadership of Germany and France. The crisis has given the leading role in Europe to Germany. It must decide what price it is willing to pay for leadership and how to use its new power. Will it come round to the idea that the European Central Bank (ECB) must put its balance-sheet behind the euro zone's governments? Meanwhile, France, greedy to redesign Europe according to its own tastes, must decide whether it is prepared to take the difficult steps needed to keep up with Germany.

The fourth is about Europe's divisions. Eastern Europe is anxiously watching the confusion and disarray to its west. It must choose whether its destiny should eventually be inside the euro. Britain, too, must work out what it wants from the EU. In the past it has yanked the continent towards open markets and economic liberalism. Today Britain is striding away from Europe in a very British fit of absent-mindedness.

The sun sets These questions are complicating the rescue of the euro. In the crystalline world of political and economic theory the immediate task is to stop the run on Europe's banks and sovereign borrowers. This requires a controlled default of insolvent governments—which, so far, means Greece—and the protection of solvent governments by a pledge to buy as many of their bonds as it takes to ward off market panic. At the same time Europe's banks must be protected with fresh capital. The euro zone showed at last month's summit that it is coming around to this design—though the package they came up with was still too puny. But the two other components of any complete euro rescue are still embryonic. One is reform of the euro's governance. The euro zone needs a fund that can help member states cope with shocks. More ambitiously, the credit rating of the entire area might be used to issue Eurobonds, which would be less vulnerable to speculation. The euro zone must ensure that delinquent borrowers do not exploit these facilities to run up bills for everyone else to pay. And, to block the vicious circle in which failing banks amplify the weakness of sovereign borrowers, it must establish a European mechanism for insulating banks from their sovereigns. In theory all this is possible. In practice, however, it would involve a large transfer of sovereignty to give the central euro-zone authorities the scope to raise money, regulate banks and prevent errant fiscal policy. Few countries are ready for that. The prospect of a United States of Europe is about as real as the bronze of Justus Lipsius's bust. For a start, Germany and France will not allow the European Commission to gain much extra power. In recent years Germany has become suspicious of the institution. Neither Ms Merkel nor Mr Sarkozy is fond of José Manuel Barroso, its president. The money for the euro-zone rescue pot, the European Financial Stability Facility, has come from the member states, mostly from France and Germany. They are not about to hand control over hundreds of billions of euros to the commission.

One alternative might be to fix everything among governments, in the Eurogroup, as France would wish. But smaller countries have seen, in the treatment of Greece and Italy, how France and Germany get to call the tune: “intergovernmentalism” leaves them vulnerable. And Germany's federal constitutional court in Karlsruhe ruled after the 2007 Lisbon treaty, the EU's most recent piece of constitutional re-engineering, that the German government could never again transfer sovereignty away from the German parliament to Brussels without also ensuring that German citizens have more say at the European level. Deals among a roomful of governments do not meet that test.

Few countries are ready for a large transfer of sovereignty. The prospect of a United States of Europe is about as real as the bronze of Justus Lipsius's bust

What about the German idea to give more power to the European Parliament? Many national governments would object. How would Nicolas Sarkozy, emperor of the Fifth Republic, feel if the European Parliament had more sway over him than his own tame Assemblée Nationale?

In short, there is no consensus in the euro zone for an ambitious transfer of sovereignty to Brussels. Instead, in the spirit of shoddy compromise, it will do as little as it can. As the summit in October hinted, the emphasis will be on binding countries by the norms of prudent economic management—a supercharged version of the set of rules the commission presented a year ago, including warnings about imbalances and fiscal sustainability.

Perhaps such rules could be enshrined at national level. Just as euro-zone members are required to have an independent central bank, they could be obliged to set up independent offices of statistics and budget sustainability and to enact constitutional guarantees of good behaviour. That would provide euro-zone reassurance without euro-zone sovereignty. Perhaps, too, banks could be regulated at the EU level and be prevented from ever becoming as dependent on their sovereigns as they are today.

All this will need to be backed up by strong discipline—and that will lead to yet more trouble. France would prefer the stick to be wielded at the discretion of governments. Germany, however, wants binding rules and strong punishments. Germany is likely to carry the day, but only if it can find a way to force through a new treaty.

That will be harder than it sounds. A full treaty requires a convention, an intergovernmental conference and then ratification by national parliaments and a referendum in Ireland and quite possibly in other countries, too. Old Brussels hands think that all this would take three to four years. Moreover, the mood in Ireland just now is so bad that you could not get the ten commandments approved in a referendum.

Scarred by the difficulties of trying to write and ratify a constitution for the EU, the euro-zone countries may therefore try to dress up a treaty as merely a “technical” adjustment. They may try to sign a treaty among themselves, outside the EU. That would stop Britain from causing trouble, and negotiations among 17 countries may be speedier than among 27. However, existing EU law requires the new agreement to mesh with all other EU treaties, which may be awkward.

From an economic point of view such minimal new rules for governing the euro would be second-best. Despite what is often said, no economic law dictates that a common currency must have a common fiscal policy. But fiscal co-ordination does make life a lot easier.

The price of a cobbled-together rescue is that some day the euro zone will probably have to endure yet another existential crisis. It is all very well to talk of discipline and oversight right now, when disaster is still an imminent possibility; but wariness is bound to fade with time. Bubbles inflate precisely because people fail to recognise that they are living with dangerous imbalances. One French official remembers being told by commission economists during the boom to copy Ireland and Spain. Now the same people are telling him to copy Germany.

Postwar postscript

The third component of a textbook euro rescue would rebalance Europe's dangerously lopsided economies. In the troubled countries of the euro zone this requires a programme of thoroughgoing structural reforms, along with a plan to reduce government budget deficits over the medium term. The euro zone's creditor states would match this with a fiscal stimulus designed to boost demand in their economies. That would help drag the ailing members out of recession.

Again, reality will fall far short of this ideal. The citizens of uncompetitive economies are already exhausted by austerity, and Germany and the other creditor nations are reluctant to run deficits. The danger is that people will refuse to accept the unemployment and austerity being imposed on them. If so, that will hugely raise the economic damage wreaked by crisis, as yet more output is lost and more jobs are destroyed.

Explore our interactive guide to Europe's troubled economies

This is the greatest single threat to the survival of the euro. Governments will topple and the programmes underpinning international aid will fall apart. An angry, populist Greece might well storm out of Europe as a harmful act of protest. At that moment the risk of contagion would be at its greatest. Would the single market survive? Would the ECB and Germany, staring into the abyss, at last commit themselves to ring-fencing solvent governments?

Sometimes the worst really does happen. However, even if Greece goes, a general fragmentation of the euro zone remains unlikely. Collapse would not benefit any of its members. Even if joining was a mistake, quitting would be a bigger one. Moreover, all the arguments over rescue funds and bank bail-outs are in the end about who will pay, not whether the system is worth saving.

The brinkmanship could go on for months and there might be more half-rescues like the one in October. But were a bank or a solvent economy suddenly to fall prey to a market panic, then governments and the ECB would surely step in. It would make no sense for the ECB to put its own reputation for orthodoxy before the ravages of deflation. And if the euro zone ceased to exist, the ECB would have nothing to be orthodox about.

Remember, though, that even this action would only buy time for Europe's troubled economies to resume the relentless slog of regaining competitiveness and working off their debts. Sometimes you read that such an enforced workout is a hopeless cause. Ageing, comfortable Europeans have no stomach for hard work or invigorating globalisation. Many governments will want to protect their companies, not subject them to competition. The temptation to use the euro zone to defend unaffordable privileges will be strong. The political culture in a country like France has long seen globalisation as a threat to be managed. That view may be hard to shift.

Yet this argument is too fatalistic. Europe has a choice, just as America had a choice after the miserable decade of the 1970s, when it decided to beat inflation and re-establish the dollar. Europe has much to offer: creativity and imagination, skills in design and manufacturing, expertise in science and engineering. And it has something to prove to an interconnected world. Confronted by global finance and business, no political system seems able to cope alone. If collaboration cannot be made to work among the states of Europe, bound by history and culture, can it work anywhere? This newspaper's fervent hope would be that Europeans embrace globalisation by at last getting serious about reforming their rigid economies and their welfare states. Indeed, the present crisis has presented them with a unique chance to break apart the political interests that have held them back.

The failure of the euro would not benefit any of its members. Even if joining was a mistake, quitting would be a bigger one

Crises have a way of speeding up history. In his magisterial account of Europe after 1945, Tony Judt writes: “Postwar in Europe lasted a very long time, but it is finally coming to a close.” The near-failure of the euro has made Judt's world seem more remote than ever. The post-Nazi taboo on populist parties is falling away. Without the Soviet Union's occupying armies, Germany is once again the power that leads Europe but is unable to dominate it. The bloodless politics of Brussels, once a bulwark against extremism, has now become an obstacle. The welfare state, built on postwar prosperity, has become too expensive for these straitened times.

It is often said that in the face of the euro crisis the EU must either integrate or disintegrate. Either is possible. More likely, though, it will muddle through, integrating as little as it can get away with, disintegrating as Britain becomes ever more detached, and reforming just enough to get by. When the fuss is over, the chances are that Europe will breathe a sigh of relief and continue rather faster down the path of genteel decline.