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Time to break up the eurozone

The writing is really on the wall this time.   When a €90bn (£77bn) bail-out on top of a £50bn bail-out not that many weeks ago, fails to steady the bond markets beyond half a day, we are reaching the end point of the current EU financial architecture.   There are very few options left.   Muddling through is not one of them when everyone, and particularly Germany, recognises that the next victims will be Portugal and (the big one) Spain.   Bond yields (i.e. the interest that countries have to pay to borrow from the financial markets) are now 8.1% for Ireland, but as high as 6.7% for Portugal and 4.75% for Spain.   There are really few options left in this desperate financial turmoil, quite apart from the party.

On the political implications, there is a delicious irony about the Irish debacle.   The Irish Government over the last decade did exactly what the Tory Right egged them on to do.   They ran an ultra free market economy, cutting taxes drastically (Corporation Tax to 12.5%) to attract foreign investment to drive the boom.   Then when this Celtic Tiger on the credit-fuelled, construction-driven fringe of the Eurozone imploded, the Irish Government again did exactly what the Right recommended: it made colossal spending cuts up to 15% of GDP.   It all ended in tears.  Ireland needs (another) bail-out, and the Right is screaming against the likely cost to Britain – £7bn.   You reap what you sowed.

Of the options for solving this crisis, the first is to proceed to political and monetary union as the only long-term method to control reckless over-spending at the periphery (assuming a European government were to take a much tougher regulatory line with the banks than the British government, Tory or New Labour, ever did).   There is no prospect whatever of this Europeanised option being achieved in the short term.

Second is the German solution – to force the debt markets to take their share of the losses rather than the taxpayers.   Where a country is threatening to become insolvent, it would be bailed out in return for debt re-structuring which woulod involve bond-holders taking substantial losses (a ‘haircut’ as they nicely refer to it in the City) which could amount to a third to a half of their investment.   The Germans are determined to have this in place by 2013 which is when the current €750bn underpinning of the Euro expires.   This means however that the amendment to the Lisbon Treaty and other necessary legislative changes would have to be achieved by summer 2011 – a tall order.

Third is the break-up of the Eurozone, acknowledging that the weaker southern economies – Greece, Portugal, Spain plus Ireland – which are not competitive against the German economy cannot sustain membership of the Euro when devaluation of their currency is now denied to them when they get into difficulty.   A bleak prospect, but perhaps in the long run the only viable one.

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