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There’s no avoiding doom for the Eurozone now

The broken Euro symbolThe 3-notch downgrade of Italy’s credit rating by Moody’s. The near-collapse of the French-Belgian bank Dexia despite the stress tests it passed only 3 months ago. The growing consensus that only a 50% haircut imposed on investors in Greek debt can save the country from insolvency. The drastic fall in share prices in the UK, Europe and worldwide of the last few days and weeks. The slowness and ineffectiveness of European leaders in addressing an overriding debt crisis that continues steadily to get worse despite all their efforts The unwillingness of German creditors to increase payments much further and the unwillingness of Greek debtors to accept much more austerity. All these point to an impasse which the Eurozone in its current formation will not survive. What happens then?

The question is whether the inevitable Greek default is an orderly one or whether the ensuing ructions go wide, as seems likely. French and to a lesser degree German banks will take a major hit because of their extensive exposure to Greek debt, the interest rates for the next-vulnerable countries (Portugal, Ireland, Spain and Italy) will likely soar despite efforts to contain the contagion, and credit lines from the international markets and the US seize up. Then the next decisive issue is whether Greece leaves the euro. Germany and France are determined to keep Greece in for fear that the whole framework will start to unravel, while Greece may well decide that the only way to escape its deepening problems long-term is to get out.

Whichever way it goes – and most likely Greece will be forced out – the fundamental principle of a single currency uniting countries of vastly different competitiveness is no longer tenable. Even if fiscal integration were achieved, which is unlikely, an economic union with no exchange rate or interest rate manoeuvrabilityis unworkable with such disparate components. Reconciling such very large differences within such a very tight economic strait-jacket would raise intolerable fiscal pressures. If this pessimistic scenario is to be avoided, it will demand a much braver and more ambitious vision, let alone the steely political will required to carry it through, than anything yet manifested in Brussels.

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