Comment on “Fiscal Challenges in the Euro Zone”

• Published date: 01 December 2012
• DOI: http://doi.org/10.1111/j.1748-3131.2012.01233.x
• Date: 01 December 2012
• Author: Kazuo Ueda

Comment on “Fiscal Challenges in the

Euro Zone”

Kazuo UEDA†

The University of Tokyo

JEL codes: F36, H63

As someone put it, there is “too much monetary union” and “too little fiscal union” in

the Euro zone. The tension between the two becomes apparent when relatively weak

economies experience serious downturns and people remember that exchange rate

adjustments are not possible. Campa (2012) has provided a useful description of efforts

underway to create more fiscal union and the challenges associated with them. He also

discusses the long-run structural issues facing Euro zone economies. Campa’s discussion

provides a useful reference for anyone interested in related issues. Thus, rather than

trying to critically comment on Campa’s views, I would like to discuss some broader

issues concerning the Euro area related to his analysis.

First, structural differences among Euro area countries that would normally require

exchange rate changes remain significant. Figure 1 shows movements in unit labor costs

for selected Euro area countries since 1999. The difference between Germany and Greece

has widened by almost 30% since the start of the euro. More interestingly, Spain, Italy,

and even France are much closer to Greece than to Germany. Going forward, of course,

Germany will need some reflation and Italy and Spain deflation and efforts to improve

the supply side of their economies. The gap between these two groups, however, seems

to be too large to be closable within a short period of time. In the meantime, the gap that

will remain will continue to generate pressure on Germany to transfer resources to the

Southern members of Europe. This creates an unfortunate image of the disciplined

North subsidizing the profligate South. Anyattempts to create more fiscal union will face

enormous opposition from the taxpayers in the North.

Second, the absence of a fiscal union has led to the absence of the framework to stop

the contagion of systemic financial risks, as we have so painfully observed since 2010.

That is, without a fiscal union, a banking union has been difficult and, moreover, severe

limitations have been placed on the European Central Bank (ECB) to carry out opera-

tions that potentially have fiscal implications. As a result, the Euro area has lacked mea-

sures to contain occasional rises in investor concerns about the creditworthiness of

sovereigns and/or banks in the area. This has been unfortunate because the currency uni-

fication has brought more financial integration and interconnectedness in the area. Poli-

cymakers should have at their disposal measures they could use in the case of sudden

changes in investor psychology and associated reversals of capital flows.

†Correspondence: Kazuo Ueda, Faculty of Economics, The University of Tokyo, 7-3-1 Hongo

Bunkyo-ku, Tokyo 113-0033, Japan. Email: ueda@e.u-tokyo.ac.jp

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doi: 10.1111/j.1748-3131.2012.01233.x Asian Economic Policy Review (2012) 7, 200–201

© 2012 The Author

Asian Economic Policy Review © 2012 Japan Center for Economic Research

200