The New Year is a time of renewal, when people look to the future with hopes as yet undiminished by the disappointments of daily reality. So it goes for the euro area. The economic bloc opens 2014 with a degree of optimism few would have thought possible just a couple of years ago.
On New Year’s Day Latvia became the 18th European Union country to adopt the single currency, capping a recovery from one of Europe’s harshest recessions. One day earlier Spain exited its EU bailout, having received €41.3 billion ($56.8 billion) over the previous 12 months to recapitalize its banking sector.
Coming at a time when the euro area is experiencing a modest recovery and investors have reaped big gains in some of the bloc’s hardest-hit countries, these developments suggest that a long-awaited turnaround in the bloc’s fortunes is finally under way. But if skeptics were unduly pessimistic about the euro’s survival when the region’s debt crisis erupted four years ago, optimists should be wary of reading too much into today’s positive signals.
Take Spain. The bailout from the EU’s European Stability Mechanism averted a full-blown banking crisis in the euro area’s fourth-largest economy. That aid, combined with the government’s adoption of labor, pension and product-market reforms, appears to have put the economy back on the growth track after nine consecutive quarters of decline. It’s a tepid recovery, though, with little in the way of a feel-good factor. The European Commission predicts that Spain’s output will grow by just 0.5 percent in 2014, that unemployment will remain above 26 percent and that the national debt will be touching 100 percent of gross domestic product by the end of the year. No surprise, then, that one of Spain’s strongest exports continues to be its own people.
As for Latvia, the country has tied its destiny to the EU’s mast since breaking free from the former Soviet Union in 1991. The government had fixed the value of its currency, the lats, to the euro since 2004. It never wavered in its commitment, even though the policy contributed to a property boom that turned into a punishing bust amid the 2008 global financial crisis. Policymakers rejected the idea of devaluing the currency and instead signed up to a €7.5 billion bailout program from the EU, the IMF and neighboring countries that required it to adopt harsh austerity measures.
Latvia’s economic output plunged by nearly 25 percent from 2008 to 2010, rivaling the losses suffered by the U.S. during the Great Depression of the 1930s. The country has enjoyed a vigorous rebound, with growth of about 4 percent in 2013, after rates of more than 5 percent in 2011 and 2012, but even so, output isn’t expected to recover to precrisis levels until 2015. Still, government officials celebrated euro entry as a hard-earned reward.
EU officials like to portray the euro area’s steady growth as the inevitable fulfillment of a monetary union that will eventually encompass virtually all EU members. The actual record tells a somewhat different story. The euro was launched by 11 countries in 1999, with Germany and France at the core. Since 2001 the area has taken in seven new members, including Latvia, each of them small, peripheral economies that have regarded euro membership — rightly or wrongly — as their best protection against the vicissitudes of global capital movements. Lithuania aims to join its Baltic neighbors in the euro area in 2015. But none of the union’s big Central European members — the Czech Republic, Hungary and Poland — show any appetite for euro membership.
Enlargement has had no discernible impact on the performance of the euro or the euro area economy. Consider the following record, which includes the country involved, the year it adopted the euro, the currency’s exchange rate against the dollar at the time, and the euro area’s growth rate over the following year:
| Country | Year | Exchange Rate | Growth Rate |
| Greece | 2001 | $0.9416 | 1.6 percent |
| Slovenia | 2007 | $1.3193 | 3.0 percent |
| Cyprus | 2008 | $1.4719 | 0.4 percent |
| Malta | 2008 | $1.4719 | 0.4 percent |
| Slovakia | 2009 | $1.4095 | -4.4 percent |
| Estonia | 2011 | $1.3252 | 1.5 percent |
| Latvia | 2014 | $1.3765 | 1.0 percent* |
| *IMF estimate | |||
Of those seven countries, Greece and Cyprus are working their way through massive EU and IMF bailouts to resolve their debt and banking crises, respectively; Slovenia is in the midst of a sharp recession and is trying to resolve a banking crisis without resorting to outside aid; Estonia endured a depression of Latvian-type severity as its price of euro entry. The euro is not to blame for all those woes, of course, but experience suggests it is hardly a bulwark against economic uncertainty. Countries adopt the euro for reasons that are at least as much political as economic.
The exchange rate has long defied those who predicted the euro’s demise. The single currency bought less than a dollar when Greece joined the club 13 years ago. A return to such levels would provide the quickest stimulus to European growth today, but it’s one of the ironies of monetary union that EU officials have been either unable or unwilling to pursue a policy of depreciation. Meanwhile, the global demand for euros as an alternative to the dollar has remained strong, even as doubts about the EU’s economy and the euro area’s institutional backing have grown. That’s not likely to change in 2014.
In the long run, though, it’s hard to see how the euro can remain divorced from the bloc’s underlying economic performance. Big bailouts, closer budgetary cooperation and halfhearted steps toward a banking union have contained the euro area’s crisis and restored growth, albeit at a very modest level. But the bloc continues to fall behind its trading partners economically, whereas politically, EU leaders remain unwilling to consider the kind of far-reaching reforms — such as some kind of debt mutualization or fiscal union — that would put the euro on firmer footing.
“Complacency about the euro crisis is misguided, the fixes adopted so far do not go far enough to ensure lasting stability, and the current respite should be used to design the bloc’s permanent architecture,” writes Jean Pisani-Ferry, commissioner general for policy planning in the French prime minister’s office, in a column for Project Syndicate.
That’s a noble wish. Expect it to be met with as much indifference as the usual New Year’s resolutions.
