Southern Europe's Fiscal Crisis

by Gary North

The euro is the focus of attention these days. This is because of a fiscal crisis in Greece, and looming crises in Portugal and Spain. Italy could follow.

What is the problem? Greece is running a huge deficit in the range of 12.7% of its Gross Domestic Product. The investment world regards a deficit of this magnitude as unsustainable. There are rumors of default.

Spain is running a deficit of 11.4% of its GDP. This is considered a threat to the nation's financial structure. There are rumors of default.

The United States government is expected to run a deficit of $1.6 trillion in an economy with about $14 trillion GDP. This means the deficit will be about 11.4% of GDP. Of course, this is seen by American economists as all right. After all, the United States is not Spain. Treasury Secretary Geithner assured the viewers on ABC News on Sunday, February 8, that there is no possibility that the rating on U.S. Treasury debt will ever fall below AAA. "That will never happen in this country." Unfortunately, he neglected to say whether it could happen in other countries, whose credit-rating agencies are not regulated by the United States government.

The euro is officially issued by the European Central Bank. This central bank acts on behalf of all 16 European nations that are part of the European Monetary Union. Non-members are Great Britain and Switzerland.

This system is now an aspect of the European Union, which has been in existence since December 1, 2009, when the Lisbon Treaty went into effect. Yet the legislatures of each of the member states of the EMU have independent fiscal policies. They do not control monetary policy, but they control taxes and spending.

Always before, monetary affairs have been conducted by central banks that represent central governments. The euro is an experiment in a central bank that officially operates on behalf of 16 nations.

FRIEDMAN ON THE EURO

In 2005, Milton Friedman commented on the problem facing the euro and Western Europe.

The euro is going to be a big source of problems, not a source of help. The euro has no precedent. To the best of my knowledge, there has never been a monetary union, putting out a fiat currency, composed of independent states.

There have been unions based on gold or silver, but not on fiat money – money tempted to inflate – put out by politically independent entities. (New Perspectives, Spring 2005).

His admission that there have been unions based on gold was significant. He did not pursue this, because he rejected the gold standard. He made his reputation as a monetary theorist for his opposition to a gold standard. He was a faithful disciple of the American theorist who was most adamantly opposed to the gold standard, Irving Fisher. Friedman's monetary theories were an extension of Fisher's.

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