Euro Zone Troubles Could Lead to a 'United States of Europe'

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The economics are not the most salient point about Europe's predicament today. Although markets are driving the news, the Euro crisis is mainly about politics and history, and Europeans have pushed relentlessly for a breakdown of national boundaries as the antidote to World War II.

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Mayors of adjoining Czech and German towns symbolically saw a border gate to celebrate the Czech Republic joining the Schengen treaty in 2007 / AP

Wolfgang Schaüble is a classic German hard-liner. He is a hard-currency man who takes a hard stance against fiscal profligacy. He has hard feelings about all those lax "Club Med" countries--Italy, Portugal, and, above all, Greece--that Germany is being asked to bail out. Confined to a wheelchair since a would-be assassin shot him in 1990, severing his spinal cord, Germany's finance minister recently rolled up to the podium to deliver a speech in Brussels. As expected, Schaüble voiced his country's standard invective against the lazy Greeks and wild-spending Irish, and he held out hope for a "pure" central banking system that wouldn't rescue politicians who pandered to them. But at the end of his speech, Schaüble surprised everyone by switching to Italian. He quoted Galileo's immortal line from four centuries ago affirming that doctrinal certainty must give way to hard facts. At Galileo's 1633 trial for heresy, even as the great astronomer publicly embraced the Catholic Church's belief that the Earth was the stationary heart of the universe, he was said to have whispered, Eppur si muove. "And yet it moves." So, said Schaüble, Europe today must move.

Once again, the Continent's most cherished certainties have been shattered. The euro crisis that began two years ago in Greece has shown the folly of thinking that, despite a common currency, stronger countries such as Germany can remain untouched at the center of the European system, and that problems can be confined to weaker countries on the periphery. The fractures in the euro zone now run right up its spine to Spain and Italy, which are both under market assault.

The markets are even casting doubt on the solvency of banks in France and Germany, which hold much of that debt. However unpleasant it may be, European leaders have no choice but to face up to the central contradiction of the euro concept: If the weaker and more indebted economies have no monetary means to recover--because they can't devalue their own currencies--then all European Union members have to submit to some form of fiscal integration that reduces their individual power over spending and taxes.

Schaüble and other hard-liners know this. Yet the ultimate solution--more fiscal federalism and more shared risk, possibly including the issuance of a common euro bond--has yet to be designed. It is an especially bitter pill to Germany, which will have to play nursemaid, probably permanently, to the weaker Club Med countries. That's why one has heard such mixed signals and violent bickering in recent months: One day German leaders hint that they are leaning toward federalism, and the next day someone at the Bundesbank, Germany's fabled central bank, takes it back. But bit by bit, most European leaders are coming to realize that they have no choice but to move from a mere monetary union to a deeper fiscal union. It has been just over a decade since Europe embarked on its unprecedented experiment, in which some of the richest nations on earth relinquished an essential element of sovereignty, their money. But leaders know they now need to make yet another giant leap and sacrifice even more sovereignty to the European project.

Can it be done, given the still-vast differences in national culture? Schaüble, the representative of Europe's strongest nation, made a point of quoting the leader of one of the Continent's smallest and least powerful nations, Luxembourg Prime Minister Jean-Claude Juncker. When the euro debuted in the form of notes and coins on Jan. 2, 2002, Juncker declared: "The euro, one day, will be perceived as the father of all things European. The euro compels us to engage with European issues at an existential level." Schaüble concluded: "Ladies and gentlemen, that is the very point we have reached now."

Schaüble, like many of his fellow Germans, understands that the euro is much more than a currency. It is, especially for older Europeans who remember far worse times than these, a historical necessity. It is a cultural and legal firewall against any recurrence of a bloody millennium that produced far too much savagery, fear, and horror. It is a sacrosanct legacy of the rivers of blood left behind by Napoleon, Hitler, and other would-be European conquerors. Beyond that, the euro has become a major source of stability in the international financial system; 1.4 trillion euros are now held in global foreign-exchange reserves, one-quarter of the total.

NO TURNING BACK

"You can't unscramble the omelet," declared George Soros, the famed financier, at the annual meetings of the International Monetary Fund last week. It was impossible, he said, to have a breakup of the euro zone without also having a total meltdown of the global system.

Other signs coming out of Germany indicate that, despite the dithering of Chancellor Angela Merkel's government and the persistent grumbling among bankers and industrialists, the political tide is shifting toward creating an even deeper remake of the Continent--possibly even a "United States of Europe."

On Sept. 29, Merkel handily won parliamentary approval, by a 523-85 vote, for an expanded bailout fund. Meanwhile, another German hard-liner, Jürgen Stark, resigned as chief economist of the European Central Bank--the official issuer and guardian of the euro. That followed the departure of Axel Weber as head of the Bundesbank and putative heir to the ECB presidency. Like Schaüble, both Stark and Weber are members of Merkel's center-right Christian Democratic Party who have opposed the bank's transformation into a de facto fiscal fund to save the euro zone. In particular, they angrily objected to ECB chief Jean-Claude Trichet's push to purchase large amounts of the government bonds of ailing euro-zone countries. But the views of men such as Stark and Weber no longer hold sway, and the next election in Germany could bring the center-left--and pro-euro--Social Democratic Party to power. (A Social Democrat, Jörg Asmussen, replaced Stark at the bank.)

And now, instead of Weber, the next ECB chief will be a passionately pro-euro Italian, Mario Draghi, who takes over in October. A former Goldman Sachs banker with a doctorate from the Massachusetts Institute of Technology, he is seen as a tough disciplinarian on fiscal issues but a strong supporter of Trichet's emergency measures.

"Germany's hard-core Bundesbankers are losing this battle," says Marshall Auerback of Madison Street Partners, a Denver-based fund manager who closely follows German and European politics. In his Brussels speech, Schaüble, too, "was effectively undercutting the public message of Germany and acknowledging the political reality that Germany would have no choice but to go along" with whatever it takes to save the euro, Auerback says.


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Michael Hirsh is chief correspondent for National Journal.

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