Policy Research in Macroeconomics

Controlling Eurozone current account surpluses – revisit the Treaty of Rome!

Photo, signing ceremony of the Treaty of Rome 1957 via https://en.wikipedia.org/w/index.php?curid=37305126

Photo, signing ceremony of the Treaty of Rome 1957 via https://en.wikipedia.org/w/index.php?curid=37305126


When the Treaty of Rome was first signed in 1957, it included an article which required member states “to pursue the economic policy needed to ensure the equilibrium of its overall balance of payments and to maintain confidence in its currency, while taking care to ensure a high level of employment and a stable level of prices”, and to co-ordinate their policies. The Treaty of Maastricht, which introduced the single currency, also repealed this article entirely.  That was a mistake.  Current account imbalances are today at the heart of the problems of policy-making and co-ordination for the Eurozone. It’s time to bring back a similar provision.

The Euro’s design delivers divergence, not convergence

The real cause of the Eurozone’s problems, as Joseph Stiglitz has so clearly explained in his book “The Euro: How a Common Currency Threatens the Future of Europe”, is that – whereas the single currency was supposed to be an engine for promoting economic convergence – it was in reality a machine designed for creating divergence.  

In effect, it means that Germany has a vast, apparently permanent, trade and current account surplus since for it, the single currency is under-valued, whereas for several other member states (not all in southern Europe), the currency has been over-valued.  This has led to trade imbalances, excessive speculative capital inflows, and in particular – post financial crisis – and harsh bail-outs – to persistently high (in some cases astronomic) levels of unemployment.  For in the absence of any compensatory action by Germany and other surplus states, and absent adequate fiscal and monetary policies, the only way to go (short of leaving the Euro in chaotic manner) was to ‘adjust’ – to slash wages and cut government services and welfare support through austerity.

A one-sided adjustment

Germany, for its part, has consistently (but wrongly) argued that it is for the (trade) deficit countries to do all of the economic adjustment.  Thus Jens Weidmann, as President of the Bundesbank, said at Chatham House in 2012:

Other things must therefore give instead: prices, wages, employment and output.  Which brings me back to my original question: which countries have to adjust?

The typical German position could be described as follows: the deficit countries must adjust. They must address their structural problems. They must reduce domestic demand. They must become more competitive and they must increase their exports.

And he concluded that “the typical German position” was absolutely right – even though the logic is that every Euro country must be in surplus.  This simply means that the Eurozone deliberately aims as a matter of policy to impose large trade deficits on the rest of the world, in true mercantilist spirit! 

The Maastricht criteria – which were supposed to promote economic convergence – were completely lop-sided, focusing only on public deficits, public debt and low inflation – as if these were the only salient factors in economics.  Private credit and debt, and trade and current account imbalances, were simply ignored.  

Even when those non-Maastricht factors proved critical, during the great financial crisis and its aftermath, the European institutions and the EU’s economic hegemon (Germany) quickly went back to pretending that, yes, public budget deficits, debt and inflation were indeed the only things to worry about.

(True, the Commission has started to look at current account and other macroeconomic imbalances, but not as a basis for taking any corrective or balanced formal action).[1]

When doing a bit of research yesterday, I discovered that the ‘birth-giving mothers’ of the European Union had been wiser, when they drafted the 1957 Treaty of Rome.  Under the heading “Economic Policy”, they included Article 104, headed “balance of payments”.  It read:

Each Member State shall pursue the economic policy needed to ensure the equilibrium of its overall balance of payments and to maintain confidence in its currency, while taking care to ensure a high level of employment and a stable level of prices.

(This fits in well with Keynes’s proposal at Bretton Woods that major surplus countries needed to be obliged to adjust, just as much as trade deficit countries.  Note too the dual mandate to ensure high employment and stable prices…)

Next, Article 105 required the member states to co-ordinate their economic policies 

In order to facilitate attainment of the objectives set out in Article 104, Member States shall co-ordinate their economic policies. They shall for this purpose provide for co-operation between their appropriate administrative departments and between their central banks. The Commission shall submit to the Council recommendations on how to achieve such co-operation.”

These sensible provisions were swept away by the Hayek-influenced, central banker-drafted, provisions of the 1992 Maastricht Treaty for “economic and monetary union” – which provided for monetary union while ignoring the need for a complementary economic union.  The Maastricht Treaty also ignored the balance of payments issue completely, and replaced the 1957 object of “ensuring” full employment with that of “promoting” full employment.

Thus,  under the heading of Economic Policy, we read in new Article 102a that

Member States shall conduct their economic policies with a view to contributing to the achievement of the objectives of the Community, as defined in Article 2.

And Article 2 provided, in tortuous prose:

The Community shall have as its task, by establishing a common market and an economic and monetary union and by implementing the common policies or activities referred to in Articles 3 and 3a, to promote throughout the Community a harmonious and balanced development of economic activities, sustainable and non-inflationary growth respecting the environment, a high degree of convergence of economic performance, a high level of employment and of social protection, the raising of the standard of living and quality of life, and economic and social cohesion and solidarity among Member States.’

But the economic objective for employment is now, since the Treaty of Lisbon,  even weaker than under Maastricht.  In fact, the entire economic policy ‘task’ of the European Union has been made even more diffused and ordoliberal.  The goal of full employment is now tucked away as simply a broad aspiration, secondary it seems to other priorities such as the internal market, a high level of competition, and price stability:

The Union shall establish an internal market. It shall work for the sustainable development of Europe based on balanced economic growth and price stability, a highly competitive social market economy, aiming at full employment and social progress, and a high level of protection and improvement of the quality of the environment.” [2]

But not full employment; despite the best efforts within their mandates of the Commissioners and Directorate for Employment and Social Affairs, the Union as a whole has not implemented serious demand-related economic policies for full employment (including scaled-up public investment), since austerity has been the overarching priority. 

Thanks to  an ideology of market fundamentalism, and a refusal to look beyond supply-side economic solutions, extraordinarily high levels of unemployment have been created and allowed to endure, worsened and extended by the perverse austerity-based fiscal policies embedded in the Treaties and enforced in some countries by the colonial-style Troika.

Indeed, unemployment in the Eurozone as a whole has fallen below 10% for only one single month in the last seven years.  In August 2016, there were still seven Eurozone states with unemployment rates of over 10%, including both France and Italy. This is a record to be ashamed of.

So It’s surely time to reinstate a provision similar to good old Article 104 of the Treaty of Rome.  If Germany and other surplus states (notably the Netherlands) are obliged to achieve something closer to a structural trade and current account equilibrium, this will require a very different macroeconomic policy, including for example the raising of German wages, investment and export prices, and will generally help to promote demand and lower unemployment in the rest of the Eurozone. 


[1] For example, the European Commission’s Spring 2016 Economic Forecast Report states 

 In Germany the total current account surplus expanded to 8.8% of GDP in 2015. At 9.2% of GDP, the current account of the Netherlands, contributed substantially to the overall surplus of the euro area. Over the forecast horizon, the surpluses of these two countries are expected to recede but to remain at very high levels.

The Commission does not suggest any remedial action, nor is the issue referred to even in passing in the Commission’s report on Germany’s 2016 budget proposal.  This is surprising since the issue does at least feature in the Commission’s staff working document, the Country Report on Germany 2016, published in February 2016 but without any policy follow-up

Given its central position in the euro area, Germany is a source of potential spillovers to other Member States. The current account surplus has adverse implications for the economic performance of the euro area. Raising its growth potential would benefit Germany. Moreover, given strong trade and financial linkages, it would also help sustain the recovery in the euro area amid the current demand shortfall. Instead, the weak domestic investment and dependence on external conditions pose risks to Germany. 

The Commission staff paper notes that most of Germany’s current account surplus appears to be “structural”, but these documents can only make suggestions or give hints, rather than formal recommendations, and I have not seen any sign that the German government pays much attention to this issue.

[2]  I do not disregard this Article’s other aspirations, which are relatively progressive and some of which (e.g. gender equality) have certainly been taken forward in practice:

[The Union] shall promote scientific and technological advance. It shall combat social exclusion and discrimination, and shall promote social justice and protection, equality between women and men, solidarity between generations and protection of the rights of the child. It shall promote economic, social and territorial cohesion, and solidarity among Member States.”

2 Responses

  1. Thanks Eddy.
    A huge amount of the problem is the design structure of the Euro – though to have a successful single currency as part of a successful economic and monetary union (emphasis on the economic) would require some major steps. Joe Stiglitz in his recent book on the Euro tries to set these out.

    The Maastricht rules were particularly at fault – but they result from a failure to pursue economic (and therefore political) integration at the same time. It was wrongly assumed that this would follow.

  2. How much of this is due to the way the Euro zone was created rather than the fact that the Euro was created ? In other words, could monetary union work better under different rules to those imposed by Maastricht ?

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