Gayle Allard. Professor. IE Business School
7 September 2010
After just 8 years of circulation the Euro has the dark side that Spain didn’t want to see when it took over from the weakened peseta. What we need now is real improvement in levels of competitiveness.
We thought we knew what the Euro was about when we launched it in 2002. We started to spend those new coins and notes with an almost patriotic meaning for pro-Europeans. We went through the "rounding-up" stage, but anyway we were enthusiastic about the new currency and what it meant for Spain and Europe.
And the initial years of the euro brought the benefits we anticipated. Interest rates fell to the lowest ever levels. Trade increased, foreign investment reached new highs and Spain went through a golden era of growth and rapid increases in income. We should almost be forgiven for thinking that belonging to the Euro held only advantages. But we were wrong.
From the beginning, the euro was not ´pretty´ notes, but rather the final abandonment of two fundamental tools that had helped the member states balance out their economies: interest rates and exchange rates.
We almost ignored interest rates completely. When the rates fell with the euro, credit was in abundance and we enjoyed the real estate boom, high growth and the creation of employment. We decided not to take harsh decisions in fiscal policies that would have burst that bubble at the right time and helped control inflation.
And we took exchange rates into account only very slightly. It was a relief to get rid of that weak peseta and change it for a prestigious euro that was gaining in strength on the international markets.
However, the euro always really had more to do with that than with the coins and notes. The euro meant that very different economies from very different economic pasts were joined together through one single currency. Instead of seeking refuge in their exchange rates so that they could compete, they had to base their actions on the real competitiveness of the economy. If costs or salaries increased too much, if productivity came to a standstill, the situation could not be solved by devaluing the currency. The necessary adjustments had to be made to compete in one single currency.
It is strange how countries with chronic problems in competitiveness, such as Spain, Portugal and Greece, forgot what belonging to the euro really meant even before they heard the starting gun. However, the more competitive countries changed their attitudes from the very beginning. Germany strove to control unitary labour costs, increasing working hours and productivity to maintain its competitiveness. It reformed its welfare state to reduce the deficit and eliminate incentives for not working. Meanwhile, Spain enjoyed its years of prosperity without seriously considering what belonging to the same currency as Germany really meant.
Indeed, we could look at the crises of recent weeks as the real beginning of the euro for Spain and other countries in the South. Now is when we can see what sharing this currency really means.
And what it means is not particularly pleasant. If labour costs have risen too much, we have no way of lowering them. If our low-level productivity has made us lose in competitiveness in comparison with the countries we share the currency with, we have no way of increasing it. If we have no exchange rate to adjust, then we only have the most painful and unpopular tools for restoring competitiveness and injecting life into the economy: labour reforms, salary cuts, base changes to the welfare state programs such as unemployment benefit and pensions and changes to the trade union bargaining system. If a policy or institution takes our competitiveness away, we cannot hide behind a devaluation to avoid the reforms. We have to make them.
And if we are in a recession, we cannot devalue to recover through exports. We cannot lower interest rates. And with the new tax rules that have arisen from the Greek crisis, we cannot help the economy back to its feet with fiscal policies. What can we do? Tighten our tax belts to comply with the rules applied by Brussels. Reform, restructure, adjust and innovate until we become competitive and export again. We have no more tools in our bag.
Now is when we are face-to-face with the euro for the first time, with all its consequences.
Welcome, Spain, to the euro.