After the shocking results of the United Kingdom’s referendum to withdraw from the European Union (EU) in 2017, Euroscepticism has spread throughout EU member countries outside of the United Kingdom. Pew research center concluded that the amount of Europeans who are no longer confident in the EU is on the steady rise.
Despite the rise of Euroscepticism across the general region of members in the European Union, Europeans have different opinions regarding the eurozone and the European Central Bank (ECB). A survey conducted by European Parliament in 2018, concludes that the ECB has gained increasing public support since 2013. Although recent polls show the positive support for a single monetary policy, COVID-19 places this sentiment into question. COVID-19 has economically damaged many nations in the European region and arguably more so nations that have the Euro as their national currency.
The future of the EU as a whole was unknown when Great Britain formally left the Union and is a deeper mystery with COVID-19 added to the mix. Although a different institution, the Eurozone faced challenges and obstacles that needed solutions. The Eurozone addressed issues that came before and after the pandemic.
A History of European Monetary Cooperation
Before the ECB was created and adopted by its initial members, the Economic and Monetary Union (EMU) was established in 1990 by the central bank governors of European countries to promote coordination among central banks and economic convergence between nations in the region. The implications behind regional integration and economic convergence were both economic and political.
Economically, regional integration alleviates any challenges that stem from the flow of commodities, services, capital and/or labor. Economic convergence of developing European countries combined with their connectedness to European superpowers like France and German would increase the economic growth of the region by increasing the opportunities of trade and investments. Additionally, coordinating macroeconomic policies reduces the probability of countries falling into economic recessions but also the capability to recover quickly from a crisis in the likelihood that one occurs.
Politically, with the fall of the Berlin Wall and Soviet Union occurring less than ten years prior, regional integration was a large step towards strengthening liberal ideologies in the international order. Economic regional integration was also a political move that attempted to deter the re-emergence of communist powers by not only connecting small developing countries with powerful liberal countries but also helping in their development. At the time when the EMU was first created, it was vital that the implementation of a singular currency and monetary policy for a group of nations was done through a slow transition thus easing countries into high levels of integration rather than abrupt quick transitions that are short lived.
The work of the Economic and Monetary Union is primarily categorized under three stages that laid the foundation for the euro currency to be used across states The policies or measures implemented at each stage brought member countries one step closer to regional integration which is reflected in the final stage of the EMU by fixing the exchange rate and creating a singular monetary policy for all member states to follow. These policies that are still seen in the main objectives of the ECB are known as quantitative easing which result in a more open economy that makes borrowing money from banks easier. In theory, if the lasting effects of quantitative easing stimulates a national economy, expanding quantitative easing policies to a group of member states within the same region should stimulate economic growth on a larger scale. Given the hypothetical benefits of easy business exchanges over a group of several states, coordination of monetary policies needed to be done at every stage to ensure the success of the ECB.
Different measures implemented within each stage center around the theme of coordination. For the eurozone, coordination is the most significant form of diplomacy that determines the functionality of the institution. Without the coordination of monetary policies as well as other policies such as labor and capital movement, the eurozone would not operate as smoothly as it has so far. This form of coordination seen in the region produces a level of regional integration that stretches.
The Functions of the ECB
Despite having a singular monetary policy, the ECB can maintain cooperation and coordination through different frameworks which either consult or decide what is the optimal monetary policy for the region at a given time. More specifically, monetary policies which are under the responsibility of the ECB are establishing the value of the currency and interest rates. Overall these policies affect the supply of money, foreign exchange rate as well as the rate of different forms of investments. As a collective of national central banks, there are three primary bodies which are each delegated the responsibility to make some form of decision. The governing council is recognized as the highest body within the ECB that analyzes recent economic and monetary developments to determine if interest rates or lending rates need to be changed. In total there are 25 members in the Governing Council which include the 19 central bank governors of the eurozone as well as six members which make up the second governing body which is known as the Executive Board. The primary responsibility of the Executive board is to handle the daily operation of the ECB. The last operating body of the ECB is known as the general council which is composed of the central bank governors of all central banks in EU countries. As this position is made up of governors of non-eurozone banks, this council acts as more of an advisory council to the other two governing bodies. At different points in time, these three governing bodies have come together to properly address economic crises both on a national and global level.
Structurally, one way the ECB has responded to national and global economic shocks has been through the creation of resolution mechanisms that are to further aid and supervise the central banks of ECB member states in central bank operations and also oversight to macroeconomic policies. These mechanisms were created with the hopes for member states to equitably benefit from being in the eurozone.
The First Decade of the ECB
Positive results can be seen within the first decade of the ECB. With much action from the ECB being inspired by the work of the German Federal Bank, the ECB was able to maintain an inflation rate at a maximum of 2%. Policies that drew upon the unorthodox approach of economic and monetary policy, caused for the economy of the region to grow at an especially high rate. The low inflation rate that was maintained throughout the first decade mitigated the risk of increasing prices that were affected by high global oil prices. Even during global economic shocks, consistently low interest rates increased countries’ capabilities to lend more from other countries. Smaller economic shocks which occurred in the early 2000s, pushed the Executive and Governing Council to create forms of buffers that would act as safety nets in case of different shocks.
While in the short run, increased borrowing could be beneficial and finance different projects and programs, but this rate of borrowing is sustained for an extended period, specific monetary policies could make national economies vulnerable to financial crises. Tight and regulated fiscal policy is an optimal strategy for countries to upside the possible risks towards financial crises. Even in the early years of the ECB, the need for a disciplined fiscal policy was acknowledged but the global financial crisis placed extra significance on the notion of the regulated fiscal policies. In total, member states in the ECB saw positive benefits within the first decade but the global financial crisis ultimately determined the success of the European Central Bank for the second decade of its existence.
ECB’s Shortcomings: a Case Study of the Greek Financial Crisis
It is worth noting that the European Central Bank only requires monetary policy to be uniform through member states. The creation of fiscal policies, on the other hand, is left to the discretion of national governments. Among member states, there is minimal to no coordination between fiscal policies which raises issues that challenge the efficiency of the ECB. Due to fiscal and monetary policy in combination affecting overall economic activity of the economy, the lack of coordination for fiscal policies can cause some countries to be restricted in the event of an economic shock. The Grecian financial crisis which began in the late 2000s was so severe due to the restrictive ability to change monetary policy and the lack of discipline for fiscal policy. Although fiscal policies could help member states recover to some extent, intense policy intervention is needed for economies to sustainably recover from shocks. National financial crises like the Greek financial crisis emphasized the significance of fiscal policy coordination between the member states of the ECB.
The origins of the Greek financial crisis can be dated back to the 1980s when Grecian fiscal policies surrounded the expansion of increasing government spending and borrowing. When Greece entered the eurozone and ECB, implementing ECB quantitative easing policy combined with their own fiscal policy made Greece a country that was perceived to be a safe place to invest in and could easily borrow money from other countries. Greece’s membership in the ECB increased competition for German goods and deepened their inability to pay off their debt. Since Greece maintained their fiscal policy up until the global financial crisis, the low inflation rate established by the ECB restricted Greece from changing monetary policies that would better alleviate some of the crisis they are placed in.
As mentioned earlier, the ECB was structurally inspired by the German Federal Bank given that they were the most powerful bank at the time. As a result of their power, much of the monetary policies created were influenced by the state of Germany’s economy. In the context of the Greek financial crisis, ECB monetary policies based on the state of Germany’s policies created tensions between Greece, the ECB and Germany who were divided on how the ECB should respond to the financial crisis. Greek believed that the ECB should forgive some of their debts while Germany was hesitant in debt forgiveness and changing monetary policy for Germany. The tensions between these three actors extended to the point where Greek almost left the eurozone and ECB due to the lack of sympathy from the ECB and large eurozone lenders like Germany.
In total, there are three major critiques that affect the effectiveness of the ECB. The first critique of the ECB was previously mentioned was the lack of fiscal policy coordination among member states. The lack of fiscal policy coordination partially makes fiscal policy coordination less effective. The second major critique of the ECB is the large role Germany has influence over the monetary policy of the ECB. As a result of this, it places states at different economic levels than Germany to be subjected to monetary policies that Germany would benefit the most from. The third critique is the confidence in quantitative easing. Since its inception, the ECB has placed great confidence in quantitative easing monetary policy. The ideology behind having constant quantitative easing monetary policy does not necessarily benefit the regional economy in the long run.
Policy Recommendations
Given the three large critiques that impede upon the efficiency of the ECB, reforms which would focus on a significant theme of coordination. Better coordination across different policies that within and outside of the responsibilities of the ECB will not only promote the founding theme of regional integration, but will also evenly distribute the benefits of a single currency across different member states. Proposed recommendations are catered towards the two significant bodies of the ECB seeing as they make much of the significant decisions for the eurozone.