Photo: Guggenheim Partners
Obviously one of the huge questions facing Europe is the extent to which the countries can come together as a fiscal union and a political union, in addition to a monetary one.Nobody thinks the existing system is sustainable, and the hopes of Euro bulls of late has pertained to the expanding role of the EFSF (see more here on that).
In a recent letter, Scott Minerd, Chief Investment Officer of Guggenheim Partners, suspects that key European leaders may be more inclined to unify than they’re letting on.
Why? Because of course, politicians want to rule the land.
From Minerd’s Jan 15 letter:
‘Merkel, Sarkozy, and Alexander the Great’
Admitted or not, flashing across the political mindset in Europe is the realisation that monetary unification will inevitably require a greater degree of political and fiscal unification. Critics of the euro have been saying this since its inception, but the current crisis is forcing the issue to the forefront of pan-European policy.
As The Wall Street Journal aptly summarized in a front-page article on December 27:
Ever since [the creation of the euro], economists have warned that monetary union, without a parallel authority to regulate taxes and spending, was destined to fail because there was no way to enforce the fiscal discipline essential to a currency’s health. Now, as Europe’s year of crisis grinds to a close, the Continent’s leaders are contemplating what many long resisted: a United States of Europe.
The federalization of Europe isn’t as far-fetched a concept as one might think. Remember that the United States of America initially operated under a loosely constructed confederation of sovereign states.
Prior to the Articles of Confederation, the individual colonies accumulated varying degrees of debt while fighting the Revolutionary War. The colonial debt burdens were highly divergent depending on the level of commitment to the war and the economic benefits accrued as a result of independence. Similar to the situation in Europe, some states suffered under far heavier debt burdens than others and economies prospered in varying degrees.
Without a tax base or the ability to consolidate debts, the make-shift Continental Congress was unable to assist individual states. Therefore, in 1787, it convened to address the financial viability of a confederation of unified states. Broad and sweeping changes were necessary, but under the Articles of Confederation such change could not occur without great difficulty. In response, that convention seized the opportunity to forge the Constitution of the United States of America, which curiously needed only a two-thirds vote to be ratified rather than the unanimity previously required in order to amend the Articles of Confederation.
It was reported that during the debate, John Jay, an American founding-father who co-wrote the Federalist Papers, argued in favour of the fiscal benefits of federalization. He said, in effect, that without a federal government the states would no sooner become independent than they would become insolvent. He argued that it should not be said of America that “her infant glories and growing fame were obscured and tarnished by broken contracts and violated faith.”
It was this Alexandrian-style paradigm shift in American government that paved the way for the Articles of Confederation to be replaced by the United States Constitution, and for Alexander Hamilton to ultimately absorb the debts of the states as a part of the process of federalization.
As Solomon said, “There’s nothing new under the sun.” The federalization of independent sovereign states for the purpose of financial and political stability has happened before. The application to the current crisis in Europe really isn’t as crazy a concept as one might think. At the end of the day, it’s all been done before.
Returning to modern day, the escalation of the current crisis in Europe will represent the Alexandrian moment for Germany and France, who have long desired to extend their influences across the continent. I believe that politicians are on board for greater European fiscal union; however, they still need to sell it to their constituents. Ironically, their lack of action may ultimately do the selling for them as the crisis deepens. It’s only a matter of time before Germany and France find the political will to lead the European Union into a new era of fiscal unification. Ultimately, the German and French motivation is the same reason Alexander the Great cut the Gordian Knot – the promise of ruling over a unified continent.