Europe is heading towards a “cataclysmic event” that could lead to the collapse of the euro and the end of the European project as we know it, according to Nobel prize-winning economist Joseph Stiglitz.
In an interview with Business Insider following the launch of his latest book “The Euro: How A Common Currency Threatens the Future of Europe” — which argues that the European single currency will inevitably cease to be at some point in the future unless drastic changes are made — Stiglitz said that a “disastrous” political event similar to the United Kingdom’s decision to leave the European Union could trigger such a collapse.
“I think the most likely thing is something along the lines of a political cataclysmic event like Brexit. In other words, the eurozone’s member countries are democracies and one sees increasing hostility to the euro, which is unfortunately spilling over to a broader hostility to the broader European project and liberal values,” Stiglitz told BI from his office in New York.
Stiglitz continued: “That’s going to be the end. What’s going to happen is that there will be a definite consensus that Europe is not working. The diagnosis will be to shed the currency and keep the rest, or that Europe is not working and a broader rejection — like in the UK.
“So my worry that this is precisely that kind of political event [something like Brexit] is that is what will be the catalyst for change.”
Asked if he believed that the ongoing problems — both politically and economically — in Italy could trigger such an event, Stiglitz agreed, saying: “That is a big risk. Many people are now trying to work with Matteo Renzi [Italy’s prime minister] to have him climb down from his commitment that he will resign if his referendum fails.”
Renzi has frequently reiterated that he will step down as prime minister if he loses the referendum, in a move that would mimic British PM David Cameron’s resignation following the EU referendum in June.
As it stands, Stiglitz argued, the referendum is “not just a referendum on the constitutional changes, but also on Renzi.” Although Renzi is adamant that he and his government will succeed in their aim of reforming Italy’s senate, saying in a recent interview “I will win” — Stiglitz believes that the best option for the future stability of Europe would be for the referendum to be abandoned.
“[There is an argument] to make him even step down from holding the referendum and say that the Brexit has led to a whole change in the debate about the future democracy in Europe, and that we need to re-examine those terms.”
“My feeling is that for anybody concerned about avoiding a disastrous outcome, there needs to be a climbdown. Otherwise we’re heading towards another cataclysmic event.”
Despite Stiglitz’s assertion that the referendum should not go ahead, it seems unlikely that it would be cancelled with just a couple of months until it is due to take part. The vote has now been formally approved by the Italian high court, and is set to take place on an as yet undetermined date in November this year.
In the run-up to the UK’s vote to leave the European Union, Italy’s litany of problems had gone largely unnoticed. However, in recent months, the spotlight has turned toward the southern European state, the eurozone’s third largest economy. Italy not only faces political turmoil but enormous economic strife too.
It has crushingly low productivity, a history of missing growth targets, and has generally underperformed the rest of Europe in recent years. Earlier in August, economic data out of the country showed that GDP did not grow in the second quarter of 2016, a substantially worse outcome than economists very modest expectations of 0.2% growth.
Here is just one chart showing how drastic things are when it comes to the Italian economy compared to other major economies (you can find more here):
Not only is Italy in the midst of major political and economic drama, it is also staring down a huge crisis in its financial system.
“One theme which could dictate near term direction for markets and which arguably Brexit has reignited and brought back to the forefront is the ailing and fragile state of the Italian banking sector,” Deutsche Bank’s Jim Reid noted in his Early Morning Reid note back in July.
The country’s financial sector is plagued by an enormous surfeit of bad loans so great that the government was, in April, forced into rallying bank executives, insurers and investors to put €5 billion (£4.2 billion, $5.57 billion) behind a rescue fund for its weakest banks. The Atalante fund is designed to buy so-called bad loans from lenders and invest in their shares in the hope that the re-energised banks will lend more to businesses and spur growth.
Monte dei Paschi di Siena, the world’s oldest bank, is the worst affected, holding bad loans equivalent to almost 50 times its market capitalisation. The bank managed to agree a rescue package involving the likes of JP Morgan, Deutsche Bank, and HSBC at the end of July.
However, soon afterwards the lender came dead last in the European Banking Association’s continent-wide stress tests, and in the last week, it has been revealed that the company’s CEO Fabrizio Viola is under investigation for alleged market manipulation.
The problems in Italy’s banking system, Stiglitz argues, are endemic of the unnecessary rigidity within the eurozone’s rules. “It illustrates one of themes of my book, namely that having a single currency that works well given the diversity of Europe is really hard. And you have to have rules and regulations and politicians that are sensitive to this diversity. The fact is that in most countries the holders of the bonds are sophisticated people who have made returns in excess of the safe rate that represents the risk.
“Italy represents a case where for a variety of historical reasons — and perhaps marketing — among the bondholders there appear to be a lot of ordinary individuals. If that is the case, which it appears to be, when you make them bear the cost you are really going after depositors, like happened in Cyprus, which I think the consensus was was a bad idea.
“A rule that works most of the time, that you ought to let the bondholders bear the cost looks like it may not be the right rule for Italy.”
“This is a case where I think the European rigidity may have very high costs both for democracy and for Italy, and for in the end, if there’s a referendum, the future of the eurozone.”
Whatever the “cataclysm” that leads to the eventual collapse of the euro and the European project, right now, it looks like Italy is the most probable culprit.