Speech

Euro 2.0: Past, Present, and Future of Euro Area Integration

June 25, 2018

As prepared for delivery

Introduction

Thank you, Philip, for that very kind introduction.

It is a pleasure to welcome all of you to “The Euro at 20” conference jointly organized by the Central Bank of Ireland and the IMF.

We meet at a moment when the EU and euro area are in the midst of difficult decisions about their future. Populist movements — from Brexit to the recent Italian elections — have called into question the value of European integration.

Over the next two days I know you will examine that future and consider the ways we can improve integration going forward. But this conference is also an opportunity to look back — and appreciate just how far we have come.

Ireland is a fitting venue to find inspiration for this discussion. This is, after all, a country of poets. You know the most famous names — James Joyce, Oscar Wilde, Samuel Beckett, Seamus Heaney.

But today I thought I would start our conversation by borrowing from a lesser-known literary figure, Maria Edgeworth.

Edgeworth was a 19^th century Irish writer, a contemporary of Jane Austen, and an economic thinker who frequently debated with David Ricardo. She once said, “If we take care of the moments, the years will take care of themselves.”

So how, indeed, did we arrive at this moment and what can we do to make the most of it?

1. Looking back — 20 Years of the Euro

While our conference focuses on the 20 years since the creation of the euro, we know that the journey to integration dates back much further.

The common currency capped a 50-year quest to tear down economic borders. Today, 19 of 28 European Union members are part of the euro area, and the euro is the world’s second major reserve currency.

It has been an incredibly fruitful endeavor. The links between European nations have gone beyond what many imagined in the aftermath of the Second World War.

European integration has raised standards of living across the continent. In the European Union, real GDP per person has increased 40 percent since the mid-1990s. This growth outpaces the expansion seen in the United States over the same period.[1]

But that is only part of the story. In the run up to the adoption of the euro in 1999, we saw strong convergence in real income levels among the original euro area members. Interest rates began to converge even before the common currency was introduced.

As we now know, in some cases, these shifts contributed to excessive borrowing, unsustainable growth levels, and eventually, the euro area crisis.

Indeed, several of the countries hit hardest during the global financial and euro area crises saw their income growth fall significantly behind that of their peers. Many countries are only now recovering to pre-crisis levels.

So, it has been a complicated journey, full of difficult moments — but in each step, we have learned valuable lessons.

Ireland proves the point.

Ireland joined the European Communities in 1973, was a founding member of the European Exchange Rate Mechanism in 1979, and signed the Maastricht Treaty, which established the euro in 1992.

Up until the crisis, Ireland thrived in the Economic and Monetary Union. Many here will remember the “Celtic Tiger” economic boom in Ireland starting in the early-1990s.

Economic and financial integration, helped by structural reforms and openness to foreign investment and trade, propelled Ireland from one of EU’s poorer members to one of the more prosperous.

In real terms, average Irish income per capita more than doubled since signing of the Maastricht treaty.

At the same time, growing financial integration between euro area countries following the Maastricht Treaty supported a rapid expansion of credit in some member states. This fueled unsustainable real estate booms in countries such as Ireland and Spain.

When boom turned to bust, Irish banks ran into serious trouble and Ireland found itself at the heart of the euro area debt crisis.

After difficult choices and sacrifices by the Irish people, and with support from European partners and the IMF, the Irish economy has rebounded strongly.

In this way the Irish experience mirrors the overall experience of the euro area: at age 20, the euro area is more mature — battle scarred yes, but also stronger and ready to move forward.

And that brings us to our current moment.

2. Taking Stock of the Current Moment — The Euro at 20

To quote from a modern-day Irish poet, Bono, “It is stasis that kills you off, not ambition.”

The euro area is at its best when it is ambitious. Think of what has been created over the past decade.

The European Stability Mechanism and its predecessors worked with the IMF and provided over 250 billion euros in loans to the five countries hit hardest by the crisis, and now with the ESM, credible crisis-fighting resources are at the ready.

The European Central Bank was also part of the effort to restore stability. When the crisis began to intensify in 2012, the ECB made clear that, within its mandate, it was willing to do “whatever it takes” to preserve the currency union.

Time and again, Europe rose to meet the challenges it faced, and in the process undertook key institutional reforms.

For example, the development of the Banking Union, along with the Single Supervisory Mechanism and Single Resolution Mechanism, helped create a more unified banking sector for the entire euro area.

The truth is that the Irish experience was a major motivator for many of these reforms. The new bank recovery and resolution regime was designed in part to address the problems Ireland faced.

The biggest problem was the fact that the costs of the banking crisis, including the protection of Irish banks’ wholesale creditors, were largely borne by taxpayers. The new regime is meant to make banks safer. And, in the event of another crisis, it is designed to limit the risk that taxpayers will be asked to help bailout the banks.

But there is still so much more to do. We cannot stand in place, we must continue to be ambitious. We need to look ahead to what I describe as euro 2.0.

3. Looking Ahead — Euro 2.0

I believe there are three major areas where work is needed to enhance the euro area’s resilience and secure its future.

Of course, progress will not be easy and it will take time to reach agreement on many thorny issues, but I want to outline each area briefly. I know these topics will be addressed in depth over the next two days.

• First, the Banking Union should be completed with an adequate backstop for a Single Resolution Fund and a common deposit insurance scheme. This is important because ultimately, with the proper safeguards, it makes good economic sense to insure credit risks across member countries. This kind of insurance can help weaken the “sovereign-bank doom loop” that was at the heart of much of the crisis.
• Second, the euro area needs truly integrated financial and capital markets that allow companies to raise financing across borders more easily and support investment. In the near-term, it is critical to ensure that regulatory and supervisory capacities are prepared for the influx of financial firms that will move to continental Europe — and Ireland — as a result of Brexit. Over the medium-term, there will need to be greater harmonization of national insolvency regimes and securities regulations. We can see some of the progress and potential in the European Venture Capital Regulation, which makes it easier for start-ups to raise venture capital financing from investors across the EU.
• Third, the euro area can take steps to introduce greater fiscal risk-sharing while reducing underlying fiscal risks. During the last crisis, there was an overreliance on monetary policy. Simply put, the euro area should not repeat the mistakes of the past. Greater risk-sharing combined with larger national buffers would allow countries to avoid having to raise taxes and cut spending when the next downturn comes. The IMF recently introduced our own proposal for a central fiscal capacity, or as we described it, “a rainy-day fund.” Others, including some in this room, have put forward different proposals for a euro area fiscal capacity as well. But no matter which proposal is eventually adopted, every country has a responsibility to comply with common fiscal rules and reduce public debt in places where it is too high.

All of these reforms can make a difference, but they are only part of the solution. More fiscal integration and true banking and capital markets unions will not address the structural weaknesses holding back growth in many countries. Policymakers must continue the difficult work of making their own economies more resilient and productive by implementing structural reforms.

This moment — with solid growth and steadily declining unemployment across the euro area — is the time to tackle the tough challenges. Recently I have been borrowing a line from a famous Irish-American, John Fitzgerald Kennedy, who once told his country, “The time to repair the roof is when the sun is shining.” Right now, there are an increasing number of dark clouds on the horizon, so Kennedy’s words should be taken to heart with a renewed sense of urgency.

Conclusion

There is no doubt that securing the euro area for the next twenty years will take patience, creative thinking, and increased cooperation. But this has always been the case.

Bringing countries together under difficult circumstances has been the mission of the euro area since its creation. And as I have said before, to be truly effective, the euro area cannot just be a union of convenience in calm waters. It needs to be a strong shield amidst storms.

That should be the objective going forward.

Now today I have quoted Edgeworth, Bono, and Kennedy, but let me close with a more traditional Irish poet.

It was Yeats who once said, “In dreams begins responsibility.” In many ways, this is the story of the euro area. A dream, but one that requires each country taking on responsibility for that dream to be realized.

As I look around this room, I see so many talented scholars and policymakers. And it gives me confidence that you will each do your part to identify the existing problems and make progress toward finding solutions. We are proud to be your partners in this effort.

Thank you very much.

[1] Real GDP per capita measured in purchasing power parity terms