News from the South. Proposal to strengthen the European Monetary Union: Combining fiscal discipline with risk sharing

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The Euro Yearbook focuses on a desired steady-state for the European Monetary Union from an economic point of view and suggests further integration based on risk-sharing along with discipline and reforms.

According to the authors, integration is crucial to unleash the benefits of a monetary union and requires reforms e.g. financial markets union, lender of last resort, simplification of fiscal rules, and the introduction of a safe asset.

However, desired economic and political states are not aligned, and could be expected to diverge even further due to greater participation of Euro-sceptic parties in national governments. While deeper integration and strengthened institutions could foster trust within the EU, the current mistrust has enforced the debate about the dimension of risk-reduction and risk-sharing.

Topics discussed in particular:

• Fiscal rules: Need for simple and enforceable design which entails transfer of sovereignty and reforms in case of nonconformity. However, stricter enforceability could reduce trust in central institutions.

• Banking resolution: Current resolution mechanisms are insufficient e.g. in case there is no bid for failing bank’s assets. Thus, public institution, which does not require political consensus and is endowed with sufficient leverage, should be able to manage failed banks for limited time.
• Financial markets: Current design of Euro Area entails great risk posed by financial markets’ confidence e.g. uncertainty in case of default. The same problems often arise in emerging markets economies with pegged currencies and weak institutions.    The Euro Yearbook focuses on a desired steady-state for the European Monetary Union from an economic point of view and suggests further integration based on risk-sharing along with discipline and reforms.