Is the euro good for all?
- Macroprudential Policy
- Jun 6, 2020
- 4 min read
Updated: Aug 16
The euro is a shield for disciplined, low‑inflation economies and a straitjacket for high‑inflation, unionized economies—unless Europe embraces sustained fiscal solidarity.
The euro’s success depends on continued fiscal transfers and policy coordination.
Without them, low-inflation countries will keep winning, and high-inflation regions risk stagnation or eventual exit.
What is optimum currency area (OCA)?
An Optimum Currency Area (OCA) is a geographic region in which the economic benefits of sharing a single currency outweigh the costs, maximizing efficiency and stability. The concept, pioneered by Mundell (1961), identifies conditions under which countries or regions should adopt a common currency or maintain independent monetary policies.
Core Criteria for an OCA
Labor Mobility: Free movement of workers across regions to offset asymmetric shocks (e.g., U.S. interstate migration).Example: The Eurozone struggles with linguistic/cultural barriers to labor mobility.
Capital Mobility & Fiscal Transfers: Integrated financial markets and fiscal redistribution (e.g., U.S. federal taxes and unemployment benefits).Example: EU lacks a centralized fiscal authority, worsening crises in Greece/Italy.
Economic Symmetry & Business Cycle Synchronization: Similar inflation, growth, and shock vulnerability (e.g., Germany vs. Netherlands).Counterexample: Germany (manufacturing) and Greece (tourism) face divergent shocks.
Price/Wage Flexibility: Adjustments in wages/prices instead of exchange rates (e.g., Ireland’s post-2008 internal devaluation).
Trade Integration: High intra-regional trade reduces exchange rate needs (e.g., Belgium-Luxembourg economic union).
Regional Disparities and Productivity Gaps
European economies have long been characterized by regional divergence. Wealthy, high‑productivity regions cluster in Northern and Western Europe, while Southern and Eastern regions lag behind.
According to IMF (2022), post‑Great Recession regional divergence reflected both productivity gaps and unemployment disparities. For instance:
In 2022, GDP per capita (PPS) exceeded €70,000 in Copenhagen and Prague but fell below €18,500 in Thessaly (Greece) and €16,300 in northeastern Romania—a 4× gap (IMF 2022).
High‑productivity regions tend to attract more capital, enjoy faster job creation, and benefit from agglomeration economies.
In a system with national currencies, low‑productivity regions could regain competitiveness via currency devaluation, which effectively reduces real labor costs. In a single‑currency system, that tool disappears. Internal adjustment requires nominal wage cuts—politically and socially difficult.
Inflation, Trade Unions, and the Euro’s Asymmetric Impact
The euro systematically benefits countries with low inflation and penalizes those with high wage growth relative to productivity.
Low-inflation economies (e.g., Germany, Netherlands):
Wage growth is aligned with productivity and low inflation.
These countries do not require devaluation to stay competitive.
The euro locks in their advantage: exports stay strong, and stable currency prevents appreciation.
High-inflation, high-wage-pressure economies (e.g., Greece, Italy, Spain):
Strong trade unions and rigid labor markets push nominal wages up faster than productivity.
Before the euro, these countries relied on periodic currency devaluation to restore competitiveness.
Under the euro, internal devaluation—wage and price cuts—becomes the only path, often resulting in unemployment and social unrest.
Empirical evidence:
Between 1999 and 2008, unit labor costs rose ~35% in Greece and 30% in Spain, compared to under 5% in Germany (ECB 2024).
This gap created persistent current account deficits in the South, financed by cheap debt in the early euro years (IMF 2022).
In short, the euro serves low‑inflation, surplus economies as a protective shell while acting as a disciplinary straitjacket for high‑inflation economies that would historically devalue their currency to restore competitiveness.
The Debt‑Fueled Illusion and the 2008 Eurozone Crisis
During the 2000s, periphery countries financed imports and domestic demand with cheap euro-denominated debt, enabled by the convergence of sovereign yields:
Greek 10‑year bond yields fell from >15% in the 1990s to ~4% by 2005, nearly converging with Germany (New York Fed 2011).
When the global financial crisis struck, interest spreads widened dramatically:
By 2012, Greek yields exceeded 30%, Spain and Italy ~6–7%, while Germany stayed below 2%.
Without their own currency, crisis countries could not devalue and had to endure internal devaluation and fiscal austerity, leading to multi‑year recessions.
Meanwhile, the US Federal Reserve acted swiftly with large-scale liquidity and QE, unimpeded by regional distribution politics. The ECB, constrained by political bargaining, responded slower, prolonging the Southern European depression.
COVID‑19 and a New Phase of Eurozone Solidarity
Learning from 2008, the EU and ECB coordinated more decisively during the COVID‑19 crisis:
Results:
Southern Europe led post-pandemic recovery: Spain +0.7% QoQ in 2025 Q2; France +0.3%; Germany slightly negative (Reuters 2025).
Eurozone unemployment fell to 6.2%, a historic low (Reuters 2025).
This coordinated policy reduced the euro’s historical asymmetry—at least temporarily.
Fiscal Transfers, Reserve Currency “Magic,” and Sustainability
A single currency implicitly requires fiscal and monetary transfers:
Populist governments may raise wages above productivity in one country, boosting imports from others.
Those imports are financed by ECB‑enabled debt—a de facto transfer benefiting the exporting countries.
This dynamic is sustainable only as long as the euro retains reserve currency status and political consensus for transfers persists.
Like the US dollar, the euro allows the ECB to create liquidity in exchange for sovereign debt without gold or foreign currency backing. Without this “magic,” recovery from COVID‑19 would have taken years, hurting even the high‑productivity North due to collapsing export demand.
If persistent recessions return and fiscal transfers falter, weaker economies may exit the euro, shrinking the union to a core of similar low‑inflation economies.
Conclusion: A Currency for Some, or for All?
The euro is structurally biased:
Winners: Low-inflation, surplus economies with wage restraint (Germany, Netherlands, Austria). They gain export stability and capital inflows without needing devaluation.
Losers: High‑inflation, wage‑rigid economies with strong trade unions (Greece, Italy, Spain). They lose their main adjustment tool—currency depreciation—and face long recessions unless supported by debt and transfers.
COVID‑era policy innovations suggest the euro can work for all—if joint fiscal and monetary measures continue. But without structural convergence, the euro risks remaining a golden cage for the South and a shield for the North.
References
IMF (2022). Regional Disparities in Europe.
ECB (2024). Unit Labor Costs and Competitiveness in the Euro Area.
New York Fed (2011). The European Sovereign Debt Crisis.
FT (2021). NextGenerationEU and Joint Fiscal Policy.
Reuters (2025). Eurozone Growth and Unemployment Data.
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