Andreas Dombret: The euro area navigates rough seas - where is
Europe heading?
Speech by Dr Andreas Dombret, Member of the Executive Board of the Deutsche Bundesbank,
at the parliamentary evening at the Bundesbank's Regional Office in Hamburg,
SchleswigHolstein and Mecklenburg-Vorpommern, Hamburg, 7 June 2017.
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1. Introduction
Ladies and gentlemen
I am delighted to be here this evening to talk to you about the future of the euro area. Here in
Hamburg, Germany's largest sea port, it seems quite fitting to ask where Europe is heading.
These days, Europe's reputation is suffering somewhat - uncertainty and political risks are
casting a shadow on Europeans' self-image. Against the backdrop of Brexit and an apparent
resurgence of nationalism and populism, politicians and the general public alike are starting to
ask: "Where is Europe heading?"
The European Union is facing criticism on all fronts at present. Why is this? What are the roots
of the seemingly ever-increasing levels of euro-scepticism and reform fatigue? What lessons
can and must we learn from the dissatisfaction of large numbers of people? How can we counter
calls for more nationalism and less Europeanism?
I believe we must deal constructively with euro-scepticism. This involves finding areas in which
we can start making improvements.
I am emphatically not talking about making intellectual U-turns. What really matters is bringing
about a change of course and sticking to it. And that is why it is equally important to take an
unbiased view of the chances of successful reform in Europe.
2. Navigating rough seas - European and global challenges
Ladies and gentlemen, the result of the US presidential election and the unexpected Brexit
decision in the United Kingdom are just two examples that show that many of the general public's
reservations and concerns have been underestimated for too long. And yet, in Europe, too, a
tendency to revert to nationalism is not a completely new phenomenon. Even when the EU was
being established, many member states had misgivings about transferring sovereignty to
international institutions. And these concerns come to the fore again every time powers at the
European level are expanded.
But we should not be under any illusion - over the last few years, protectionist policies have
gained more political traction than in the past. Protectionists believe that trade barriers will bring
jobs back as well as boost growth and employment. They see stricter trade and immigration
controls as the answer to people's concerns.
However, they fail to recognise that it is precisely the opening-up of trade that improves a
country's competitiveness by facilitating the division of labour, which enables countries to exploit
their own individual competitive advantages. This allows goods to be produced at low cost, which
increases consumers' purchasing power. Ideally, this stimulates demand; prosperity,
investment, and, ultimately, employment increase as a result.
One thing is clear: isolationism brings no benefits, offers no stability and does not lead to
prosperity. The belief that protectionism is the better alternative is merely an illusion.
Nonetheless, scepticism regarding the European project has grown. Of course, some of the
criticism aimed at the euro area is justified. Unfortunately, closer European cooperation also
produces undesirable side-effects.
Without a doubt, there are major benefits to the single European market. But, at the same time, it
obviously creates redistribution effects which can cause the regional loss of jobs or wage
stagnation. And these effects tend to undermine many people's trust in the European Union.
The European project must therefore be judged on the extent to which it benefits all its citizens.
On the one hand, economic and socio-political action needs to be taken in this regard - but I
won't go into further detail about that today. On the other, however, there is also a fundamental
need to overhaul the regulatory framework in Europe. Parts of this framework need to be
adjusted and parts need to be completed in order to provide a stable footing for the European
project in the long term.
Only stable institutions and a reliable regulatory framework can create confidence. We saw the
opposite of this during the European sovereign debt crisis, when a lack of confidence in the euro
area led to a crisis which was by no means confined to individual countries.
Even though many necessary reforms have been initiated and the euro area has been made
significantly less vulnerable to crises, we have not yet reached our goal. We still need to press
ahead with the right reforms in order to strengthen people's trust in the institutions of the EU,
which would also take some of the wind out of the sails of populism. So let's now consider where
we could start making specific institutional changes.
3. The euro area - room for improvement in the status quo
The sovereign debt crisis made one of the euro area's problems glaringly obvious - previously,
the financial markets appeared to assume that, should individual euro-area countries experience
financial difficulties, the European community would bail them out, even though the EU treaty
prohibits mutual liability. As a result, doubts as to the soundness of individual governments led to
doubts regarding the euro area as a whole. It is therefore extremely important that, in the future, it
is possible for over-indebted states to default. For one thing, this would significantly limit the
extent of future crises; for another, it would reduce the likelihood of the European community of
states having to intervene.
Until then, however, we still need to overcome a few obstacles. One major obstacle is the strong
nexus between banks and sovereigns. It means that insolvent banks can pose a threat to the
solvency of entire governments, and vice versa.
Banks are not required to back bonds issued by European governments or other OECD
countries with capital, and can hold unlimited quantities of them on their books. In theory, a
bank's business could therefore consist entirely of bonds issued by a single state. This rule
creates a troubling risk concentration.
To sever this unhealthy link, we need to make just one simple change. In future, banks must
back the government bonds they purchase with sufficient capital. In short, the existing rules need
to be improved to ensure that both creditors and borrowers consider the risks more carefully
when lending or borrowing.
However, this reform won't be enough on its own to resolve the euro area's underlying problems.
Another starting point for reform would therefore be to intensify the coordination and integration of
economic policy within the euro area. Without an integrated economic policy, it is difficult for the
economies in a currency union to converge.
Implementing deficit ceilings for government debt is another area in which progress needs to be
made. All member states should adhere to these ceilings - in no way should they be seen
merely as recommendations. The onus here is clearly on politicians. Central banks can apply
pressure, at most.
4. Where is Europe heading?
Now, there will be some who say that these reform proposals sound too ambitious given the
current state of Europe. But there are signs that the EU is indeed both willing and able to reform
and that, overall, it is making progress. I would therefore like to bring three points to your
attention.
First, it goes without saying that you can think long and hard about the need for reform - even the
finest minds will achieve nothing if the political will is lacking. It is on this very issue that we seem
to be seeing a turnaround. For instance, it appears possible to win elections with a clearly
proEuropean stance. We recently witnessed this in France.
The finance ministers of France and Germany have also announced an initiative designed to
strengthen the euro area. Furthermore, we are hearing claims from France that it is on course to
comply with the deficit ceilings for general government debt in future. To me, this is wonderful
news.
Second, the European economy is also providing a boost. Following a prolonged period of weak
economic developments in the euro area, we now find ourselves on a solid upward trajectory.
The euro-area economy grew by 0.5% in the fourth quarter of 2016 and the first quarter of this
year, respectively. The euro area's economic recovery has thus firmed, with even the mounting
uncertainty in the wake of the Brexit vote and the outcome of the US presidential election doing
nothing to alter that fact.
The tides are also turning in our favour with respect to the unemployment rate, with
unemployment in the euro area falling consistently. Although, at 9.5%, the unemployment rate is
currently higher than the pre-crisis average, it has been declining steadily since 2013 - while the
finishing line is undoubtedly still a way off, we are on the right track.
But how are economic developments now affecting politics in Europe? First, populist movements
that oppose multilateralism, free trade and the euro play on factors such as the fear of weak
economic growth and rising unemployment. In other words, positive economic developments
take the wind right out of sceptics' sails. Second, a turning manoeuvre can be performed far
more successfully after picking up a little speed.
And I cannot neglect to mention a third ray of hope for Europe: we have recently implemented
major reforms. By that, I am referring to the EU's banking union.
The banking union was approved in May 2014 and has standardised banking and financial
supervision in the euro area. Though still in its infancy, it is one of the most sweeping reforms to
be implemented following the euro-area crisis.
In the euro area, we were able to see that the costs of the crisis were felt not only by the
countries that caused them. However, given the existence of risk-sharing in the euro area, it is
vital that these risks also be jointly managed. The regulation and supervision of the financial
markets could therefore no longer remain a matter of national responsibility.
It was for that reason that the Single Supervisory Mechanism, the SSM, was established as the
first pillar of the banking union. Within a very short space of time, 85% of assets held by
European banks were placed under the supervision of the ECB.
All systemically important financial institutions in the euro area are now overseen by the ECB's
joint supervisory teams and the national supervisory authorities. These teams are headed by a
member of staff from the ECB. Important actions and decisions are determined jointly with the
national supervisory authorities and carried out by joint staff. Put differently, the ECB cooperates
closely with national authorities such as BaFin and the Bundesbank in the SSM.
By contrast, smaller institutions that are not deemed systemically important are still overseen by
national supervisors. The SSM demonstrates how European and national authorities can
complement each other and work together efficiently.
What the banking union also shows is that Europe is capable of reform today. With that in mind, I
do not believe that we need a new Europe; instead, we need to concentrate on improving the one
we already have.
5. Conclusion
Ladies and gentlemen, where is Europe heading?
I was invited here today to shed light on this issue. But I'm afraid I must disappoint you: I don't
have the answer to this question. At the end of the day, Europe is everyone's decision - a
decision that we all have to make.
As we have seen, the EU is facing major challenges: from the sovereign-bank nexus and the
possibility of sovereign insolvencies to the integration of European economic policy. Confronted
with the threat of populism, we must work with even greater determination to improve the
European system. While this will not always be easy, Europe is worth the effort. Nevertheless,
we ought to be optimistic about the years to come.
We are no longer going to stumble from crisis summit to crisis summit. We can see political
commitment to change. We can see that the euro area is in good economic shape. And we can
see that, thanks to the banking union, reforms are continuing to be implemented in the EU. The
future of Europe is not as grim as some would have us believe.
I hope that the US election, the Brexit decision and euro scepticism will provide the impetus
needed for major reforms and motivate us to work tirelessly for a better Europe.
The European Union is an anchor in rough seas. For more than 70 years, peace and stability
have reigned over our European continent. Let us never succumb to the temptation to take this
for granted.
Thank you for your attention.