The Faustian Bargains

Last year, it was quite fashionable to compare the ECB’s monetary policy to the Mephistophelean discovery of endlessly reproducible paper money in Faust. But current public opinion in the eurozone would seem to reflect a different passage from Goethe's tragedy: "O moment, I would like to say: stay a while, you are so lovely!" Many European politicians have proclaimed that the crisis is over, arguing that the ECB's promise to purchase unlimited quantities of eurozone debt has resulted in a turn for the better. What should we make of this storyline?

In fact, there are real signs of calming. First, bond rates in the embattled countries of the eurozone have fallen significantly. Second, global stock markets have risen. Third, the exchange rate between the euro and other currencies such as the US dollar has recovered significantly. All of this suggests that large numbers of investors are ready to return to the eurozone. Yet these trends cannot be interpreted as a sign of recovery in the real economy. The ECB’s bond purchasing programme is the main reason financial markets have calmed. With the announcement of this programme, ECB signalled that taxpayers – and not investors – will bear the brunt of payment defaults. So it is easy to understand why financial markets are celebrating.

Harder to understand, however, is why so many European politicians are sharing in the celebration. It is undoubtedly premature for them to be doing so. It is true enough that current account and budget deficits have improved in many crisis-wracked states, and the risk of sudden bankruptcy has decreased for individual member states and banks. However, at the same time, there are also negative signs. Current trends in growth and employment are as bad as they have been at any time since the crisis began. The eurozone’s economy is shrinking and the unemployment rate is above 11 per cent. In Spain, unemployment is actually over 25 per cent and still rising. Reforms for improving competitiveness are too timid, and, in part, have come to a total standstill.

To reverse these developments and end the recession in the eurozone would require considerable efforts. For one thing, citizens throughout the eurozone need to prepare themselves for the cost of restoring fiscal order. There is much to suggest that in a few nations, debt relief will be needed. At least in Greece, this is unavoidable, and it could become necessary in Portugal and Spain as well. Providing such debt relief will place a burden on taxpayers in Germany and other creditor nations.

In addition, Europe has to find a solution for its troubled banking sector. While the eurozone has agreed to create a banking union, this union cannot function until the hidden and toxic assets on the books of large banks have been fully disclosed. An agreement must be reached on who will bear the burden of these bad debts. Currently, no such agreement exists, because the nations in crisis hope to shift these losses, at least in part, to the core members of the Monetary Union. Thus, the goal of tearing down interdependencies between individual member states and their banks seems likely to fail. Due to the ECB guarantee of renewed access to cheap credit, banking reform and the creation of a banking union are no longer as pressing. Yet a failure to reform the banking sector will delay economic recovery in the eurozone.

The ECB has calmed the markets, but as a result, it has also eliminated the pressure on policymakers in Europe to actually implement difficult reforms. In Goethe’s tragedy, Faust’s joyful moment turns out to be based on a misunderstanding. Faust is blinded and imagines that he hears a multitude of people paying homage to him for his deeds. In fact, he is hearing the sounds of a grave being dug. Fortunately, policymakers in Europe are not blind. They must decisively push forward reforms in the eurozone before the crisis returns in force.