BRUSSELS – The purpose of the euro was to create fully integrated financial markets; but, since the start of the global financial crisis in 2008, markets have been renationalizing. So the future of the eurozone depends crucially on whether that trend continues or Europe’s financial markets become fully integrated. But either outcome would be preferable to something in between – neither fish nor fowl. Unfortunately, that is where the eurozone appears to be headed.
The trend toward renationalization has been clear. Since the end of the credit boom in 2008, cross-border claims of banks based in the eurozone core (essentially Germany and its smaller neighbors) toward the eurozone periphery have plummeted from about €1.6 trillion ($2.2 trillion) to less than half that amount. (Part of the difference has ended up on the European Central Bank’s (ECB) balance sheet, but this cannot be a permanent solution.)
This trend might well continue until cross-border claims become so small that they are no longer systemically important – as was true before the introduction of the euro. At the current pace, this point might be reached within a few years. The financial integration brought about by the euro would be largely unwound.
Officially, renationalization is anathema. But it has its benefits. The system-wide impact of national shocks is less severe when cross-border debt is low. A bank default in any one country would no longer trigger a crisis elsewhere, because any losses would stop at the border.