The Euro’s Hard Rain Falls

SWEDEN – The blame game is in fashion as crisis and desperation spread across Europe. News reporting, as well as political and economic debate, now focuses on identifying the culprits, with bankers and politicians emerging as the prime suspects.

Bankers are blamed because their irresponsible lending and speculation brought about the fall of economies like Ireland and Latvia, as well as deep trouble in countries like Spain and Portugal. Politicians are blamed because they did not tighten fiscal policies when needed in order to prevent property bubbles, rein in external deficits, and avert economic overheating. Now, after the bubbles have burst, and the property market’s inevitable collapse has been followed by that of banks, public finances, and labor markets, the villains must be punished.

But this popular exercise is beside the point. It is obvious that politicians and bankers made grave errors that contributed to the current crisis. But, regardless of how bad Europe’s political and financial leaders may seem, a sudden rise in the number of incompetent or immoral individuals throughout the eurozone’s periphery is not a credible explanation of this crisis. The people running Ireland and Latvia were praised as role models just a short time before they became scapegoats.

Instead, the blame should be shared by those who knew, or should have known, about the risks of giving up the ability to set interest rates in individual countries. We know that extremely low real interest rates produce massive expansion of credit. In countries with higher price growth than in Germany, but with the same borrowing costs, this cannot produce anything but overheating, higher inflation, and even lower real interest rates.