The Guardian

London, June 5:

When the people of Europe said ‘non’ and ‘nee’ to their new constitution last week, the euro bore the brunt of investors’ anxiety — and some are now beginning to wonder whether it is time to think the unthinkable: could governments stung by the public’s rejection of the European project press the self-destruct button, and blow the single currency apart?

Strains have been showing for some time. While some members of the currency zone, such as Ireland and Spain, are growing at a healthy rate, Italy and Holland are in recession, and France and Germany are struggling with 10 per cent unemployment. The stability and growth pact, the agreement which was to prevent profligate governments going on inflationary spending sprees, has collapsed. And there is little sign so far of the economic ‘convergence’ that was meant to follow monetary union.

“In the nineties the dominant theme was fiscal and political convergence on a grand scale. The reality has been that convergence hasn’t really happened,” says Ian Stewart of Merrill Lynch, “We are having simultaneously boom and bust in housing markets; collapsing exports in Italy, booming exports in Germany. The zone remains very diverse.” The premium paid by recession-hit Italy on its government debt, over the rate paid by Germany, has doubled over the past two months, as investors have begun to see cracks in the euro-area. Stewart believes the markets are simply waking up to the fact that divergences like these are inevitable in any single currency zone; but the poorest-performing states are having to grapple with anti-euro sentiment among workers feeling the full force of global competition.

Rumours that national governments are considering their options were given fresh impetus last week by a story in German magazine Stern that finance minister Hans Eichel had discussed with Bundesbank boss Axel Weber the possibility of leaving the single currency. Both men dismissed the story as ‘absurd’, but it reinforced the jittery market mood about the health of the euro-project.

In the Netherlands, a downturn that began in 2001 after the hi-tech bubble burst is being blamed on the single currency. The Dutch are nostalgic for the days when the guilder was second only to the Deutschmark in strength — and frustrated that the eurozone’s spending rules have been broken with impunity by France and Germany while Amsterdam has stuck strictly to the pact. “The public is rather hostile in the Netherlands about the euro,” says Prof Arij Lans Bovenberg of Tilberg University, “We have been through a boom-bust cycle; we’re currently in the bust.” He believes the euro itself is not to blame, and points the finger at government policies for fuelling the boom. But because the slide into recession followed euro-entry, voters have often blamed monetary union.

Not everyone is unhappy: Spain, which has grown strongly in recent years, was first to vote ‘si’ to the constitution. Many Spaniards saw euro-membership as the final step in rejoining Europe, after many years of isolation under Franco. It also helps that joining has helped tackle inflation, and cut borrowing costs dramatically. “When we entered the euro, our mortgage rates went down from 12 per cent to two or three per cent,’ says Prof Juan Jose Dolado, a Madrid-based economist with the Centre for European Policy Research.

Meanwhile the Frankfurt-based European Central Bank, keen to establish a reputation for cracking down on inflation, is unwilling to cut rates to below their current two per cent to kick-start recovery. There has long been a stand-off between the ECB and Europe’s capitals, with Frankfurt calling for member-countries to tighten their budgets and reform labour markets, and governments demanding an interest rate cut.