Part of the problem facing the Eurozoners as they struggle to convince global markets that all is under control so DON’T PANIC is identifying what exactly is the issue which needs solving. After all, they might make a bad situation worse by misdiagnosing what needs to be done.

Views on this differ. In the interests of fair play, here is a studious article (pdf) by C Fred Bergsten and Jacob Funk Kirkegaard which argues that the Eurozone is heading for the right outcome (ie ‘comprehensive economic and monetary union’) by the crafty ploy of (in effect) eliminating all the wrong ones:

It is imperative to understand that it is not the primary purpose of the ECB, as a political actor, to end market anxieties and thus the euro area crisis as soon as possible. It is instead focused on achieving its priority goals of getting government leaders to fundamentally reform the euro area institutions and structurally overhaul many euro area economies.

Frankfurt cannot directly compel democratically elected European leaders to comply with its wishes but it can refuse to implement a “crisis bazooka” and thereby permit the euro area crisis to continue to put pressure on them to act. A famous American politician has said that “no crisis should be wasted” and the ECB is implementing such a strategy resolutely.

The authors point out that because there is no willingness to allow centralised EU-wide taxation, other arrangements are needed and are edging towards being created, albeit by different EU leaders playing dangerous games of bluff to help get the best deal for their corner:

The reality in the euro area is that, for the foreseeable future and unlike in the United States, the overwhelming majority of government taxation and spending will continue to reside at the member state level for reasons of political legitimacy. Only a minor part will be pooled at the supra-national level. Restricting this spending via a new fiscal compact is consequently the only pragmatic route for now, leaving other aspects of euro area fiscal integration to the future…

The Eurozoners are having to look to the IMF for huge support. But that’s OK:

Euro area governments will have successfully shifted part of the costs of any future financial rescues onto the rest of the world. The rest of the world will of course extract a suitable price from the euro area for this service in the form of European political concessions in other policy areas. This could, for instance, be a good time to demand that the euro area consolidate its representation on the IMF board to a single seat and accelerate the transfer of its quota shares to the financially contributing emerging markets…

Basically, their argument goes, they’ll have to do what it takes to keep the Eurozone afloat as all the alternatives are far worse. And the record so far shows that despite all the uncertainty and some poor decisions along the way, the trend is in that direction. 

Read the piece as a whole. If you are a non-expert, it makes an impressive case.

So far so optimistic.

Then there’s John Mauldin of Thoughts from the Frontline, whose wonderful economics newsletters are free. Here are some of his latest observations:

For most of the past two years, European leaders have tried to deal with the problems as though they were short-term liquidity problems: "If we just find the money to buy some more Greek bonds, then Greece can figure out how to solve its problems and then pay us back. Given enough time, the problem can get solved."

They have now arrived at the understanding that it this not a short-term problem. Rather, it’s a solvency problem of the various governments, which of course creates a solvency problem for their banks. They are now addressing the problem of solvency and providing capital until such time as certain countries can get their budgets under control and the bond market sees fit to provide the capital they need.

But they are completely ignoring the third and largest problem, and that is massive trade imbalances. Germany exports products to the peripheral European countries, which run trade deficits. As I have shown in several letters, a country cannot reduce private-sector leverage, reduce public-sector leverage and deficits (balance its budget), and run a trade deficit all at the same time. That is simple, unavoidable math, based on 400 years of accounting understanding. Ultimately, there must be a trade surplus if leverage and debt are to be reduced…

Greece cannot print its own money, so unless it leaves the Eurozone, it’s stuck. They can default on their debt, but that means they are shut out of the bond market for some period of time. That would force them to make the spending cuts they are now resisting, as they would simply not have enough money to pay their bills.

Even with a 100% haircut they’re looking at a shorter but very real depression. And because no one will sell them products they need, like energy and food and medicine, unless they can sell or trade something in return (that trade-deficit problem), they will be forced to change their lifestyles. Wages must drop or productivity rise to be competitive with northern Europe. And that differential is about 30%. I am not certain, as I have not been to Greece in a long time, but my bet is, you won’t find many Greeks who think they are overpaid by 30%.

But that is what the market is going to say. And that is the third problem, which Europe is not addressing. Germany and the northern tier are simply more productive than the Southern periphery. (With the possible exception of Northern Italy, but Italy all gets lumped together, which is why many Northern Italians want to be their own country and not have to pay taxes that go to Southern Italy. I am not taking sides, just observing what we read in the papers.) Until Germany consumes more from the peripheral countries or the peripheral countries become more productive, the imbalance will not allow a positive solution…

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So there it is. Two contrasting styles of beautiful writing, and two very different and clever/informed views on what is happening.

The two views of course may be compatible. A stronger and even coherent Eurozone may emerge from this fiasco – if some countries whose debts are simply unmanageable are paid off to leave it?