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[...] even in today’s fraught political climate, European leaders can make progress if they set aside grand, unrealistic proposals for a European finance minister or more intrusive inquiries into countries’ economic policies. Instead, they must concentrate on reinforcing the common currency’s inherent strengths, not least by formulating a credible plan to clean up the bad loans on Italian and Portuguese banks’ balance sheets. Ideally, such a plan would include European resources as well as local reforms, and it would address insolvency-regime inefficiencies, so that banks are not burdened with non-performing loans while they wait for a court’s approval to convert collateral.
To improve confidence in the overall system, policymakers also need to set limits on banks’ sovereign-debt exposure, which will end the doom loop and allow for more contributions to flow into the EU’s Single Resolution Fund. And, for good measure, the ECB should consider intervening to restructure a couple of medium-size banks, just to show that it can.
Finally, policymakers should encourage further capital-market integration, which would reinforce the euro, improve cross-border risk taking, diversify funding sources, and expand access to finance. This will become all the more important after the United Kingdom has left the single market.
Today’s political climate limits the possibilities for structural reforms, fiscal pooling, and improved labor mobility. But if European leaders can strengthen the banking union, there is still hope for the eurozone’s future.
The eurozone has gone through a period of financial education. Political leaders were forced by global markets to take unpalatable steps to reinforce the monetary union, only to realize that one feature of the problem – bank and market interdependence – also pointed to a solution, and will likely drive more reforms.
Taking steps to integrate the banking union and European capital markets further may not be sufficient to ensure the euro’s long-term survival; but doing so is necessary. And in these politically tumultuous times, it is the only realistic option.
Full article on Project Syndicate