Secretary Kerry and the Eurozone

President Obama’s actual nomination of Sen. John Kerry (D-MA) to be the next Secretary of State seems certain to succeed where mere discussion of other nominees – U.N. Ambassador Susan Rice for State and former Sen. Chuck Hagel (R-NE) for Defense – quickly met with serious criticism. In its endorsement of his nomination, The Washington Post noted the value of Sen. Kerry’s standing as a “discreet and able” representative  – and guide, at times – of the Obama Administration’s foreign policy. His standing among his Senate colleagues also makes a smooth confirmation likely and the nomination politically practical.

Predictably, Europe is absent from the Post endorsement’s description of Sen. Kerry’s world view and likely to-do list as secretary. Imminent diplomatic priorities will center on the conflict in Syria and maintaining some stability in Libya, Iraq, Afghanistan and Pakistan. Foreign Relations Committee Ranking Member Richard Lugar (D-IN) has long spearheaded U.S. efforts on nuclear nonproliferation, and his departure may emphasize the need – if further emphasis is needed given Iran’s nuclear ambitions – to re-focus U.S. efforts on nonproliferation diplomacy.

Europe policy in the U.S. now revolves around economic policy. U.S. actions on the Eurozone crisis, involving decisions at the international level regarding banking reform, financial regulation, and sovereign debt, are largely centered at Treasury. The Foreign Relations Europe Subcommittee addressed the state of the Eurozone most recently in a hearing on August 1. Europe’s finance ministers have made progress since then on initial steps toward Eurozone banking reform. Still, the August 1 testimony gauges the range of views from thought leaders on Europe’s future, from the relatively optimistic (Frances G. Burwell of the Atlantic Council) to the relatively pessimistic (Simon Johnson of MIT and Baseline Scenario).

Johnson sees the debt levels in many Eurozone countries and the concomitant increases in their borrowing costs straining the Eurozone to the point where he worries that the dissolution he has seen coming gradually will come suddenly. Pointing to the dangers posed by low-probability, high-risk events (followers of climate change debates will recognize the terminology), Johnson fears a disorderly breakdown of the Eurozone driven by an unsustainable combination in many member states of several factors: large sovereign debt overhangs, high short-term borrowing costs, the inability of Eurozone countries to devalue their currencies, and the prospect of slow near-term growth. Johnson paints a worryingly plausible scenario where Eurozone countries teetering on the brink of default pass the tipping point in quick succession when markets stop lending. The pace of the multi-country collapse will outstrip attempts at a rational response to it. Because Europe’s sovereign debts are held across countries, defaults would create an expanding circle of financial chaos. The problem is one of economic fundamentals, it is systemic, and large-scale default is nearly unavoidable. “There is simply too much debt,” Johnson says, “and adjustment programs are too slow to prevent it.”

Burwell, by contrast, believes that “this crisis is as much about politics as it is about economics.” As a long-time observer of Europe, she cites the value of crises in driving EU decision-making, and those following the current Congressional debate over fiscal realities in the U.S. will have a hard time arguing that it can take a crisis to force action. Burwell cautions against “making the European financial situation seem more dire than it actually is.” As of her August testimony, she saw Greece as the only Eurozone nation at any serious risk of leaving the Euro, and she did not foresee the kind of disorderly unraveling of the Eurozone that Johnson fears. The EU nations comprise the world’s largest economy. When markets look at the Eurozone, they do not worry primarily about its lack of future economic capacity, they worry about the sustainability of the single currency and Europe’s social safety net given the difference in growth prospects, debt levels and aging populations across its member nations. She does not deny that Europe needs to make hard choices regarding its fiscal policies, and is likely to continue to pay for the current crisis with a period of growth that is slower than average. On the whole, it is an outlook not too far removed from the common policy prescription facing the U.S. In August 2011, Standard and Poor’s downgraded U.S. debt for the first time during debates over raising the debt ceiling. The rating agency’s statement cited high deficit and debt levels, but identified the potential failure of political will to address the challenge posed by U.S. economic fundamentals as a threat nearly as great as the fundamentals themselves.

Burwell closes her testimony on this theme, casting the significance of the current crisis in terms of U.S. and European global economic competitiveness, topics that former U.K. Prime Minister Tony Blair addressed in a speech at Chatham House last month:

“The eurozone crisis will change the transatlantic relationship, and in ways that we do not yet know or understand. But we should not let the crisis define the relationship. With wealth and power shifting away from the North Atlantic, this crisis can either divide the US and Europe, leaving us both with reduced influence in the world, or it can be an opportunity for reforming and strengthening our economies so that they remain globally competitive.”