It’s important to remember that the financial crisis isn’t just a U.S. story--or even primarily one. True, the United States is the world’s largest economy, but so far the downturn’s effects have been largely contained within the economic sphere. Not so in Europe, where observers are increasingly worried that financial exigencies could crack the Eurozone, forcing at least a few members of the common currency pact to leave. The guys at Baseline Scenario have been sounding the alarm for months, pointing to widening bond spreads between Greece and Germany as an indicator of diverging macroeconomic realities. Martin Feldstein likewise points to calls by some European leaders, most notably Sarkozy, for large-scale deficit spending to stimulate the economy, a move that could violate the Eurozone’s fiscal deficit caps.
But that’s economics; the politics of the euro is another thing. It’s quite an achievement that only 10 years after the Euro’s introduction, one can hardly imagine Europe without it. While it is still controversial in some parts of the continent, it is an ingrained part of daily economic and cultural life in most of its major economies. And, of course, political establishments from Rome to Dublin have staked their very existence on the idea of a common currency. There is a security aspect as well--the euro gives countries on the eastern periphery something to aim for, encouraging them to undertake stable, liberal, capitalist government reforms. No matter how bad things get, euro governments may feel it necessary to keep a stiff upper lip in order to expand their sphere of influence eastward.
The risk, then, is not whether the Eurozone will need to break apart, but that it will need to and won’t. It's a good bet that Brussels would rather make exceptions for France’s deficit spending than try to rein it in, though it probably wouldn’t be as accommodating for, say, Greece. And already its deficit limits are being used by Angela Merkel of Germany as an excuse to avoid stimulus spending, which most German economists think is vital to pull that country out of recession. In short, the euro, rather than being an economic tool toward political progress, could become a political shackles preventing economic recovery.