The future of Europe has become a very complicated and technical subject, although it really ought to be very simple. We need a strong and viable European Union. Without it, the world would be back where it was at the end of the First World War. Indeed, the map of Europe today looks largely as it did in 1919, but with one big difference -- 15 countries of Western Europe are linked in the European Union.

Its creators brought a union into existence to prevent a recurrence of war, particularly one between Germany and France. For 45 years it has been successful in this mission. But the collapse of the Soviet empire and the reunification of Germany upset the delicate balance. Chancellor Helmut Kohl wanted to ground a united Germany firmly in Europe, and the French insisted on creating a stronger union to contain a larger Germany. Margaret Thatcher objected and her successor as British prime minister, John Major, exacted heavy concessions, but there was a sense of urgency, a self-imposed deadline, as leaders of the member states reached a new agreement for Europe. The Treaty on European Union was initialed in the Dutch city of Maastricht in December 1991 and signed two months later.

Maastricht established three pillars for what was now to be styled the European Union: a common currency, a common foreign and security policy, and a common justice and internal policy. Along with this, member states acknowledged that to fulfill its mission the EU must open itself to eastward expansion and admit in a timely fashion countries that qualified. That should have been the end of the story and we should be living happily ever after, with a new institution for a new world. But there is something profoundly wrong in Europe.

The Maastricht Treaty is a flawed document and the European Union we have is not the one we need. The people of Europe barely accepted the treaty in national referendums, and in the five years since it was concluded, dissatisfaction with the Union has turned to alienation. Brussels has become a bureaucrat's dream; its legalistic, ever more complicated structure is foreign to the spirit of an open society. High unemployment, a pressing problem across the continent, is widely blamed on the economic convergence criteria Maastricht set for the introduction of the common currency. There is no common foreign policy. Europe's role in Bosnia has become a never-ending source of bickering, failure, and humiliation and a violation of all the principles for which Europe stands. Where has the Union gone wrong? First I shall examine the common currency, then Maastricht's other two pillars and the enlargement process, all of which stand on shaky ground.

E PLURIBUS EURO

Europe needs a common currency. A common market cannot survive in the long run without one because currency markets are notoriously unstable and currency speculation, especially the trend-following variety, can have a destabilizing effect on the economies involved. There are those, particularly in the City of London, who would argue that currency disturbances are short-lived by nature and currency overshoots correct themselves, so that equilibrium is reestablished. But exchange rates do not tend toward equilibrium because they themselves are one of the factors the equilibrium is supposed to reflect. I don't quite know what the equilibrium is, but I do know that it would be different depending on the value of the currencies concerned. Currency fluctuations can disrupt trade relations, as the tensions created by the abrupt fall in value of the Italian lira in 1994-95 demonstrated. In sum, a single market will prove unsustainable without a single currency.

The method chosen to establish the common currency, however, is fundamentally flawed. The Maastricht Treaty lays out the exact criteria that all countries must meet before they can adopt the Euro, and the precise timetable for meeting them. It makes some allowances for the vagaries of reality, but demonstrates a basic lack of understanding of the way economies function and the role economic policy should play. Concerned with specifying the conditions that would ensure the stability of the common currency, Maastricht assumes that these can be attained through a continuous process of convergence among the economies of EU countries. Underlying it all is an erroneous equilibrium theory of economics.

John Maynard Keynes showed that full employment is not the natural outcome of a market equilibrium. To bring about full employment, an economy needs government policies specifically designed for the purpose. Some of these may not be sustainable in the long run. Keynes' favorite prescription, fiscal stimulation through increased government spending, no longer works, since financial markets have developed an allergic reaction to such increases. If he were alive today Keynes would prescribe a different remedy, but he would understand that the invisible hand will not get us to a happy equilibrium.

Consider the specific problem Europe faces. It has once again entered a period of high unemployment, similar to the 1930s. There is general agreement that employment is too heavily taxed and labor markets are too rigid in Western Europe. With employers' social security contributions and personal taxation each at around 50 percent of gross wages, the combined tax burden on net wages of 50 is 100. Severance payments are onerous as well. No wonder employers are reluctant to offer permanent employment and a significant portion of the labor force is out of work.

The stimulation of aggregate demand ... la Keynes is no longer practical, but devising other measures would not be too difficult. Almost everyone agrees that labor markets need to be liberalized, the social security system needs to be reformed, and taxation on employment needs to be reduced. It would be best to reduce government expenditures and taxes on employment at the same time. That would stimulate the economy and open the way to a more thoroughgoing reform of the social security system, including an increase in the retirement age as a second step. French President Jacques Chirac should have insisted on such a policy after his election in May 1995, and Kohl ought to adopt one now, as he is trying to put together an economic reform package. But neither is following this path because the Maastricht criteria constrain them: any tax cuts would increase the budget deficit in 1997, the benchmark year under the treaty. It is therefore very unlikely that Europe will see any effective policies to reduce unemployment before the common currency's introduction.

In all likelihood the Euro will be introduced in 1999 as specified in the timetable, for the simple reason that Kohl is determined to introduce it and has the political ability to make it happen. His mandate in the March 24 elections in Baden-Wurttemberg state is likely to carry him through 1999, but he cannot afford any delay. Even the Bundesbank has no stomach for resistance, largely because it now realizes that its present policies have led Germany into a deep recession from which there is no easy way out. But this creates a dangerous situation. People will direct all their anger and resentment over unemployment at the single currency. There may well be a political revolt -- particularly in France, notorious for such rebellions -- and it would likely take a nationalistic, anti-European direction.

The danger could be averted, but that would require the German and French governments to flout the Maastricht criteria; to be effective, they should do so in tandem. There is nothing in the Maastricht Treaty to prevent a modification of criteria for admission to the new currency regime. And recall that the criteria apply only at the time of admission; afterward, the treaty calls for the coordination of fiscal policies, with penalties for those who violate the rules, but the rules are left to be worked out. Why not start with a coordinated stimulus program right now? The beneficial effects, if such a policy is introduced now, are sure to be felt by 1998, so that the Euro would make its appearance against the background of an improving economy.

If leaders wait to try to reduce unemployment until after the currency's introduction, it may be too late, especially if it turns out that the governments are unable to coordinate their fiscal policies. The EU may fall victim to economic orthodoxy, beloved of central bankers, who will wield great influence in the new arrangements. Here too there are disturbing echoes of the interwar period, when, in Keynes' words, the economy of Great Britain was sacrificed on the altar of the gold standard.

The economy is too important to leave to central bankers. With exchange rates permanently fixed and monetary policy under the European central bank's control, national governments will have few policy instruments at their disposal. If they follow diverging fiscal policies, the monetary union could be endangered by individual governments' pursuit of irresponsible courses. That is why Maastricht set limits on government deficits and the accumulation of government debt. But if those limits are fixed in advance and forever, governments have no room for maneuver.

Economies need to be managed, and economies tied together by a common currency also need a common fiscal policy. The Maastricht Treaty sidestepped that issue by fixing only the entry requirements. But if the governments involved cannot take concerted steps now to combat unemployment, it is doubtful they will be able to do so later. In that case, it may be better not to have a common currency at all because mounting popular discontent would likely sweep away present policies, including the single currency.

POLITICS AMONG NATIONS

The second and third pillars of Maastricht -- a common foreign and security policy and a common justice and internal policy -- have barely begun to function because they have been left to an intergovernmental process and governments always put their own interests ahead of any common interest. Where member countries have delegated their sovereignty by treaty, namely in the Common Market, the arrangements have been effective. But on the second and third pillars of Maastricht there has been little delegation of sovereignty, and cooperation between the member governments does not work. As for EU enlargement, the Inter-Governmental Conference, which Maastricht set up to handle the issue, instructing it to begin a preparatory review this year, has made little progress. And even with the new Europe's first pillar -- economics -- leaving common fiscal policy to the intergovernmental process may endanger the arrangements for a common currency.

As currently constituted, the European Union's structure is part of the problem. The EU consists of a central bureaucracy, the European Commission, which is responsible to 15 national bureaucracies and so multiplies the sins of national bureaucracies by a factor of 15. There is a Council of Ministers, where foreign ministers or their deputies represent the national interests of the constituent states. And there is a directly elected European Parliament, which has practically no powers. The net result is an almost complete absence of a common policy and a rising inability to reconcile conflicting interests.

Consider enlargement. The countries of Central and East Europe desperately need to get closer to the European Union. Although communism is well and truly dead, the patterns of thought and behavior learned in a closed society linger, and the institutions and attitudes of an open society are not yet firmly established. Without the prospect of joining the open society of Europe, the countries of the region could fall back on the kinds of arrangements they are familiar with. Since communism is no longer acceptable, they are liable to turn to some form of nationalism. For people to mobilize behind a nationalist cause, the nation must be endangered. If there is no real threat, one must be invented, but there are plenty of genuine grievances to exploit in Central and East Europe because the communist system suppressed all ethnic and nationalist aspirations. Yugoslavia is a case in point.

The way things are going, the terms of admission for formerly communist states will not be decided on before the end of the century. Since it is almost impossible for the Inter-Governmental Conference to make headway working with the present British government, it will probably have to await the outcome of British elections, likely to take place around next April; the conference would then not finish before the end of 1997. Preparations for the introduction of the single currency will consume 1998, so negotiations on the admission of new members will probably start in earnest only in 1999.

Regrettably, the enlargement of NATO is likely to proceed more rapidly. The problems of Central and East Europe require political integration and economic prosperity, not the extension of military alliances. The countries of the region need political, moral, and economic assurance that they are indeed part of the West and the world of open societies. To give them armies and military alliances instead misconstrues the threat. In fact, the expansion of NATO can easily turn into a self-fulfilling prophecy, generating the very dangers against which it is meant to defend.

Enlargement of the EU last year to 15 members has already made the intergovernmental process more unwieldy, and further enlargement will render it completely unworkable. Take only one example. The presidency rotates among the member nations every six months. After enlargement there could be several years in succession when tiny countries like Luxembourg and Malta hold the presidency; voting rights will have to be modified, because if individual countries or a small group of countries can exercise a veto, reaching any decision will be difficult. But it is also hard for a country to relinquish its sovereign rights to a collection of other countries knowing that those countries are guided by their own interests, not by any common interest.

The Inter-Governmental Conference mechanism entrusts the solution of these problems to the parties responsible for creating them -- namely, the member governments. What ought to happen in the EU is for decision-making power to be taken away from the governments. After all, sovereignty rests with the people. Any further delegation of sovereignty should come directly from them, not through the governments. And the EU, as a truly supranational authority, ought in turn to be accountable to the elected representatives of the people rather than to the constituent governments.

There is a Catch-22. People have lost their trust in European institutions because of the way those institutions work. They are less willing to delegate sovereignty, even if that might make the institutions more effective. One might hope for a major reform initiative from the European Parliament, but that body is not accustomed to taking the initiative. One might hope for greater public participation and public debate, but the issues confronting the Inter-Governmental Conference are highly technical and its deliberations are private.

The European Union has the potential to become the prototype of an open society. That is what makes it so desirable, so attractive as an ideal, particularly for the people of Central and East Europe. Open societies are based on the recognition that human understanding is imperfect and all constructs and institutions are flawed to a greater or lesser degree. But the Union has been shaped by bureaucrats, particularly French bureaucrats, and they are not known for their humility. They, better than most, recognize the deficiencies of institutions, which is why they are anxious to impose rigid conditions and a rigid timetable -- so that the institutions should move forward, however deficient they are. This method has been effective; starting with the European Coal and Steel Community, bureaucrats with vision have used it to build the European Union brick by brick. But in the effort to meet deadlines and conditions, the basic tenet of open society -- that there are bound to be flaws in the design -- has gotten lost.

THE END OF THE CIRCLE

It is possible to fix the exact date when the vicious circle of bureaucratic rigidity and public disaffection began: November 9, 1989, the day the Berlin Wall fell. Until then, the European Community bureaucracy could cope reasonably well. For instance, it set a target well in advance for the integration of financial markets in 1992, and the operation was a great success. But the events in Berlin pushed Europe from near-equilibrium into a state of dynamic disequilibrium. It was the triumph of open society over totalitarian ideology. This revolutionary change should have sparked a revolutionary response. But the governments and people of Europe failed to rise to the occasion. Germany was willing to pay for the re integration of East Germany -- indeed, it paid too much -- but the rest of Europe was not. And Europeans were certainly not prepared to make any sacrifice to help the newly independent countries of the Soviet empire make the transition to an open society. If they had been, it would have united Europe in a way the common currency never will.

Matters were left in the hands of bureaucrats, and bureaucrats are notorious for their incapacity to handle revolutionary change. European integration entered a phase resembling the boom-bust so often observed in financial markets. The boom manifested itself in the Maastricht Treaty, and the turning point came half a year later with the treaty's narrow defeat in the June 1992 Danish referendum. Europe could have rallied to the cause, but instead the Danish defeat led to the breakdown of the European Exchange Rate Mechanism that September. Europe has been disintegrating ever since.

The trend toward disintegration, however, may be ready to be reversed. The first sign was the Baden-Wurttemberg elections in March. Six months ago I would have bet that the introduction of the single currency would be delayed and perhaps deferred indefinitely. I am now willing to bet it will take place on time, even if the convergence criteria have to be modified. A more stable and strongly pro-European government has come to power in Italy, and a Labour government in Britain may soon play a more constructive role in Europe. More important, there is a widespread feeling that the disintegration of Europe has gone far enough. People have been profoundly affected by the tragedy of Bosnia. That is a sentiment on which it is possible to build.

The bureaucratic method of building an integrated Europe has exhausted its potential. The Inter-Governmental Conference should convene a Constitutional Assembly; the people of Europe should be mobilized to bring that about. A Constitutional Assembly would not be empowered to appropriate further slices of national sovereignty without first obtaining the approval of each of the member countries. The new constitution would come into effect only after, say, three-quarters of the national parliaments approved it; in those countries that rejected it, it would be submitted to a referendum. There would be no delegation of powers without authorization. But the Constitutional Assembly would be able to resolve the problems the Inter-Governmental Conference cannot resolve, and engage the people of Europe in the process. Only a bold measure, clarifying the nature and identity of the European Union, can stop the gradual disintegration of Europe and prevent a return to the conditions prevailing between the world wars.

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  • George Soros, sole proprietor of Soros Fund Management, which serves as principal investment adviser to the Quantum Group of Funds, is Chairman of the Soros Foundations, a network of foundations operating in 25 countries.
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