FRANKFURT (MNI) – The departure of any member state from the
European monetary union would entail much greater costs than would the
alternative of fiscal consolidation, European Executive Board member
Lorenzo Bini Smaghi said Friday.

Europe has thus obviously decided in favor of the latter option, he
told a conference in Venice, according to a speech text provided in
advance by the ECB.

Bini Smaghi warned against trying to restore pre-crisis levels of
economic activity, as that would be tantamount to striving for an
unsustainable situation and could cause the reemergence of a bubble.

Of the two approaches to the crisis, the first would be to
“question the euro, and give back to the member countries the
opportunity to resort to devaluations or revaluations of their
currencies,” he said.

The alternative would be a return to fiscal discipline, an effort
“possibly” accompanied by “financial support in the adjustment period,”
he said. “Europe has clearly and unambiguously chosen the second path.”

In view of the level of financial and economic integration attained
in the Eurozone, “the hypotheses voiced by some about a country
abandoning the euro or about reconstituting the euro area in a reduced
form would have highly detrimental effects on everyone, be they net
creditors or debtors,” Bini Smaghi argued.

The impact of such a development, he asserted, would be “far more
expensive” than “to implement a strict plan of fiscal consolidation in
all countries, starting with Greece, accompanied by structural reforms
aimed at sustaining growth, and a plan to strengthen the economic
governance of euro area.”

“This is the way chosen by the countries of the euro area and
implemented in the form of successive decisions both at national and
European level,” he said.

Although in the U.S. the prevailing attitude seems to be that
policy should return the economy to the level of activity seen prior to
the crisis, “in Europe attitudes are more cautious,” according to Bini
Smaghi.

This caution reflects the fact that “the pre-crisis situation was
probably unsustainable everywhere, partly due to the overindebtedness of
the private sector”, he explained.

Attempts to return to pre-existing activity levels might lead to
financial conditions that could “reinflate the bubble or turn it into a
public debt bubble,” he warned.

Under those circumstances, strong fiscal expansion could prove
“excessive,” resulting in unsustainable medium-term debt developments
and endanger the soundness of public finances, he said.

Bini Smaghi attributed the relative robustness of domestic demand
in the U.S. compared to Europe to dynamic private consumption, “which
for now remains subdued” in more export-dependent Europe.

However, the risks to the recovery are largely the same in Europe
and the U.S., he affirmed. One of these risks is financial market
turbulence, he said, now centered on sovereign debt.

In addition, he said, there is uncertainty about whether growth is
self-sustained or dependent on the various measures used to counter the
crisis.

Still-high unemployment is another risk, “although it seems to have
peaked,” he said.

A further threat identified by Bini Smaghi is “the situation on the
capital markets, particularly the soundness of banking systems in the
aftermath of the economic and financial crisis, and their ability to
provide adequate credit to the economy.”

–Frankfurt bureau tel.: +49-69-720142. Email: dbarwick@marketnews.com

[TOPICS: MT$$$$,M$$EC$,M$X$$$,MGX$$$]