Target 2 imbalances within the Eurosystem have continued to grow during 2020. Currently Germany is owed Eur 1TN by the other countries, principally Italy and Spain. If Germany at some point insists on redressing these balances, is the collapse of the Euro inevitable?
Although possible it is not necessary for several reasons.
- Optimal currency area (OCA) can in principle exist even without fiscal transfers/excessive borrowing if there is perfect factor mobility within the OCA that can absorb the asymmetric shocks that countries in the monetary union face (see De Grauwe Economics of Monetary Union).
In the European Monetary Union (EMU), at a present, the factor mobility is not perfect because while there are no direct legal restrictions on movement of capital and labor it is not easy for people to move due to language barrier and poor integration of social security at EU level. However, as time progresses we see English becoming world-wide lingua franca. For example, in the Netherlands (where I live) a reasonable EU citizen can live and work never learning to speak Dutch in virtually any industry that does not require direct contact with consumers. All government forms and interactions are in both Dutch and English, and the same holds for doctors, and virtually all retail/service businesses. This significantly lowers barriers to labor mobility. In addition all the social security systems are getting more and more integrated within EU. For example, when it comes to healthcare the system in EU is already integrated in a way that switching is not a hassle but same does not hold for pensions.
Since we are talking about some unspecified future it is possible that at that time the labor mobility will be sufficiently perfect that any shocks can be absorbed via labor mobility and mobility of other factors as well. Indeed, if in past there would be no implicit restrictions on people moving from one EMU country to another, instead of fiscal transfers you would see large flow of people that would eventually correct the imbalances.
- Germany presently sends fiscal transfers to the Southern Europe because it was fortunate enough to experience positive productivity shocks while southern Europe experienced negative ones. I am not trying to minimize the role of good governance and policy in German robust productivity and also economic growth in recent decades, but no matter what policy this is to a significant extent also driven by random technological (where I am using the word in broad economics sense) or other macroeconomic shocks. Even the best govern country can't do much about that. In addition, random demand shocks or even monetary policy (e.g. low interest rates for too long) is also one of the issues that can contribute to macroeconomic imbalances that necessitate fiscal transfers (Pierluigi, Sondermann 2018; Blanchard and Giavazzi 2002; Lane and Pels 2012; Chen et al 2012).
Since we are discussing the future it is entirely possible that in 10 or 20 years Germany will be the country experiencing negative productivity/demand etc shocks while southern countries will be experiencing positive ones, as often macroeconomic shocks can be asymmetric. If the Germany starts insisting that South redressing its debt/fiscal transfers imbalances to Northern countries at that point in time - when it is from macroeconomic perspective optimal for South to actually do so, it won't cause any problem for the Euro, if anything it would be the optimal response.
- Euro, is not just economic but also political project. In principle, even if Germany does not want to send fiscal transfers or lend to southern countries, if ECB conducts monetary policy in a way that addresses only macroeconomic shocks in countries experiencing negative shocks (which in case of asymmetric shocks would be at an expense of countries not experiencing negative shocks), or if EU leaders decide they are fine with living with financially instable EMU it is still possible to keep the euro.