When I wrote The Tragedy of the Euro I would never had imagined that I would some day write a preface for a Brazilian edition. I knew that the Euro was destined to fail but I underestimated the success the book was to have. Today the book is available in American English, British English, Slovak, Polish, Italian, German, Spanish, Finnish, European Portuguese, Bulgarian, Romanian, Finnish, Dutch and Greek. While I write these lines the book is translated into French and Russian.

When you read the book, you may understand its success. People want to understand what is going on and how a crisis beyond repair with worldwide consequences could occur in the Eurozone. They fear for their savings. This crisis, in fact, is today worse than it was when the first edition of the book was published in December 2010. The fundamental problem of the Eurozone has not been solved at all. If something has happened the problem has become worse as more and more public debts have been piled up.

Still, there has been no decision how to deal with the underlining problem of the Eurozone. Who will pay for the malinvestments occurred in the past and today represented by piles of public debts?

In Greece these days the struggle continues about who will ultimately foot the bill for these investments. During the early 2000s an expansionary monetary policy lowered interest rates artificially. Entrepreneurs financed investment projects that only looked profitable due to the low interest rates but were not sustained by real savings. Housing bubbles and consumption booms developed in the periphery.

In 2007 the bubbles began to burst. Housing prices started to stagnate and even to fall. Homeowners and builders started to default on their loans. As banks had financed and invested into these malinvestments, they suffered losses. After the collapse of the investment bank Lehman Brothers interbank lending collapsed and governments intervened. They bailed out banks and, thereby, assumed the losses of the banking system resulting from the malinvestments.

As malinvestments were socialized, public debts soared in the eurozone. Furthermore, tax revenues collapsed due to the crisis. At the same time, governments started to subsidize industrial sectors and unemployment.

Moreover, even before the crisis, governments had accumulated malinvestments due to their excessive welfare spending. Two causes had incentivized social spending and debt accumulation in the periphery. The first cause is low interest rates. These low interest rates were caused by an expansionary monetary policy by the European Central Bank (ECB) and the single currency in itself. The euro came with an implicit bailout guarantee. Market participants expected stronger governments to bail out weaker ones in order to save the political project of the euro if worse came to worst. The interest rates that the Italian, Spanish, Portuguese, and Greek governments had to pay came down drastically when these countries were admitted into the euro. The low interest rates gave these countries leeway for deficit spending.

The second cause is that the euro is a tragedy of the commons.

In the eurozone, several independent governments can use one central banking system to finance their deficits. The costs of these deficits can be partially externalized in the form of higher prices on foreigners.

Today government debts in several eurozone countries are so high that they will never be paid back in real terms. Governments are unable or unwilling to do so. If they increase tax rates, their economy will collapse and deficits may actually increase. If they reduce expenditures, there may be social unrest. In either case, they would lose influence and votes. Because these debts will not be paid back, they represent malinvestments.

Malinvestments mean that scarce resources of society have already been squandered; real wealth has been lost by welfare spending and bailing out bubble industries. But it is still not clear who will pay the main burden of the losses caused by unsustainable welfare states and the bailout of industries.

Up to the beginning of the sovereign-debt crisis, the bill was being paid through the internal monetary redistribution entailed in the setup of the euro system. Main net contributors were citizens in fiscally sounder countries such as Germany that were implicitly guaranteeing for the spending sprees in the periphery. The bailouts of Greece, Ireland, and Portugal have made these wealth transfers more visible. The incentives of rescuing irresponsible government are now obvious to everyone. Germans do not want to pay the peripheral bills anymore. Tensions are rising day by day as German flags and Merkel dolls with Hitler-beards are burnt on the streets of Athens.

The question of who will be paying the bill for the malinvestments has arisen anew with the official start of sovereign-debt crisis in 2010. A final answer to this question has not been given. The answer decides the future of the euro, the future of the European Union, the future of peaceful relations in Europe and maybe even the monetary future of the world. It is no exaggeration that the future of the euro will change the face of the world. There exist several possibilities for this future in theory, which will be fully analyzed in the last section of the book, where a new chapter is added covering the development up to date.

Hopefully, this expanded Brazilian edition contributes toward a broader understanding of the issues at stake and a radical turn in the dynamics. Despite of being a tragedy, I wish you an enjoyable read and us all a happy ending.

Philipp Bagus

Majadahonda March 6th, 2012