Gaps in the institutional structure of the euro area

The euro was created at a time when the conventional view was that a central bank could control inflation by controlling the money supply and that fiscal policy’s interaction with monetary policy took the form of attempts to get the central bank to finance government debt. With a sufficiently firm and independent central bank, this view considered that financial markets would force discipline on fiscal policy. By creating a strong, independent central bank at the european level, facing multiple country-level fiscal authorities, the threat of political pressures for inflationary finance would be lower than with individual country central banks. We are learning that this formerly conventional view was largely mistaken. In particular, the euro as originally structured seemed to require the elimination of national-level lender of last resort functions for central banks, without creating as strong a replacement at the european level. Having discovered these gaps through experience, what options are there going forward for the euro area? A solution would be to fill in the institutional gaps in the original euro framework. At a minimum, this would require a new institution with at least some taxing power, able to issue debt and to buy, or not buy, the debt of euro area governments. Such an institution would of course have to be subject to democratic control.