Daniel Gros, Director of Center for European Policy Studies: The Threat That Will Save Europe

BRUSSELS – For the European Union, 2015 was another year of fundamental challenges. Two key elements of European integration – the euro and border-free travel within the Schengen Area – were placed under severe strain. And neither is in the clear. Nonetheless, one development in 2015 offers reason to hope that EU leaders will move beyond “muddling through” to implement bolder solutions in 2016: The threat of expulsion gained credibility.

The global economic crisis that began in 2008 exposed the deep flaws in Europe’s monetary union, though it took the near-death experience of the euro crisis of 2010-2012 to force Europe’s leaders to act, by creating a large fund to help struggling countries and establishing a banking union. Even so, more than three years later, that union – which entails supervision by the European Central Bank and the beginnings of a fund for restructuring failing banks, but lacks a common system for deposit insurance – is far from perfect.

Despite its flaws, the banking union helped to keep financial markets calm in the first half of 2015, even as Greece’s new government, led by Prime Minister Alexis Tsipras, challenged a basic feature of Europe’s approach to national financial crises: that recipients of support must engage in belt-tightening. In a July referendum, Greek voters delivered the outcome for which Tsipras campaigned, soundly rejecting the conditions – including strict austerity – which Greece’s creditors had demanded in exchange for a new bailout.

A few weeks later, everything changed. Tsipras accepted a bailout program that was, in some ways, even tougher than the one that voters had rejected. An overwhelming majority of voters and members of parliament supported the move.

What triggered this about-face is obvious: After the referendum, German Finance Minister Wolfgang Schäuble suggested that Greece should be offered a “holiday” from the euro – a thinly veiled warning that exclusion from the eurozone was on the table. Clearly, the threat worked.

The potential implications of this threat are disputed. Some interpret it to mean that the eurozone has de facto become a fixed exchange-rate system, where exit might actually be preferable for a struggling country and its more competitive partners. If this is the case, the eurozone’s days are numbered.

It might be more accurate, however, to view this Greek episode as proof of the eurozone’s resilience, underpinned by its still-powerful allure. Even in the face of a GDP contraction larger than that of the United States during the Great Depression of the 1930s, Greece preferred continued membership in the eurozone to a return to the drachma, which would have freed up some additional tools for regaining competitiveness and imposed asubstantial haircut on creditors.

If the latter interpretation is correct, Europe’s monetary union, though still deeply flawed, has become more cohesive. If eurozone membership cannot be taken for granted, if countries that do not abide by the common roles can simply be kicked out, countries will try harder to hold onto it.

The problems within the Schengen Area illustrate a similar evolution. Like the eurozone, the Schengen Area is an incomplete structure, because it abolished internal borders without creating a common mechanism for policing the external border.

Until recently, this failing did not pose an acute problem, because dictatorial regimes in the Middle East and Africa controlled the migratory pressure resulting from wars and failing economies. But the recent surge in migration to Europe, driven largely by Syria’s intensifying civil war, has brought Schengen’s shortcomings to the fore. By last summer, countries along the Balkan route – first Greece, then Hungary and Slovenia – buckled under the pressure of hundreds of thousands of refugees attempting to make their way to safety.

Europe’s initial response was incoherent, with different EU member states taking radically different approaches to the influx. Still, checks are being reinstituted at an increasing number of internal borders – most recently, on Denmark’s border with Germany. To many, Schengen appears to be in tatters.

But the reinstatement of some border controls is merely a temporary measure. Like the capital controls in Greece (and, until recently, in Cyprus), the purpose is to stem the crisis while better mechanisms are implemented. Moreover, internal border controls remain the exception, not the rule.

The Schengen countries know that reviving full controls across all internal borders would be extremely costly, forcing them to divert significant resources away from the primary objective of fighting crime and terrorism. That is why their leaders remain committed to preserving open internal borders, while maintaining a stronger external border – even if that means, as has been made clear to Greece, revoking the Schengen membership of a country deemed incapable of doing its part.

Both the eurozone and the Schengen Area have survived the tough tests they have faced for one reason: They bring practical, tangible benefits to their members. Economists call this “revealed preference.” The value added from European integration now extends beyond EU membership to include participation in sub-groups like the eurozone or the Schengen Area that have a more direct and tangible impact on daily life and key policy choices.

In the real world, declarations of lofty principles mean a lot less than concrete actions. And the concrete actions of the last year – notably, the warning that countries that do not follow the rules will be left out – suggest that 2016 will bring more progress, however piecemeal, toward a stronger eurozone and a real political union.

Copyright: Project Syndicate 2016 – The Threat That Will Save Europe