Models of competitiveness, European monetary integration, and the Euro crisis

Transcription

1 Models of competitiveness, European monetary integration, and the Euro crisis Christoph Elhardt Thomas Schäubli Center for Comparative and International Studies, ETH Zurich, Switzerland First Draft , prepared for the 2013 SPERI Annual Conference, The University of Sheffield Abstract This paper's aim is to spell out the role of different wage bargaining structures and their effect on economies' competitiveness throughout European monetary integration. We define two models of competitiveness within Europe. While economies with coordinated wage-bargaining institutions are able to tie wage increases in the public sector to those in the exposed sector thereby exercising wage-restraint, economies that lack such institutions depend on periodical devaluations in order to preserve their competitiveness. We show that the EMS was flexible enough to allow for the coexistence of both models in one institutional framework. EMU, however, considerably limited this flexibility, thus being incompatible with the devaluation-based model of competitiveness. The creation of EMU was hence based on the belief that the use of a common currency would induce a convergence of wage bargaining structures among European economies. Yet, the current Eurozone crisis strikingly illustrates the stickiness of these institutions. Economies that previously belonged to the devaluation based model of competitiveness still lack the institutional capacity to cope with EMU's constraints on labour markets. 1

2 Introduction The ongoing predicament of the Eurozone is commonly described as a triple crisis of unsustainable government debt, weak banks, and slow growth (Shambaugh, 2012). While the first phase of the crisis roughly lasting from November 2009 until Mario Draghi s pledge to do whatever it takes to save the Euro in July 2012 was mainly about diverging bond yields and the specter of sovereign default more recently the focus shifted towards the construction of a banking union and the lack of competitiveness in the Euro area s periphery. It is the latter debate with which we are concerned in this paper. We claim that the fundamental cleavage running through the history of European monetary integration is the one between countries that have or lack the institutional capacity to exercise wage-restraint. It is this divergence in wage-bargaining structures that lies at the heart of the Eurozone s competitiveness crisis. The argument developed here is that the ominous distinction between a Eurozone-core and a periphery is rooted in the co-existence of two models of competitiveness inside EMU. The first, epitomized by Germany s export-led growth model, is based on wage-restraint and highly compatible with the ECB s non-accommodating monetary policy. The second, which did and to some extent still does characterize Italy, Spain, Portugal and Greece s economic policies, is predicated on periodic devaluations and thus incompatible with EMU s institutional rigidity. 1 In what follows we will show that these two models shaped countries monetary policy preferences throughout the European Monetary System (EMS). Countries that were unable to tie wage increases to productivity growth preferred the flexibility of periodic devaluations, wider exchange rate bands, and the relative security of capital 1 To simplify matters, we did not include Ireland into our discussion. 2

3 controls over exchange rate stability and capital mobility. The problems these countries currently face are hence partly the result of the incompatibility of their wage-bargaining structures with the institutional rigidity of EMU. In short, our aim is to dissect the role of heterogeneous wage-setting institutions inside EMU by setting them against the different stages in the history of European monetary cooperation. In advancing these arguments, we bring together several strands of literature that rarely speak directly to one another. In the field of comparative political-economy, important work has been done on the role of wage-bargaining institutions inside EMU (Hall and Franzese, 1998; Soskice and Iversen, 1998; Calmfors, 2001; Johnston, 2012; Johnston and Hancké, 2009; Hancké, 2013). We extend this literature by linking it with the development and change of monetary policy preferences throughout the process of European monetary integration. To that end, we build on insights from EU integration theory (Moravcsik, 1998; McNamara, 1998; Dyson and Featherstone, 1999) and the theory of Optimal Currency Areas (Mundell, 1967; De Grauwe, 2009). Our contribution is thus to combine arguments from these three fields in a novel and original way. In doing so, we bring up and address several questions which go beyond each of these fields main insights. The paper is organized in three sections. Section one develops our theoretical argument by spelling out the relation between competitiveness, wage-bargaining and different monetary policy preferences inside the EMS. Based on this framework, section two explains the creation of EMU. We argue that EMU was seen as economically viable because elites believed in the convergence of wage-bargaining institutions in a common currency area. Finally, section three discusses the role of different wage-bargaining structures throughout the Eurozone-crisis. 3

4 Models of competitiveness We distinguish between economies that are able to strengthen or uphold their competitiveness by exercising wage restraint and prefer non-accommodating monetary policies, on the one hand, and such that lack the ability to reign in wage-inflation and therefore prefer accommodating monetary policies, on the other hand. After theoretically establishing these models of competitiveness, we argue that their presence can be indicated by showing how states used the institutional flexibility of the EMS until Competitiveness and wage-restraint The term competitiveness is regularly misplaced, as it is often related to either whole countries or whole economies. In its strict sense, however, it applies to countries export industries only (Krugman, 1991). These are important because they extend economies beyond their domestic markets and thus generate growth and employment. Competitiveness is key to export industries because prices of tradable goods are broadly set in international markets. In its most simple form, competitiveness is determined by the relation between wage growth and productivity growth. If wages increase below or at the level of productivity, products remain competitive. If wages grow faster than productivity, competitiveness deteriorates (De Grauwe, 2009; Carlin, 2012). If firms in the exposed sector of an economy lose in competitiveness, demand for their products falls, which leads to a loss in profits and employment. As a result of this trade-off between higher wages and higher unemployment, wage-setters in the exposed sector have an incentive to tie wage increases to productivity growth. Within sheltered sectors, however, actors are not subject to similar competitiveness constraints. The public sector, for instance, is a monopoly provider of necessary services for which there 4

5 are rarely any substitutes. Similarly though to a lesser extent, firms in the non-tradable goods and services sector do not have to cope with international competition. It follows that for wage-setters in the sheltered sector, wage increases beyond productivity growth do not lead to similar employment costs as within the exposed sector (Johnston, 2012; Garrett and Way, 1999). Assuming that labour is broadly mobile across sectors, this divergence in the sheltered and exposed sectors incentives can lead to two wage-dynamics which both threaten the competitiveness of the exposed sector. First, if wages in the sheltered sector rise above those in the exposed sector, the latter has an incentive to catch-up in order to preserve its work-force and to attract qualified employees. If these wage markups go beyond what is justified by productivity growth, the exposed sector will lose in competitiveness (Traxler and Brandl, 2012: 78). Excessive wage increases in the sheltered sector thus weaken the exposed sector s incentives towards wage-moderation. Second, capital intensity and international competition lead to faster productivity growth in the exposed than in the sheltered sector. Superior productivity in turn gives rise to higher pay (De Grauwe, 2009: 41). As a result, wage-setters in the sheltered sector have an incentive to demand inter-sectoral pay equalization despite considerable productivity differentials. Given the size of the sheltered sector within an economy s overall labour force, this creates excess demand which, in turn, leads to higher inflation. In order to compensate for higher inflation, the exposed sector s incentive to increase its wages beyond productivity increases. Thus, in order to preserve competitiveness, pay settlements in the sheltered sector must remain below settlements in the exposed sector (Traxler and Brandl, 2012: 78). Whether an economy is able to exercise this wage-restraint is dependent on the wage-bargaining structure between the exposed and the sheltered sectors (Traxler and 5

6 Brandl, 2012; Garrett and Way, 1999; Johnston, 2012). More precisely, whether the exposed sector s focus on competitiveness or the sheltered sector s interest in higher wages or pay-equalization dominates wage-setting is determined by the relative power of wage-setters in the exposed and sheltered sectors and especially by the extent to which the leadership role of the exposed sector is institutionalized in wage bargaining systems (Johnston and Hancké, 2009: 616). In what follows, we discuss the institutional foundations of wage-restraint and argue that economies with different institutional capacities to lock-in wage moderation prefer different monetary policies and hence display diverging preferences for monetary cooperation. Institutions of wage-restraint The literature on wage bargaining roughly distinguishes between three institutional settings that guarantee that wages are set according to the needs of the exposed sector. First, in pattern bargaining systems, unions in the exposed sector often the metal industry in alliance with other manufacturing industries take on a leadership role. Wage mark-ups in the sheltered sector are therefore capped by increases in the exposed sector. Germany and Austria fall under this category (Traxler and Brandl, 2012). Second, governments can impose ceilings on wage increases in the sheltered sector. We have traditionally seen such state imposed measures in France and to a lesser extent in Belgium (Johnston and Hancké, 2009: 602). Third, strong peak-level confederations are generally assumed to internalize the overall effects of wage-settlements on the economy s competitiveness. This tendency towards moderation, however, only applies to confederations in which the exposed sector is dominant and which have the capacity to impose peak-level compromises on lower bargaining units. The Netherlands, Finland, 6

7 Denmark and Sweden until the mid-1990s belong to this group (Garrett and Way, 1999; Traxler and Brandl, 2012). It follows from the above that economies that lack efficient collective bargaining institutions are unable to exercise wage moderation. Inflationary wage setting can result from roughly two bargaining structures. First, peak-level confederations that are dominated by public unions aim for higher wages or wage equalization and thereby distort the productivity-bound wage demands in the exposed sector. Second, heterogeneous and weak peak-level organizations are often unable to force lower bargaining units to comply with general settlements. As a result, local actors have an incentive to pursue their own special interests and to free-ride on the peak-level s agreement. To varying degrees, Italy, Portugal, Spain and Greece display some of these features (Traxler and Brandl, 2012; Garrett and Way, 1999). In these economies, wage growth in the sheltered sector is not or to lesser extent synchronized with the productivity needs of the exposed sector (Johnston and Hancké, 2009; Johnston, 2012). Table 1 summarizes this categorization. Wage restraint Pattern-bargaining by exposed sector: Germany, Austria State-imposed wage ceilings in the sheltered sector: France, Belgium (81-84, 94-99) Strong peak-level bargaining dominated by exposed sector: The Netherlands, Finland, Denmark and Sweden (until 93) Wage inflation Weak peak-level confederations dominated by public sector: Italy, Portugal, Spain and Greece Table 1: Wage bargaining regimes, Source: adapted from (Traxler and Brandl, 2012: 76) Wage-restraint and monetary policy preferences The above-defined capacities to restrain wages lead to divergent monetary policy preferences. Monetary politics contains a number of trade-offs, among the most important of which are the decisions for flexible versus fixed exchange rates and 7

8 international capital mobility as opposed to capital controls (Broz and Frieden, 2001). We propose that how states choose from these options is related to their ability to exercise wage-restraint. If economies lack the ability to exercise wage-restraint, they experience a constant loss of competitiveness. In order to correct these losses, countries can periodically devalue their currencies. To be able to do so, they need to be in charge of their currencies; that is, they need exchange rates to be flexible. Additionally, capital controls support authorities ability to control the pace and magnitude of devaluations and thus to limit their potential costs. By contrast, economies that are able to preserve their competitiveness through wage-restraint prefer stable over flexible exchange rates and capital liberalization over capital controls. The competitiveness of their products is not dependent on currency devaluations, and they give little value to the stabilizing effects of capital controls. Taken together, we can define two models of competitiveness. The first, based on institutional capacity to reign in excessive wage-growth, is called model of wagerestraint. Countries belonging to this model favor currency stability and international capital mobility over currency flexibility and capital controls. The second model, which we call the model of devaluation, relies on capital controls and currency flexibility to accommodate losses in competitiveness due to institutional inabilities in exercising wage-restraint. Models of competitiveness and the development of the EMS We now propose that these two models of competitiveness can be identified in how states participated in the EMS in the pre-maastricht period ( ). According to the conventional understanding, the EMS was a fixed exchange rate regime with a preference for capital account liberalization. Yet this is not entirely accurate. As 8

9 currencies fluctuated within bands and realignments were still possible, the EMS constituted a pegged currency regime at best (Bearce, 2007: 26) and its rules did initially allow for capital controls. We refer to this institutional flexibility to substantiate our claims about the existence of natural monetary policy preferences that correspond with our models of competitiveness. States have made use of the EMS institutional flexibilities broadly in line with our expectations. Table 2 shows data collected from Ungerer (1997) and the trilemma indexes (Aizenman et al., 2008). The trilemma indexes code de-jure capital account liberalization based on the International Monetary Fund s Annual Report on Exchange Arrangements and Exchange Restrictions. The indicator takes values between 0 and 1, where 1 indicates full capital mobility. In general, these values are very stable, indicating different regimes of capital openness across countries. For our purposes, we have identified the year in which the openness indicator starts to derive from its long-term values. As table 2 shows, only Germany has had a stable regime of capital openness before The remaining countries have protected their capital accounts to some degree at least until that year. Countries belonging to the model of devaluation have also been less interested in joining the EMS, more likely to operate within wider currency margins, and have experienced more pronounced currency devaluations during the EMS period. Table 2 shows the extent to which currencies devalued or appreciated towards the ECU basket currency. Country Model EMS entry Bands Exchange rate Capital mobility Germany Wage-restraint 1979 Narrow +46% 1970 Italy Devaluation , Wide -28.7% 1990 Spain Devaluation 1989 Wide -30.6% 1993 Portugal Devaluation 1992 Wide -61.7% 1993 Greece Devaluation 1999 Wide -79.5% 1992 Table 2: Models of competitiveness and monetary preferences 9

10 EMU and the convergence hypothesis After Maastricht, the EMS lost some of its flexibility. Capital controls were finally abolished in the early 1990s and EMU s convergence criteria required countries to participate within the EMS narrow margins. After Danish voters rejected the Maastricht treaty and the German Bundesbank raised its main interest rates in order to absorb the shock of German unification, financial markets began to doubt the sustainability of the EMS (Gros and Thygesen, 1998). As a result of speculative attacks, the lira and the pound sterling were forced to temporarily leave the EMS, devaluing roughly 25% and 15% respectively against the DM in between September 1992 and August Due to their wider margins, Portugal and Spain were able to stay in the EMS, yet had to devalue their currencies by roughly 15% and 20% against the DM (Ungerer, 1997: 259). Countries belonging to the model of devaluation were obviously incapable of coping with a more rigid EMS. It is the reaction to these instabilities that is crucial: After August 1993, wide currency bands of 15% assured that all countries with the political will were able to remain in the EMS, thereby preserving their chances to enter EMU in Yet, EMU s institutional design was set to become even more rigid. By delegating monetary policy to an independent central bank pursuing price stability, European governments would no longer be able to devalue their currencies in order to preserve their economy s competitiveness. Also, the new regime would not allow for any in-between participation. Membership had to be permanent, and no currency bands provided for additional autonomy. And yet, despite having witnessed the dramatic consequences of reducing the institutional flexibility of the EMS, states sticked to their plan to make cooperation more rigid. Based on the two models of competitiveness outlined above, the more immediate 10

11 choice would have been to preserve institutional flexibility and to accept the limits of monetary cooperation. This raises important questions. First of all, why would southern European countries act against their natural monetary preferences and join EMU? What made them believe that their competitiveness would not be undermined? But also, how did northern European countries, particularly Germany, come to believe that EMU participation of the southern countries would be economically viable? At least German officials were clearly aware of the risks of introducing a common currency within such a heterogeneous group of states. The topics of competitiveness, devaluation and institutional rigidity figured prominently in their debates. At worst, thus the reasoning, southern economies would demand compensating transfers for their losses in competitiveness and output (Interview with German Finance Ministry official and Bundesbank official, ). In answering these questions, we stress the centrality of elites beliefs in the convergence effects of EMU. This explanation extends the existing accounts on the topic, which highlight the role of capital mobility, the role of an emerging neoliberal policy consensus, and the benefits of EMU for Germany. The increasing inefficiency of capital controls became more and more apparent throughout the 1980s. The early 1980s made clear that not even France with its powerful state-institutions was able to uphold efficient capital controls, thus weaker states could neither hope to do so (Abdelal, 2009: 58-65; Webb, 1995: 17-18). Also, an emergent neoliberal, monetarist policy consensus according to which expansionary monetary policies in the hope of stimulating domestic demand and employment would only produce higher inflation stated that monetary policy should be conducted by independent central banks orientated at price stability. States monetary policies and institutions, in other words, should converge 11

12 around the German model (McNamara, 1998; Verdun, 2000; Dyson and Featherstone, 1999). Finally, it is argued that substantial expected benefits induced German decision makers to give up their cherished DM. Economically, EMU reduced transaction costs and abandoned competitive devaluations by Germany s trading partners. It was therefore seen as complementary to a single European market which could not fully operate without a common currency (Schönfelder and Thiel, 1996; Moravcsik, 1998). Geopolitically, EMU allowed a soon to be unified Germany to signal its European credentials, thereby assuaging its partners concerns (Dyson and Featherstone, 1999; Baun, 1995; Kaltenthaler, 2002). Yet none of these approaches does really address the question of why states came to neglect the role of divergent models of competitiveness. In line with the neoliberal consensus argument, our approach highlights that elites in both the north and the south came to believe that over the long run, nominal devaluations are an ineffective policy instrument, as they do not affect real wages and thus the competitiveness of a country (Blanchard and Muet, 1993). According to this reasoning, nominal depreciations increase the prices of imported goods, which after a while lead to higher consumer prices. As a result, workers are expected to demand higher wages in order to compensate for their loss of purchasing power, thereby offsetting the initial effects of devaluations (De Grauwe, 2009: 35). Unless the real wages decrease after some time after the nominal exchange rate adjustment, there is no lasting real depreciation (European Commission, 1990: 138). From this perspective, a competitiveness crisis has similar policy implications for countries that share a single or preserve their national currency. In the end, it all depends on how well wages adapt to the demands of international competitiveness. The crucial assumption on the part of northern and southern elites was that competitive pressure from the single European market in 12

13 conjunction with a common monetary policy would facilitate this flexibility of wages (European Commission, 1990: 136; Dyson and Featherstone, 1999; Sibert and Sutherland, 2000; Calmfors, 2001). Wage flexibility would thus replace the nominal exchange rate as the primary adjustment mechanism (Carlin, 2012). What received less attention in this line of argument, however, was the crucial difference between the exposed and sheltered sectors incentives to exercise wage moderation. By promoting the integration of European financial markets and by guaranteeing price transparency within a single European market, EMU widened the gap between the exposed and sheltered sectors incentives to reign in excessive wage growth. While the competitiveness constraints of firms in the exposed sector would increase through stronger international competition, the sheltered sectors incentives to push through excessive wage increases remained essentially unaltered (Traxler and Brandl, 2010: 75; Hall, 2012). The convergence hypothesis thus implicitly assumed that all members have the institutional capacity to tie public sector wage growth to the exposed sector s productivity. In doing so, it systematically excluded the heterogeneity and stickiness of wage-bargaining regimes in Europe (European Commission, 1990: 149). The negotiations on EMU, Dyson and Featherstone (1999: 13-14) convincingly argued, were driven by a small, intimate, and isolated set of actors in national finance ministries and central banks. EMU hence empowered a relatively small group of economically competent technocrats. As these officials were endowed with securing EMU s economic viability, their policy beliefs were crucial (Andrews, 2003; Cameron, 1995). Following the central tenets of the convergence hypothesis, technocratic elites in Italy, Spain, Portugal and Greece believed that EMU would create the necessary external pressure to change dysfunctional wage-bargaining structures. In doing so, however, they 13

14 underestimated the stickiness and inertia of these deeply rooted institutions (Featherstone, 2004; Moravcsik, 2012; Hall, 2012). As one official involved in the negotiations later recalled (Interview with German Finance Ministry official, ), technocratic elites from southern countries emphasized that they needed external pressure to achieve necessary and long overdue reforms. Yet, they were perhaps too optimistic in thinking that once EMU is introduced, the pressure on politicians will be so high that they will choose the path of virtue [ ] Perhaps they were too self-confident in their ability to influence the political level. Before the Euro was finally introduced in 1999, however, we did indeed witness temporary reforms in the wage-bargaining structures of southern members. According to Johnston (2012: p. 346) instances of public sector pay restraint even arose in Italy, Spain, and Portugal, countries that lacked the corporatist institutions deemed necessary to deliver wage moderation. These reforms often came in the form of national social pacts which temporarily led to greater coordination between wage setters in the exposed and sheltered sector (Traxler and Brandl, 2010; Hassel, 2003). Yet, the conclusion of social pacts in Italy, Spain and Portugal was primarily motivated by the threat of being excluded from EMU and did not fundamentally alter national wagebargaining structures and their capacity to tie wage increases in the public sector to the productivity of the exposed sector (Brandl, 2012: 497). Due to its highly politicized and heterogeneous wage-bargaining regime, Greece even failed to conclude a temporary pact, thus failing to comply with EMU s convergence criteria (Featherstone, 2011). After the Euro was finally introduced in 1999 and the threat of exclusion faded, many of these pacts either collapsed or became ineffective which, in turn, led to a divergence in competitiveness within the Eurozone (Hancké and Rhodes, 2005: ; for Italy see Della Sala, 2004; Regini and Colombo, 2011; Quaglia, 2013; for Spain see Molina and 14

15 Rhodes, 2011; for Portugal see Lima and Naumann, 2011; Royo, 2013). Economies that had the institutional capacity to reign in public sector wage increases strengthened their competitive positions, while economies that were unable to exercise wage-restraint faced competitive decline (Johnston, 2012; De Grauwe, 2012; Collignon, 2013). Similarly to their southern peers, elites in the north particularly in Germany seemed to have believed that economies previously belonging to the devaluation-based model of competitiveness would be forced to reform their wage bargaining regimes inside EMU. As one German official recalled, we believed that the practical constraints emanating from EMU would force states to adapt (Interview German Foreign Ministry official, ). Based on this belief, German officials suspended the risk that southern economies lacked the institutional capacities to cope with EMU s rigidity and would therefore demand compensating transfers for their loss of competitiveness and output. From hindsight, one Bundesbank official even admitted, that these deeper institutional differences regarding the ability to strike moderate wage settlements have been tabooed (Interview with Bundesbank official, ). As a consequence, a divergence of wage-bargaining structures inside EMU was at the time not perceived as an important risk to EMU s overall stability. The resilience of institutions and the Eurozone crisis In this section we argue that the current Eurozone crisis is at least in parts the result of the attempt to accommodate different models of competitiveness within EMU s rigid institutional design. The global financial crisis of 2007 constituted a common shock that brought to the fore the vulnerability of heterogeneous wage bargaining-structures inside a common currency area. As governments were no longer able to devalue their currencies in order to cushion against a decline in their economy s competitive position, 15

16 wages had to replace nominal exchange rate movements (De Grauwe, 2009: 41; Carlin, 2012: 13). According to the convergence hypothesis outlined above, rational wage setters were expected to set wages consistent with the needs of the exposed sector s competitiveness (Carlin, 2012). And yet, this has not happened. The most crucial consequence of southern countries inability to restrain wage growth is that they have registered higher rates of inflation throughout the first years of EMU. From 1999 to 2007, the average rate of year-over-year inflation in Italy, Portugal, Spain and Greece lay considerably above the ECB s 2% target, while Germany s inflation rate was standing at around 1,5% (De Grauwe, 2009: 40). This divergence in countryspecific inflation-rates was subsequently reinforced by the ECB s one size fits all interest rate, which was too loose for southern countries and too restrictive for Germany Lower real interest rates (the ECB s nominal interest rate minus country-specific inflation rates) in the south had broadly two effects. First, they produced large budgetary savings for southern governments. And second, they led to higher consumer and investment demand in the sheltered, non-tradable sectors of these economies which increased the upward pressure on wages. This combination of additional public revenues and higher country-specific inflation rates induced wage-setters in the sheltered sector to orient their wage demands towards above Euro-area average, national inflation rates and less towards productivity growth and the ECB s inflation target. Due to wage-bargaining institutions that favor the interests of the sheltered sector, excessive wage-increases were subsequently diffused throughout these economies (Scharpf, 2011: 17). According to the convergence hypothesis outlined above, this should not have happened. Rational wage setters in both the exposed and sheltered sector should have set wages consistent with the ECB s inflation target and productivity growth (Carlin, 2012). 16

17 Confirming this line of argument, Johnston (2012: 348) shows that in Italy, Portugal and Spain wage growth in sheltered sectors clearly exceeded that in exposed sectors in between 1999 and Along similar lines, Johnston and Hancké (2009)and Hancké (2013) report that differences between nominal wage growth and labour productivity were above EMU average in Italy, Portugal and Spain implying that these countries were unable to exercise wage moderation. In Italy, Greece and Portugal budgetary savings from lower interest rates provided the background for a rise in public sector wages which, in turn, led to wage mark-ups throughout these economies (Royo, 2013; Featherstone, 2011). In Spain, low real interest rates raised production and employment in the sheltered, non-tradable sector (notably construction) which also led to economy-wide wage increases that undermined international competitiveness (Sinn, 2013: 3). Although economic developments in Italy, Portugal, Spain and Greece differ on several accounts in between 1999 and 2009, Holden and Wulfsberg confirm that they all share a higher rigidity of nominal wages that prevented an adjustment to below average real interest rates and low productivity growth. Concurring with our theoretical argument, this rigidity seems to be the result of lower levels of wage coordination in Southern economies (Holden and Wulfsberg, 2009: 19). At the same time, Germany increased its competitiveness through a combination of wage-restraint rooted in pattern-bargaining and above-average productivity growth (Carlin, 2012: 6). This is in line with several studies showing that pattern bargaining is significantly correlated with lower public sector wage growth and thus higher overall wage moderation (see for instance Johnston, 2012; Traxler and Brandl, 2012). In short, different wage bargaining structures initially put EMU s economies on diverging trajectories, and the ECB s pro-cyclical monetary policy further reinforced these trends (Hancké, 2013; Scharpf, 2011). It is thus no surprise that the competitive position of 17

18 southern members deteriorated considerably vis-à-vis Germany in between 1999 and 2009 (De Grauwe, 2012; Shambaugh, 2012; Collignon, 2013). Since the beginning of the Euro-crisis, the competitiveness gap within EMU shrank considerably. Interpretations of this crisis-induced convergence, however, lie widely apart. Some scholars argue that wage-moderation of the magnitude still required in southern economies is politically almost impossible to reach and sustain, as it would require intensive coordination between all sectors of the economy and explicit favoritism of the exposed sector (Sinn, 2013; Sinn, 2012). Regaining competitiveness would also imply a period of slow growth, deflation, declining income in large parts of the economy, and potentially rising unemployment. Others claim, however, that significant labor market reforms have already been undertaken and that these reforms indicate that labor market institutions can indeed be reformed in crisis situations. EMU, in other words, has finally imposed labor market reforms on those countries that previously lacked the institutional capacity to do so (Wyplosz, 2013; European Commission, 2012). The jury is still out. Are these reforms merely the result of external pressure and thus doomed to be reversed as soon as the pressure abates? Or are they permanent changes in countries wage-bargaining structures? Conclusion The goal of this paper was to highlight the link between wage-bargaining structures, competitiveness, and European monetary integration. We defined two models of competitiveness. While economies with coordinated wage-bargaining institutions are able to exercise wage-restraint and therefore prefer non-accommodating monetary policies and exchange rate stability, economies that lack such institutions depend on periodical devaluations in order to preserve their competitiveness. We show that the 18

19 EMS was flexible enough to allow for the co-existence of these models in one institutional framework. EMU, however, considerably limited this flexibility, as devaluations were no longer possible. We therefore argued that EMU is incompatible with the devaluation-based model of competitiveness. Although aware of this contradiction, elites in the north and the south believed that the use of a common currency would induce a convergence of wage bargaining structures. The current Eurozone crisis reveals the futility of this expectation and strikingly illustrates the stickiness of wage bargaining institutions. Economies that previously belonged to the devaluation based model of competitiveness still lack the institutional capacity to cope with EMU's rigidity. As a result, their competiveness declined considerably since the introduction of the Euro in Whether or not current crisis-induced labor market reforms manage to alter these tensions remains to be seen. 19

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