In 2012, the euro zone came close to destruction. The recession was grinding forward like a battle tank, three sovereign bailouts were in place, bond yields were soaring, the banking crisis was intact and political instability, complete with mass riots and strikes, was rife.
All that was missing was a country to light the fuse and Greece was set to rise to the occasion. In June of that year, it appeared that the anti-austerity radical left coalition, Syriza, would win the Greek general election. The political chaos in the weeks leading up to election threatened a run on the banks. Withdrawal rates tripled. To meet the ever-climbing demand for cash, fleets of trucks shuttled banknotes from Bank of Greece vaults to retail bank outlets across the country while the European Central Bank pumped liquidity in the Greek financial system.
The governor of the Bank of Greece, George Provopoulos, was terrified. "If this phenomenon had gone on, there would have been no reason but to go into a full bank run," he told me last spring. "That would have resulted in the exit of the country from the euro zone."
Syriza did not win the election and Greece's austerity program remained intact. A year and a half later, it is easy to forget how close Greece and the rest of the euro zone came to unravelling. The crisis is now finished, history, kaput. And if you believe that, the Italians and Greeks have some barely used warehouses they'd like to sell you.
To be sure, the 18-country region is out of recession, if barely. Ireland has left its bailout program and is raising debt on its own. Portugal is on the verge of doing the same. Italy has ousted Silvio Berlusconi, its crisis-denier-in-chief, from parliament, and Spain is turning the corner after enduring the Western World's worst property and employment bust. Sinking bond yields in the "crisis" countries have made finance ministers beam with joy.
On Wednesday, as Greece inherited the rotating presidency of the European Union, Jose Manuel Barroso, the European Commission president, said the worst is over. "I have said, precisely one year ago, that the existential crisis of the euro would be behind us, and I believe this is the case now," he said in Athens.
There is no doubt that the darkest days of financial crisis are long gone – the waning bond yields in Spain, Italy, Ireland and Greece say as much. But there is equally no doubt that there is a yawning disconnect between the bond markets and economic reality. The European economies are diverging rapidly.
The north (excluding France) is getting stronger, the Mediterranean frontier (including France) is getting weaker. Better northern productivity and efficiency, and lower costs of capital, are pushing the Mediterranean countries into slow-motion suicides.
As long as the economic divergence continues, the notion that the euro zone's long-term sustainability is assured is sheer fantasy.
The bond yields tell a different story. Take Italy. At the height of the debt crisis (as it was then known), Italy's 10-year bond yields hit 7 per cent, the level that shut Greece, Ireland and Portugal out of the debt markets. This week, Italian yields were at 3.9 per cent, less than one percentage point higher than equivalent British and American debt. Spanish bond yields were even lower than Italy's.
While the ends of the recessions in Italy and Spain can take some of the credit, a big thanks is owed to ECB president Mario Draghi. In July, 2012, one month after the Greek election that almost sank the euro zone, he declared the bank would do "whatever it takes" to keep the euro zone intact. In came outright monetary transactions (OMT), the ECB program that would buy unlimited amounts of the sovereign bonds of any country having trouble financing itself.
While it has never been used, its mere existence has been enough to send bond yields sinking faster than French president François Hollande's popularity ratings.
The cheaper borrowing costs have allowed Italy, Spain and Portugal to declare their crises essentially over. Nothing could be father than the truth. Take Italy. Its jobless rate has climbed to 12.7 per cent, with youth unemployment nudging 42 per cent. Its debt load is greater than 130 per cent of gross domestic product. It is de-industrializing at an alarming rate. Its unit labour costs rose 23 percentage points in the 10 years to the end of 2011. Simply put, the country is massively uncompetitive and getting worse. The country with the highest productivity and lowest costs of capital wins. Germany is winning at Italy's expense. It is winning at the expense of France, another ambitiously uncompetitive economy. It's a binary equation.
Only a day after Mr. Barosso declared the crisis gone, Mr. Draghi called a time-out, insisting it was "premature" to declare victory. Ironically, the saviour of the euro zone is also part of the problem. The sinking bond yields, care of the ECB, have removed the incentive for economic reform.
No pro-market, pro-reform measure of substance has been launched in Italy or France in the past year or so. The euro zone economies will continue to diverge even as bond yields stay low. A creeping crisis is in the works.