The major currencies of the world are backed by single states. These states usually arrange a banking union, a benefits or transfer union and a common economic policy as well as a monetary union. Behind every good currency lies a unified nation of taxpayers who accept the legitimacy of their government and Central Bank.
Currency unions break up when these conditions cease to exist. The collapse of the rouble bloc followed quickly after the dissolution of the forced political union of the USSR. The countries which emerged from the Soviet empire wanted to control their own money. The Republic of Ireland kept the pound when it first separated from the UK, but later adopted its own currency to complete its independence. The Scandinavian and latin currency unions broke up in disagreements over the debts around one hundred years ago.
We have recently seen two interesting cases of the political arguments which can emerge in a currency union when people within it start to question the political union that goes with the currency. In the case of Scotland I think it was the wish of a majority of Scottish people to keep the pound that led them to vote to stay in the political union called the UK. They saw that all the Union parties rightly agreed that if Scotland left the political union the currency union would also be broken up, as it would be unsustainable. Why would taxpayers from the rest of the UK wish to shore up Scottish banks if we were no longer part of the same country? What would happen if Scotland followed economic and tax policies which were incompatible with the policies of the rest of the UK within the currency union? How would Scotland manage if oil revenues collapsed but no longer received compensatory payments from other UK taxes and taxpayers?
In the debates over Scottish devolution I raised the issue of how far can you go in unpicking the benefits, tax and transfer union before there are problems for the currency area? Parliament is going to have to return to the issue of the money before the new devolution settlement is completed. Under present rules there are common rates of benefits, and a sharing of the risks of paying for those benefits throughout the single currency area by all taxpayers in the UK.
As Scotland presses to see how far you can go in dismantling a political union which backs a currency union, Greece is testing how far a country has to go in accepting a political union in order to justify a currency union. Today there is a strong enough political union with revenue and expense sharing in the UK for the pound to work for Scotland and all other parts of the sterling area, but there is insufficient political union with revenue and expense sharing in the Euro area for the Euro to work for Greece. Greece has lived in almost perpetual recession for eight years, with a loss of one quarter of its income and output, partly because there are no proper mechanisms to share revenue and risk within the Eurozone. The Euro needs much more political union to even out the gross imbalances between the rich north and the rest.