This is the first in a series of posts posing different ideas on how Europe can get itself out of its current mess. I figure Europe has so many problems that we can’t possibly address them all in one post. Yes, Greece finally got its bailout, and a big one — $146 billion from the Eurozone and International Monetary Fund – but the crisis in Europe is far from over. Numerous other Eurozone members have heavy debt burdens – Portugal, Ireland, Italy and Spain, which together with Greece make up the PIIGS – and that’s keeping investors nervous, as shown by continued weakness in the euro. Though European leaders have finally displayed their commitment to the zone’s stability with the impressive Greek bailout, they haven’t yet gotten around to addressing the much wider problems of the Eurozone. One commentator on a previous post I wrote on the Greek crisis suggested that the way to repair Europe was for someone to conquer the continent and put it all under one government. I hope we can find less militaristic solutions to Europe’s woes, since my memory tells me that one has been tried a couple times before.
My first question is this: How did the Eurozone get itself so buried in debt, and now how does it get out of it? The fact is that the structure of the Eurozone was a very key factor behind the build-up of sovereign debt.
In the go-go years before the Lehman Brothers collapse, investors didn’t distinguish very carefully between the varied Eurozone nations when purchasing their government bonds. Weaker economies with slovenly fiscal habits like Greece were bunched together with stronger states like Germany, due to their common membership in the Eurozone. That meant Greece was able to borrow money on international markets at much lower rates than would have otherwise been possible if the country was not part of the Eurozone. In these new times of aversion to risk, however, investors have figured out that Greece doesn’t equal Germany, and they’ve been demanding higher and higher premiums to lend Greece money. That led to the current Greek debt crisis. Greece built up a level of debt during the good times (like so many other companies and consumers around the world) that it couldn’t pay off once investor sentiment turned.
What exactly can be done about that problem? Erik Jones, a professor of European studies at Johns Hopkins University’s SAIS branch in Bologna has been kind enough to waste an inordinate amount of time going back and forth with me on this issue. Jones says the problem is that there isn’t enough market discipline brought to bear on sovereign borrowing in Europe. His solution is a “common issue sovereign bond facility.” Um, what’s that, you say? The simple explanation is that it would be a mechanism for countries to issue a kind of collective bond, or a “Eurobond,” backed by the entire Eurozone. But there would be clear limitations on how many bonds they could issue through this facility. Beyond that, they’d have to go to financial markets on their own, and pay higher rates, since it would be clear that these national bonds didn’t have full Eurozone protection. Jones wrote:
This proposal would strengthen market incentives and market discipline. It makes member states want to open their books to European auditors and it would make them fear the penalty of suspension from the facility should they get caught playing games. Beyond that, the threshold limits will make excessive borrowing more costly…Finally this proposal shows how a crisis can be managed. It makes it easy for the market to identify which obligations are secure and which are more prone to default.
The basic point is that, in his view, the facility would force Eurozone countries to control their borrowing. But what about the big problem of the big debts the Eurozone countries already hold? Jean Pisani-Ferry and André Sapir of Bruegel, a Brussels-based think tank, recently argued in The Financial Times that the Eurozone needs a clear and consistent system for restructuring the debts of its members, rather than handling them on an ad hoc – which means chaotic — basis. Here’s what they wrote:
The EU should not run the risk of again being behind the curve. Given the likelihood of debt restructuring down the road, it should waste no time in designing a European debt resolution mechanism to help members with unsustainable debt to resolve it with their creditors in an orderly way. This should go hand in hand with reform of the crisis prevention regime, which is sorely in need of repair.
Nouriel (“Dr. Doom”) Roubini and Arnab Das went even further in a recent essay, also in The Financial Times. They argue that the current financing-for-budget cuts strategy won’t work and more drastic measures are necessary. For Greece, Roubini and Das say that means a full-on debt restructuring and much more fundamental structural reforms. But to address the wider Eurozone debt problem, they advocate a much wider spread of policies:
All of this must be accompanied by a similar fiscal adjustment and structural plan for other eurozone members on the front line – Portugal and Spain in particular…The ECB (European Central Bank) must be on-side with refinancing to forestall a run on Greek banks; easy monetary policy to weaken the euro, thus helping to restore competitiveness and prevent deflation; and liquidity facilities for overexposed third-country banks. Ultimately, measures are required to boost aggregate demand in Germany and elsewhere in northern Europe, thereby encouraging a rebalancing of eurozone growth.
Getting past all the technical stuff, the common theme of these ideas is collective action on the part of the Eurozone to solve its collective problems. That makes perfect sense. Since the Eurozone uses the same currency, and thus one country’s fiscal decisions impact the entire zone, they should act more in concert on sovereign debt issues, and put in place Eurozone-wide reforms to try to address the debt problem. They need to coordinate policy in ways to support the overall stability of the Eurozone, rather than leaving each member to its own fate. In other words, they have to integrate other aspects of economic policy to match the integration of their currency.
But I’m wondering if an enhanced degree of policy integration is politically feasible. Looking at the dissension that allowed the Greek crisis to drag on dangerously, and the resistance in Germany and elsewhere to the idea of helping out troubled euro partners, will the Eurozone nations be willing to accept even more collective action?