Completing the Eurozone Rescue: What More Needs to Be Done? (VoxEU.org eBooks)


Fiscal versus redenomination risk. The myth of intertemporal labour supply substitution. A tale of two depressions: What do the new data tell us? Eurozone breakup would trigger the mother of all financial crises. Panic-driven austerity in the Eurozone and its implications. College graduates and high school dropouts.

Debt, deleveraging, and the liquidity trap: How to predict a crisis. An American non-trumpian perspective on Asian integration. The next recession could be a bad one. Lessons from the Greek tragedy unlearnt. Rising US real interest rates imply falling real commodity prices. De Gregorio, Eichengreen, Ito, Wyplosz. Income inequality in France. Trust and the lending activities of banks and fintech firms.

The Economic Consequences of Brexit. Homeownership of immigrants in France: Evidence from Real Estate. Giglio, Maggiori, Stroebel, Weber. The Permanent Effects of Fiscal Consolidations. Demographics and the Secular Stagnation Hypothesis in Europe. Independent report on the Greek official debt. The authors unanimously believe that the crisis is not over, and that the Eurozone rescue is not finished.

More needs to be done.

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McGraw-Hill Education, pages, first , second , third , and fourth edition Fiscal crisis , Eurozone crisis , Eurozone rescue. Kluwer Academic Publishing, pages. It is time to put national differences aside and finish the job of restoring stability and prosperity in Europe. Cambridge University Press,

As Charles Wyplosz puts it, the Eurozone is levitating on the hope that European leaders will find a way to end the crisis and take steps to avoid future ones. Unless more is done, however, this levitation magic will wear off and the Eurozone crisis will resume its destructive, unpredictable path. The crisis, in our view, is a thorny tangle of incipient debt and banking crises.

Until this tangle is sorted out, any further shock could threaten the Eurozone as we know it. After all, Eurozone bank systems remain in a parlous state. Confidence in the financial system has not been restored. The losses from the Spanish real estate binge have only partially emerged.

Greek public finances have still not been stabilised. Large competitiveness imbalances persist. Massive shocks could come from any number of sources ranging from the Spanish banking sector to political crisis in member countries facing fiscal austerity. Indeed, we already see ominous signs. Risk premiums on some Eurozone government debt have resumed their upwards trend despite the two May packages.

Richard E. Baldwin

We also know that even small shocks can lead to a major crisis given the interconnected fragility of the Eurozone. Remember that it started with fiscal problems in a country which accounts for only 2. Banking crises in a number of European countries could cause sovereign debt crises — a la Reinhart and Rogoff — which could spark contagion, thus triggering more bank crises.

Trying to muddle through would be like sleepwalking through a minefield. Failure of one or two cables transfers overwhelming stress to other parts, potentially triggering a catastrophic collapse of the entire rigging. This is what happened in the Eurozone crisis and its run-up.

The failure of deficit discipline meant that almost half the Eurozone nations, and all of the largest ones, entered the crisis period — with high debt ratios — many well above the Maastricht limit. Greece and Italy had debt ratios that markets might think were perilously close to the unsustainability precipice.

The lack of competiveness policies or sufficiently countercyclical national fiscal policy fostered large current account imbalances. These current accounts were financed mainly by banks in the Eurozone core nations.

Completing the Eurozone rescue: What more needs to be done?

As a result, any debt crisis in the periphery threatened a banking crisis in the core. Eurozone banks, including those in the Eurozone core, were dangerously overleveraged due to regulatory failures before and half-hearted bank clean-ups in and All that was needed was for the wind to blow from the wrong direction — a wind from the southeast, as history would have it. One ugly word describes this crisis — interconnectedness. Government debt and bank crises were interconnected, as were policy failures. The systemic nature of policy failures and risks facing the Eurozone demands a systemic solution.

As Barry Eichengreen — who predicted this crisis in January Eichengreen — writes: The authors almost unanimously eschew solutions based on radical transfers of sovereignty to the EU. As Paul De Grauwe puts it: The first important step to cleaning up the banks is improved transparency. This would clear the road for bank recapitalisations where needed. Dealing with the weak bank-problem now will be cheaper than continuing with blanket guarantees.

And financial sector resolution frameworks need to be improved at a European level to deal with cross-border bank failures. Many authors in this eBook call for an explicit European Debt Resolution mechanism that would allow nations like Greece to restructure its debt; the essay by Avinash Persaud presents some clear thinking on this. Charles Wyplosz voices the views of many authors when he writes: The inescapable implication is that the Stability Pact must be decentralised to where authority lies.

Locking in commitments to medium-term discipline while allowing the flexibility for short-term national stabilisation, will not be easy. Michael Burda and Stefan Gerlach offer some novel thinking on how to coordinate the new national institutions. EU leaders must stress that they will not rely forever on the ECB buying the debt of countries investors no longer trust.

The programme creates balance-sheet risks for the ECB, and complicates the conduct of monetary policy. To avoid future imbalances, Eurozone nations should use counter-cyclical fiscal and regulatory policy to dampen developments in national wages, assets, and prices that might undermine competitiveness. However, fiscal policy cannot ensure adjustment alone. Pro-growth structural policies are a critical part of the reform. Structural reforms, especially in the services sector, would enhance growth easing labour market adjustments while bolstering debt sustainability ratios.

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As Alberto Alesina and Roberto Perotti argue: It is the supply-side rigidities that riddle all European national economies — especially those of southern European countries. The ECB actions are keeping it afloat for now, but this is accomplished by something akin to bailing the water as fast as it leaks in.