The Eurozone Debt Crisis in the Focus of the GES
by Harald Czycholl and Elisabeth Otto
Eurobonds, national fiscal rules or a Europe without a joint currency: The still lingering Eurozone debt crisis was discussed in several sessions at the GES 2013 in Kiel. Fourteen years after its foundation, the European Monetary Union (EMU) is facing the greatest challenge of its history thus far. High unemployment in a number of member countries, the need for substantial consolidation of the budgets of many governments, and distressed banks are symptoms of economic misalignments and economic policy failure that threaten not only economic prosperity in Europe, but the European project as a whole. Finding solutions to this difficult challenge was the aim of diverse experts at the GES.
The well-known US-investor George Soros strongly advocated Eurobonds. “Structural reforms in Southern Europe are not enough to solve the problem,” said Soros. “We need both: Eurobonds and structural reforms.” The other option would be to pay transfers, turning the eurozone into a transfer union, which nobody really wants. But the German chancellor Angela Merkel has declared Eurobonds a taboo as well.
“On the economic front the austerity policy advocated by Germany proved to be counterproductive,” said Soros. “Every euro of reduction in the fiscal deficit caused more than a euro of reduction in GDP. In other words the fiscal multiplier turned out to be more than one.” Europe would need a thorough analysis of what has happened. “Recognizing the mistakes and identifying the misconceptions that have created the current situation is the first step; correcting them is the second,” explained Soros. “Only Germany can initiate the process because, as the country with the highest credit standing, it is in the driver’s seat.”
Professor Dennis Snower, the President of the Kiel Institute for the World Economy (IfW) agreed with this analysis: “Germany has come through the crisis relatively unscathed and is the only country that is in the position to make proposals for the future of Europe”, said Snower.“ The time has come for Germany to present ideas that are in the interest of all eurozone countries.”
However, Stefan Kooths from the forecasting center of the Kiel Institute for the World Economy (IfW) believes Eurobonds are “sending the wrong signal to the capital markets”. They could lead to gargantuan misallocations, because the interest rate would no longer reflect the credit risk. Kooths: “We need to take care not to fight the symptoms of the crisis with measures that plunged us into the crisis in the first place.”
Instead, the IfW experts argued the case for fiscal rules on a national level that should be implemented voluntarily. The rules would have to specify a target for the long-term maximum level of debt relative to GDP. According to Kooths, this target would be constrained by the Stability and Growth Pact, which stipulates that national debt must not exceed 60 percent of GDP. In addition, the rule would have to define the speed at which the long-term level of debt is to be reached and to what extent fiscal policy is allowed to engage in countercyclical policies in order to reflate the market through additional expenditure in times of crisis. The rule should be subject to a strict enforcement mechanism, enshrined in the country’s constitution. Compliance would have to be reviewed at the European level and the countercyclicality fiscal policy should be determined by the government and monitored by an independent expert council. In order to ensure enforcement of the rule, automatic corrective fiscal policy measures should be legislated and binding on a government that fails to observe the fiscal rule it has formulated.
In order to facilitate swift progress in fiscal adjustments, Stefan Kooths proposed to establish a European Interest Burden Equalization Scheme for a period of five years. This temporary element of international redistribution would help to smooth adjustments in the early phase of consolidation without mutualizing the underlying national government debts. In addition, the Kiel Institute proposed a unified set of standards in bank regulation and supervision in the whole currency area. Banks would have to be stabilized with so-called solvency-convertible bonds. Systemically relevant financial institutions should only be able to borrow money in form of these solvency-convertible bonds, which would automatically turn into shares the moment they fell below the minimum capital requirements. Thus, the shareholders and no longer the state would bear the risks.
OECD expert Eckhard Wurzel agreed that Eurobonds would not solve the crisis. He emphasized that Eurobonds would always be transfers, because the creditor states accept higher interest rates to enable lower interest rates for debtor states. This would undermine the strength of the capital markets, the dynamics of which are absolutely necessary. According to Wurzel, holistic structural reforms are necessary in the affected countries. This would include shutting down, restructuring or recapitalizing troubled banks. “But holistic does not merely mean the banks. That is why fiscal rules are necessary,” stated Wurzel.
German entrepreneurs criticized the joint European currency: The idea of the Euro to contribute to the unification of Europe has turned into the opposite”, said Heinrich Weiss, chairman of the board of SMS Siemag. Peter Jungen, chairman of the Peter Jungen Holding, added: “The Euro does not unite Europe. It is separating Europe and the eurozone.“ The only option would be to return to the criteria defined in the Maastricht treaty. “Members that can’t meet the criteria should leave the club. Greece will never make it”, Jungen said. Ana-Maria Llopis Rivas, chairwoman of the board of Spain-based Distribuidora Internacianal de Alimentación, called for more solidarity between the eurozone countries: “We could construct a great continent if we would all sacrifice a little bit of our autonomy and create the United States of Europe,” she proposed.
Panelists discussing the future of central banking warned of a possible next bubble and the consequent next crisis. “The lax monetary policy of the central banks over the last few years was necessary, because the fiscal authorities failed to take action,” said William Rhodes from Citigroup. The crucial question is that of the exit strategy, as a continuation of the current monetary policy would lead to the next bubble. Andrew Sheng from the Hongkong-based Fung Global Institute worried about who will enforce discipline. He demanded a rethink: central banks should be in charge of monetary policy, whereas ministers of finance should be responsible for fiscal policy.