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Adjustment Difficulties and Debt Overhangs in the Eurozone Periphery

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  • Gros, Daniel
  • Alcidi, Cinzia

Abstract

This paper describes four key drivers behind the adjustment difficulties in the periphery of the eurozone: • The adjustment will be particularly difficult for Greece and Portugal, as two relatively closed economies with low savings rates. Both of these countries combine high external debt levels with low growth rates, which suggest they are facing a solvency problem. In both countries fiscal adjustment is a necessary condition for overall sustainability, but it not sufficient by itself. A sharp cut in domestic consumption (or an unrealistically large jump in exports) is required to quickly establish external sustainability. An internal devaluation (a cut in nominal wages in the private sector) is unavoidable in the longer run. Without such this adjustment in the private sector, even continuing large-scale provision of official funding will not stave off default. • Ireland’s problems are different. They stem from the exceptionally large losses in the Irish banks, which were taken on by the national government, leading to an explosion of government debt. However, the Irish sovereign should be solvent because the country has little net foreign debt. • Spain faces a similar problem as Ireland, although its foreign debt is somewhat higher but its construction bubble has been less extreme. The government should thus also be solvent, although further losses in the banking system seem unavoidable. • Italy seems to have a better starting position on almost on all accounts. But its domestic savings rate has deteriorated substantially over the last decade.

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Bibliographic Info

Paper provided by Centre for European Policy Studies in its series CEPS Papers with number 5525.

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Length: 27 pages
Date of creation: May 2011
Date of revision:
Handle: RePEc:eps:cepswp:5525

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  1. Francesco Giavazzi & Marco Pagano, 1995. "Non-Keynesian Effects of Fiscal Policy Changes: International Evidence and the Swedish Experience," NBER Working Papers 5332, National Bureau of Economic Research, Inc.
  2. Giavazzi, Francesco & Jappelli, Tullio & Pagano, Marco, 2000. "Searching for non-linear effects of fiscal policy: Evidence from industrial and developing countries," European Economic Review, Elsevier, vol. 44(7), pages 1259-1289, June.
  3. Francesco Giavazzi & Marco Pagano, 1990. "Can Severe Fiscal Contractions Be Expansionary? Tales of Two Small European Countries," NBER Chapters, in: NBER Macroeconomics Annual 1990, Volume 5, pages 75-122 National Bureau of Economic Research, Inc.
  4. Daniel Gros & Cinzia Alcidi, 2009. "Why Europe will suffer more," Intereconomics: Review of European Economic Policy, Springer, vol. 44(4), pages 255-260, July.
  5. Daniel Gros & Cinzia Alcidi, 2011. "euro zone crisis 2010," The New Palgrave Dictionary of Economics, Palgrave Macmillan.
  6. Carlo Cottarelli & Paolo Mauro & Lorenzo Forni & Jan Gottschalk, 2010. "Default in Today's Advanced Economies," IMF Staff Position Notes 2010/12, International Monetary Fund.
  7. Das, Udaibir S. & Papaioannou, Michael G. & Trebesch, Christoph, . "Sovereign Default Risk and Private Sector Access to Capital in Emerging Markets," Chapters in Economics, University of Munich, Department of Economics.
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Cited by:
  1. Roberto Tamborini, 2013. "The new fiscal rules for the EMU. Threats from heterogeneity and interdependence," European Journal of Comparative Economics, Cattaneo University (LIUC), vol. 10(3), pages 415-436, December.
  2. Roberto Tamborini, 2012. "Market opinions, fundamentals and the euro-sovereign debt crisis," Department of Economics Working Papers 1210, Department of Economics, University of Trento, Italia.
  3. Enrique Alberola & Luis Molina & Pedro del Río, 2012. "Boom-bust cycles, imbalances and discipline in Europe," Banco de Espa�a Working Papers 1220, Banco de Espa�a.
  4. Creedon, Conn & Fitzpatrick, Trevor & Gaffney, Edward, 2012. "Ireland’s External Debt: Economic and Statistical Realities," Economic Letters 12/EL/12, Central Bank of Ireland.
  5. Gros, Daniel, 2012. "How to deal with macroeconomic imbalances?," CEPS Papers 7479, Centre for European Policy Studies.
  6. Gros, Daniel, 2012. "Macroeconomic Imbalances in the Euro Area: Symptom or cause of the crisis?," CEPS Papers 6865, Centre for European Policy Studies.
  7. Gianluca Cafiso, 2013. "Public-Debt Financing in the case of External Debt," Working Papers 2013-37, CEPII research center.
  8. Gros, Daniel, 2011. "External versus Domestic Debt in the Euro Crisis," CEPS Papers 5677, Centre for European Policy Studies.

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