Government Debt Crisis: a Time Bomb for European Monetary Union?

In the wake of the financial and economic crisis government debt levels in some euro countries have risen more strongly than ever before; and there is no credible consolidation strategy in sight. On the contrary, there are growing calls for an easing of austerity policy to stimulate the economy. Can European Monetary Union survive the government debt crisis? Stefan Homburg, University of Hannover, is sceptical. In his opinion, the Eurozone is caught between a rock and a hard place. Several member states are living beyond their means, but remain in denial and react to proposals of change as attacks and interference from outsiders. On the other hand, a continuation of the policy implemented to date would demand further financial support, and it is doubtful whether this would be feasible. The only remaining theoretical solution is strong, lasting economic growth in Southern Europe, but this is unrealistic. Anyone taking a sanguine view of the situation in the Eurozone must be worried by the rise in debt ratios and should not be impressed by the deceptive air of calm in the financial markets. The mood could turn as soon as the next state goes bankrupt. The euro experiment would then be more unlikely than ever to turn out well. Carsten Hefeker, University of Siegen, sees one option as a joint fiscal policy with a limited degree of solidarity similar to that featured, for example, in the proposal to introduce common debt. Further measures could include a debt repayment fund or an insolvency procedure for European states. Unfortunately, there is currently no discussion of such measures as serious alternatives or the further development of the European Union in Germany or Europe. Christian Keuschnigg, University of St. Gallen and Institut für Höhere Studien Wien, and Klaus Weyerstraß, Institut für Höhere Studien Wien, argue in favour of reducing government debt levels to shore up the monetary union. However, it will take many years of disciplined fiscal policy to bring debt levels back down to a sustainable level. Consolidation needs to be designed on a sustainable and growth-friendly basis, so that states can grow out of crises more quickly, rather than saving their way out of them. Markus Brunnermeier, Princeton University, New Jersey, proposes a secure European bond, but no collective liability. This means that traditional Eurobonds, which would entail collective liability, are not the right response. European Safe Bonds offer an alternative, since they do not involve any joint liability. In the opinion of Wolfgang Quaisser, Akademie für Politische Bildung Tutzing, the Eurozone can only continue to exist in the long-term if a credible debt relief strategy can be implemented. High liabilities take their toll on economic growth, as well as burdening future generations, and thus limit leeway for states to take action. It also becomes more difficult to counter external shocks. It is uncertain whether austerity and economic growth alone will be enough to guarantee sustainable debt reduction in the crisis countries of the Eurozone. In addition to financial repression, unconventional measures like bail-ins, haircuts and wealth taxes should therefore be introduced. Losses for European investors are inevitable. Lars P. Feld, University of Freiburg, sees continued budget consolidation as imperative to overcoming the debt crisis in the euro area. If a country's debt ratio is very high, fiscal policy measures tend to fall flat and are relatively ineffective. Although contractive fiscal policy measures will not initially trigger any economic dynamic, states will, he argues, stage an economic recovery after an initial adjustment phase, especially if the labour and product markets are made more flexible at the same time.