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Governance of a Fragile Eurozone

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  • De Grauwe, Paul

Abstract

When entering a monetary union, member countries change the nature of their sovereign debt in a fundamental way, i.e. they cease to have control over the currency in which their debt is issued. As a result, financial markets can force these countries’ sovereigns into default. In this sense, the status of member countries of a monetary union is downgraded to that of an emerging economy. This makes the monetary union fragile and vulnerable to changing market sentiments. It also makes it possible that self-fulfilling multiple equilibria arise. This paper analyses the implications of this fragility for the governance of the eurozone. It concludes that the new governance structure (ESM) does not sufficiently recognize this fragility. Some of the features of the new financial assistance in fact are likely to increase this fragility. In addition, it is also likely to prevent member countries from using the automatic stabilizers during a recession. This is surely a step backward in the long history of social progress in Europe. The author suggests a different approach to deal with these problems.

Suggested Citation

  • De Grauwe, Paul, 2011. "Governance of a Fragile Eurozone," CEPS Papers 5523, Centre for European Policy Studies.
  • Handle: RePEc:eps:cepswp:5523
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    File URL: http://www.ceps.eu/system/files/book/2011/05/WD%20346%20De%20Grauwe%20on%20Eurozone%20Governance.pdf
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    References listed on IDEAS

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    1. Bertrand Candelon & Amadou N Sy & Rabah Arezki, 2011. "Sovereign Rating News and Financial Markets Spillovers; Evidence from the European Debt Crisis," IMF Working Papers 11/68, International Monetary Fund.
    2. Pierre-Olivier Gourinchas & Hélène Rey, 2007. "From World Banker to World Venture Capitalist: U.S. External Adjustment and the Exorbitant Privilege," NBER Chapters,in: G7 Current Account Imbalances: Sustainability and Adjustment, pages 11-66 National Bureau of Economic Research, Inc.
    3. Alasdair Scott & Pau Rabanal & Prakash Kannan, 2009. "Macroeconomic Patterns and Monetary Policy in the Run-up to Asset Price Busts," IMF Working Papers 09/252, International Monetary Fund.
    4. Jakob von Weizsäcker & Jacques Delpla, 2010. "The Blue Bond Proposal," Policy Briefs 403, Bruegel.
    5. Peirce, Fabrizia & Micossi, Stefano & Carmassi, Jacopo, 2011. "On the Tasks of the European Stability Mechanism," CEPS Papers 4262, Centre for European Policy Studies.
    6. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-661, September.
    7. Kopf, Christian, 2011. "Restoring financial stability in the euro area," CEPS Papers 4292, Centre for European Policy Studies.
    8. Mayer, Thomas & Gros, Daniel, 2011. "Debt reduction without default?," CEPS Papers 4150, Centre for European Policy Studies.
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