Europe on the Brink
Europe’s efforts to stabilize its finances are failing, and the region needs to prepare for widespread restructuring of sovereign and bank debt. Peter Boone and Simon Johnson argue that Europe’s financial system has relied on a policy of protecting creditors from default and has thus spread pervasive moral hazard—a presumption by creditors that they will not take losses on their loans to Greece and other ailing countries. The authors argue that this situation is no longer tenable and examine three possible scenarios for the coming months as the sovereign debt crisis evolves. Under the first scenario, the euro area would try to reassert its commitment to avoid defaults and inflation. This continuation of the moral hazard regime would require severe austerity for Greece and other countries on the periphery of the euro area. The second scenario involves elimination of the moral hazard regime. The euro area would admit that some sovereigns have too much debt. A series of debt restructurings would follow. The final scenario would be for policymakers to continue to contradict themselves by promising selective defaults or restructurings of some countries’ debts while maintaining that they can ensure the stability of the rest of the euro area. But the authors argue that it is an illusion to believe that selective restructuring would not introduce contagion. Such an approach would result in panic, massive capital flight, and disorderly defaults. The ensuing chaos would in turn lead to a negatively charged political atmosphere that would make consensus nearly impossible.
|Date of creation:||Jul 2011|
|Contact details of provider:|| Postal: 1750 Massachusetts Avenue, NW, Washington, DC 20036-1903|
Web page: http://www.piie.com
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Buiter, Willem H. & Sibert, Anne, 2005. "How the Eurosystem’s Treatment of Collateral in its Open Market Operations Weakens Fiscal Discipline in the Eurozone (and what to do about it)," CEPR Discussion Papers 5387, C.E.P.R. Discussion Papers.
- Hans-Werner Sinn & Timo Wollmershäuser, 2012.
"Target loans, current account balances and capital flows: the ECB’s rescue facility,"
International Tax and Public Finance,
Springer;International Institute of Public Finance, vol. 19(4), pages 468-508, August.
- Hans-Werner Sinn & Timo Wollmershaeuser, 2011. "Target Loans, Current Account Balances and Capital Flows: The ECB's Rescue Facility," NBER Working Papers 17626, National Bureau of Economic Research, Inc.
- Sinn, Hans-Werner & Wollmershäuser, Timo, 2012. "Target loans, current account balances and capital flows: The ECB’s rescue facility," Munich Reprints in Economics 19556, University of Munich, Department of Economics.
- Hans-Werner Sinn & Timo Wollmershäuser, 2011. "Target Loans, Current Account Balances and Capital Flows: The ECB’s Rescue Facility," CESifo Working Paper Series 3500, CESifo Group Munich.
When requesting a correction, please mention this item's handle: RePEc:iie:pbrief:pb11-13. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Peterson Institute webmaster)
If references are entirely missing, you can add them using this form.