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Rescuing the Euro – or Bailing Out
Profligates?
Prof. Dr. Lars P. Feld
Ruprecht-Karls-University Heidelberg
ZEW Mannheim
German Academy of Sciences Leopoldina
Forum of Federations, Ottawa,
June 2010
What Has Happened – At First Sight?
 Greece Rescue Package by EU and IMF of
110 billion Euros (135 billion US-$).
 EU and IMF General Rescue Scheme of 750
billion Euros (923 billion US-$).
 ECB buys government bonds of the PIIGS (in
particular Spain and Greece).
 Disharmonious calls for EU reforms (SGP…)
 Calls on Germany to increase domestic
consumption.
Forum of Federations, Ottawa,
June 2010
Rescuing the Euro – or Bailing Out Profligates?
Outline of the Presentation
 What Is the Problem?
 The Stability and Growth Pact and
the No-Bail-Out Clause
 Routes for Reform
 Rescue or Bail-out?
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 1
Deficits in % of GDP
Deficits
Surpluses
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 2
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 3
Nominal Interest Rates for 10 Year Government Bonds
25
20
Deutschland
Spanien
15
Griechenland
%
Irland
10
Italien
Portugal
5
0
1993Jan
1994Jan
1995Jan
1996Jan
1997Jan
1998Jan
1999Jan
2000Jan
2001Jan
2002Jan
2003Jan
2004Jan
2005Jan
2006Jan
2007Jan
2008Jan
2009Jan
2010Jan
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 4
 Looking at the profligate countries:
 Greece obviously cheated regarding its
fiscal position when entering EMU;
 But also in the years after.
 Italy, Belgium and Portugal reduced their
debt to GDP ratios: SGP was helpful.
 Spain and Ireland held debt to GDP even
below the 60 percent levels.
 But: incentives to increase public or private
indebtedness.
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 5
 Why a Rescue Package/Bail-out?
 It is all about financial markets.
 Greece, but particularly Spain have been
supposed to cause a second Lehman-type
meltdown.
 Not so much a problem of engagement of
other European banks.
 Greece: CDS concentrated in Greek banks.
 Spain: Fear of banking crises affecting
even Santander and BBVA.
Forum of Federations, Ottawa,
June 2010
What Is the Problem? 6
 Why a Rescue Package/Bail-out?
 Possible contagion effects.
 Rhetoric about a rescue of the Euro and the
attention its exchange rate attracted is
nothing but rhetoric and fuzz.
 Exchange rate is (almost) unimportant for the
contagion problem.
 What is the role of institutional frameworks
at the EU level?
Forum of Federations, Ottawa,
June 2010
The SGP and the No-Bail-Out Clause 1
 Stability and Growth Pact:
 Art. 126 Lisbon Treaty (Art. 104 EC-Treaty)
in connection with the Excessive Deficits
Protocol.
 Deficit to GDP: 3 percent.
 Gross Debt to GDP: 60 percent.
 Compatibility if considerably reduced.
 No-Bail-Out Clause: Art. 125 Lisbon Treaty
 ECB is not allowed to directly buy govt. bonds
(Art. 123 Lisbon Treaty).
Forum of Federations, Ottawa,
June 2010
The SGP and the No-Bail-Out Clause 2
 Excessive Deficit Procedure:
 Each member state must provide a fiscal
report every year containing medium-term
planning targets.
 Stabilization and convergence programs:
Are targets realistic?
 Early warnings of deviations from the
targets and proposals to adjust.
 If Commission thinks deficit is excessive, it
proposes measures on which the Council
must decide within 3 months.
Forum of Federations, Ottawa,
June 2010
The SGP and the No-Bail-Out Clause 3
 Excessive Deficit Procedure:
 Council states excessive deficit: Proposal of
adjustment measures to the member
country which must be adopted within 4
months and sets a deadline to correct
deficit (usually until the next year).
 Council thinks that there are no effective
measures: Publication of suggestions.
 One month later: Put into delay.
 2 further months: Council should impose
sanctions (not automatic).
Forum of Federations, Ottawa,
June 2010
The SGP and the No-Bail-Out Clause 4
 Excessive Deficit Procedure:
 Sanctions: Non-Interest-Bearing Deposit at
the Commission of 0.2 % of GDP plus 10 %
of GDP of the difference by which the
actual deficit (in % of GDP) exceeds the
threshold; at most 0.5 % of GDP.
 Deposit turns into a sanction after 2 years
if the member state does not reduce
deficit.
 Extraordinary situations allow higher deficit
Forum of Federations, Ottawa,
June 2010
The SGP and the No-Bail-Out Clause 5
 Excessive Deficit Procedure:
 2002 – 2004: Excessive deficit procedure
against France and Germany.
 Last step before sanctions was set out:
 Both countries were not accused to not having
adopted sufficient measures and were not put
into delay.
 Majority decision by the Council that was
accepted by the ECJ.
 2005: Revision of the SGP with more
procedures.
Forum of Federations, Ottawa,
June 2010
Routes for Reform 1
 Voluntary or forced exit of Greece:
 No incentives (voluntary).
 No legal basis in the Treaties (forced).
 Economically non-sense.
 Because of following turbulences.
 Because devaluation as possible shock
absorber is over-valued: Inflation-devaluation
spirals.
 A logistical nightmare when markets
unravel.
Forum of Federations, Ottawa,
June 2010
Routes for Reform 2
 More power to the European Union:
 Reluctance of many members countries
because they do not want to lose budget
autonomy.
 Breach of constitutional law in Germany:
Lisbon Treaty decision by the Constitutional
Court.
 Economically dangerous, because it allows
to put pressure on the ECB.
 Germany has no interest: Lagarde criticism
Forum of Federations, Ottawa,
June 2010
Routes for Reform 3
 Strengthening the SGP:
 Requirement to introduce national debt
brakes German style: Could be a Directive.
 Requirement for independent statistical
offices: Could be a Directive.
 Further procedural changes: also Directive.
 Bankruptcy Code (Directive?):
 Asymmetry between SGP and No-Bail-Out
Clause must be resolved.
 U.S. Law provides help.
 Paris and London Clubs are insufficient.
Forum of Federations, Ottawa,
June 2010
Rescue or Bail-out?
 Rescue and Bail-out!
 No rescue of the Euro.
 But rescue of European banks and prevention
of contagion.
 Bail-out as well with all negative incentives.
 Whether the oversight suffices to induce
the necessary fiscal adjustments in Greece
is questionable.
 Necessity to have bankruptcy code.
Forum of Federations, Ottawa,
June 2010