Abstract
The chapter begins with an illustration of the perceived low default risk in the first decade after the birth of Economic and Monetary Union (EMU), together with an explanation of the rationale behind the rules on public budgets applied to members of monetary unions. It then illustrates the deterioration of public accounts and sovereign debts that has occurred since the recent crises that hit the euro area. The chapter also explains the content of the Stability and Growth Pact (SGP, and its various reforms) and the Fiscal Compact. Critical discussion is conducted of the ‘austerity policies’ adopted in the Eurozone in recent years, emphasising their deep impact on the real economies, especially of the weakest euro area countries, and the ‘self-defeating’ nature of such policies.
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Notes
- 1.
Also because it incorporated the devaluation risk (e.g. the spread was equal to about 450 basis points in Italy and 350 basis points in Spain).
- 2.
For instance, although the debt/GDP ratio in Italy (113.7% in 1999) was almost double that in Germany, it was decreasing over time (with minimum levels of about 103% reached in 2004 and 2007). Thus, the comparative performance was considered as adequate by the markets.
- 3.
Similar documents, called Convergence Programmes, were requested from EU countries not belonging to the Eurozone.
- 4.
- 5.
The deficit/GDP ratio was on average 3% in the EU in the early 1990s (when the Maastricht Treaty was signed) and the debt/GDP ratio about 60%.
- 6.
Note the key role played by the price dynamics: with a 3% inflation a 2% real GDP growth is required, while a situation of zero inflation implies an impossible real growth rate of 5%.
- 7.
The table focuses on a selected group of Eurozone countries (the four largest economies and the peripheral countries hit by the sovereign debt crisis), in addition to the UK, the US and Japan.
- 8.
It should be noted that, differently from public expenditure, revenues and GDP both decline in absolute values in the recession periods.
- 9.
A very particular case to be mentioned is Japan, which has had a debt/GDP ratio higher than 200% since 2009 but without any perceived risk for its sustainability. This case suggests that a large and developed economy, with its own central bank, can sustain a very high public debt, also because it is almost entirely owned by domestic investors.
- 10.
For a discussion of the multifaceted concept of public budget sustainability and the determinants of debt to GDP ratio dynamics, see Hartwell and Signorelli (2016). In particular, excluding the ‘monetary financing’ (not permitted in the Eurozone), in order to have a decreasing dynamic of the debt to GDP ratio it is necessary to respect the following condition: b(i-π-g y ) < a where b is the ratio between the stock of public debt and the value of annual nominal GDP, a is the primary budget surplus divided by nominal GDP and, finally, i, π and g y are, respectively, the average nominal interest rate on the public debt, the inflation rate and the GDP real growth rate.
- 11.
For example, the concept of ‘financial sustainability’ emphasises the role of the propensity of the private sector to save and, in particular, its preference for public debt securities. In this case, a key variable is the ratio between public debt and financial wealth (in many economies financial wealth is significantly higher than GDP).
- 12.
Schick (2005) has distinguished the literature on ‘fiscal sustainability’ among four specific axes: (i) solvency: this refers to the government’s ability to pay its financial obligations in the short term, and it is generally focused on the balance between revenues and expenditures; (ii) growth: a fiscal policy may be regarded as sustainable if it allows for continued economic growth, while an unsustainable policy would lead to sudden stops, reversals or stagnation; (iii) stability: in a longer-term perspective, stability occurs when a government can meet future obligations (mainly entitlement programmes such as pensions) with existing tax burdens, or if increasing burdens are necessary and (iv) fairness: this concerns the capacity of the government to pay current obligations without shifting the cost to future generations.
- 13.
A situation of risk of ‘fiscal stress’ is referred to different time horizons (short, medium and long run), and it is detected when a composite indicator exceeds a critical threshold (endogenously determined). For example, in order to detect a short-term (within a 1-year horizon) risk of ‘fiscal stress’, the composite indicator is based on 28 financial-competitiveness variables (more details in EC 2016a).
- 14.
The structural balance is the general government budget balance corrected for cyclical factors, one-offs and other temporary measures.
- 15.
See the Communication of the EU Commission (January 2015) on the implementation of the SGP.
- 16.
For instance, the Strategic Investments European Fund, activated in 2015 in connection with the ‘Juncker Plan’ (see Chap. 7). Furthermore, the already existing ‘investment clause’ allows a partial increase in the deficit/GDP ratio (just a few decimal points), for countries that in any case are below the 3% threshold. The margin allowed by all ‘flexibility clauses’, however, cannot exceed a ceiling set by the Commission.
- 17.
These institutions took these decisions under the pressure applied by Germany and other ‘core’ countries in Northern Europe, not only in order to guarantee macroeconomic and financial stability in the Eurozone but also to avoid ‘paying for the profligate members’, although (as we shall see in Chap. 6) the contribution to the rescue (save-State) funds was made by (some of) the Southern as well as the Northern states.
- 18.
In particular, some sort of ethical intention to punish Greece for its repeated falsification of public accounts (especially in 2009) had a role in the definition of harsh austerity policies in return for the granting of aid.
- 19.
Tabellini (2016b, pp. 46–47) clarifies: ‘When hit by a sudden stop, domestic fiscal policy has no option but to become more restrictive, and a credit squeeze cannot be avoided as domestic banks are forced to deleverage. To avoid a deep and prolonged recession, active aggregate demand management at the level of the Eurozone as whole is required. But this did not happen.’
- 20.
Blanchard and Leigh (2013) admit that ‘in advanced economies, stronger planned fiscal consolidation has been associated with lower growth than expected’ and ‘a natural interpretation is that fiscal multipliers were substantially higher than implicitly assumed’; this was especially true in the early phases of the crisis. However, they add: ‘the short-term effects of fiscal policy on economic activity are only one of the many factors that need to be considered in determining the appropriate pace of fiscal consolidation’. Jordà and Taylor (2016) adopted new propensity-score-based methods and found that austerity is always a drag on growth, especially in depressed economies (a 1% of GDP fiscal consolidation translates into a loss of 3.5% of real GDP over 5 years when implemented in a slump, rather than just 1.8% in a boom).
- 21.
They are higher in crisis periods due to uncertainty about aggregate demand and credit conditions, the presence of slack in the economy, the larger share of consumers that are liquidity constrained.
- 22.
- 23.
Alesina et al. (2015) maintain that adjustments made through spending cuts are less recessionary than those achieved through tax increases. Moreover, according to them, spending-based consolidations should be accompanied by the ‘right’ polices, including easy monetary policy, liberalisation of goods and labour markets and other structural reforms.
- 24.
IMF, OECD, EC, ECB, US FED, Bank of Canada. Such economists made use of eight different macroeconometric models (mainly DSGE models) for the USA and four models for the Eurozone.
- 25.
Even President Draghi (ECB 2014) finally admitted that, although structural reforms must be accelerated, there is also a problem of aggregate demand. Moreover, monetary policy cannot bear the entire burden of stabilisation. This point has been reiterated after the ‘bazooka’ of new measures decided in March 2016.
- 26.
On the key determinants of productivity growth and the different models of growth, see Marelli and Signorelli (2010c).
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Marelli, E., Signorelli, M. (2017). Fiscal Policies and the EU’s Governance: Only Rules and a Lack of Stabilisation Measures. In: Europe and the Euro. Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-319-45729-1_4
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