Financial Times
May 3, 2011
Why is Spain paying higher interest rates on its government debt than the UK? The answer to this question is illuminating: membership of a currency union makes a country fiscally fragile. This is inherent in the construction: members are neither sovereign states nor components of a federation. The big challenge for the eurozone is to resolve this contradiction.
In an important paper, Paul de Grauwe of Leuven University notes this contrast between the current positions of Spain and the UK. The yield on Spanish government 10-year bonds is almost two percentage points higher than that on UK equivalents, at 5.3 per cent against 3.5 per cent. This is a bigger difference than it may seem. If one assumes that the Bank of England and the European Central Bank both meet their 2 per cent inflation target, Spain’s real interest rate is more than double that of the UK.
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