Vox
June 24, 2010As the recent austerity measures can testify, Europe’s leaders are acutely concerned about government debt. This column tracks policy announcements from the start of the Eurozone crisis in December 2009, arguing that governments may have contributed to turmoil with their public display of confusion – ultimately undermining credibility. But if Eurozone governments show unity of purpose, this credibility can be restored.
Despite multiplying good news from the real economy, the past six months have been the most trying times for the euro – certainly the most testing since the height of the financial crisis in late 2008. Mounting doubts concerning the sustainability of sovereign debts and the fragility of Eurozone banks have pushing spreads over the German bund rates to unprecedented heights (Eichengreen 2010).
The sustainability of sovereign debts is a serious issue that must be confronted. The combination of large public sector deficits to support economic activity and persistently weak private demand raises questions of debt sustainability in the medium term (Fatás and Mihov 2010).
Financial markets, however, seem to have blown these fears out of proportion, leading to a full scale confidence crisis. After all, Greece’s public debt is a tiny proportion of Eurozone GDP and banks’ capital and there is no serious grounds to believe that another Eurozone member can become insolvent any soon.
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