27
Sep

Euro Zone Death Trip

Written on September 27, 2011 by Ángeles Figueroa-Alcorta in Europe, Globalization & International Trade, Political Economy

By Paul Krugman

Is it possible to be both terrified and bored? That’s how I feel about the negotiations now under way over how to respond to Europe’s economic crisis, and I suspect other observers share the sentiment.

On one side, Europe’s situation is really, really scary: with countries that account for a third of the euro area’s economy now under speculative attack, the single currency’s very existence is being threatened — and a euro collapse could inflict vast damage on the world.

On the other side, European policy makers seem set to deliver more of the same. They’ll probably find a way to provide more credit to countries in trouble, which may or may not stave off imminent disaster. But they don’t seem at all ready to acknowledge a crucial fact — namely, that without more expansionary fiscal and monetary policies in Europe’s stronger economies, all of their rescue attempts will fail.

The story so far: The introduction of the euro in 1999 led to a vast boom in lending to Europe’s peripheral economies, because investors believed (wrongly) that the shared currency made Greek or Spanish debt just as safe as German debt. Contrary to what you often hear, this lending boom wasn’t mostly financing profligate government spending — Spain and Ireland actually ran budget surpluses on the eve of the crisis, and had low levels of debt. Instead, the inflows of money mainly fueled huge booms in private spending, especially on housing.

But when the lending boom abruptly ended, the result was both an economic and a fiscal crisis. Savage recessions drove down tax receipts, pushing budgets deep into the red; meanwhile, the cost of bank bailouts led to a sudden increase in public debt. And one result was a collapse of investor confidence in the peripheral nations’ bonds.

So now what? Europe’s answer has been to demand harsh fiscal austerity, especially sharp cuts in public spending, from troubled debtors, meanwhile providing stopgap financing until private-investor confidence returns. Can this strategy work? Read more…

As published in www.nytimes.com on September 25, 2011 (a version of this op-ed appeared in print on September 26, 2011, on page A29 of the New York edition with the headline: Euro Zone Death Trip).

Comments

Kvik Lån March 17, 2013 - 8:31 am

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