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Oberbank Day Linz, May 28 2010. Economic Drivers of the European Future – – 15 Propositions – (one proposition every four minutes) Wolfgang Wiegard University of Regensburg and German Council of Economic Experts. Economic Drivers of the European Future. Table of contents.

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Oberbank Day Linz,May 282010

  • Economic Drivers of the European Future

  • – 15 Propositions –

  • (one proposition every four minutes)

  • Wolfgang Wiegard

  • University of Regensburg

  • and

  • German Council of Economic Experts

Economic Drivers of the European Future

Table of contents

I. Looking back: European policy reactions during the financial crisis

II. Looking forward: Euro at risk?

II.1. Sovereign debt problems in the euro area

II.2. How to reduce public debt burdens

II.3. A brief evaluation of current policy reactions to

the euro crisis

II.4. Still lacking: Reform of the Stability and

Growth Pact

II.5. Monetary policy and inflation

II.6. Will the euro survive?

II.7. Taxing financial transactions or activities?

III. Final remarks

I. Deep recession in 2009

Proposition 1

In 2009, European economies as well as other industri-alized countries have been hit by the deepest recession since the Great Depression.

Only in the emerging and developing economies did the GDP increase during the crisis.

Annual percentage change in real GDP (2009)

Source: IMF, World Economic Outlook, April 2010


Euro Area


United Kingdom









United States




Sub-Saharan Africa



Middle East/North Africa





Annual percentage change in real GDP (2009)

Source: IMF, WEO, April 2010

Source: IMF, WEO, April 2010






















I. Economic policy reactions during the financial crisis

Proposition 2

Fiscal and monetary policy interventions on an unpre- cedented scale prevented an even worse slump in economic activity.

Massive fiscal stimulus packages in the euro area helped to stabilize aggregate demand.

I. Monetary policy reactions: central banks’ key interest rates

II.1. Sovereign debt problems in Europe

Proposition 3

Due to fiscal policy interventions, public debt in- creased considerably during the crisis, and will con-tinue to increase dramatically if fiscal policy does not change.

II.1. Long-term debt projections under

no-policy-change assumption


















Source: European Commission, Sustainability Report 2009, p. 40

II.1. Economic effects of government debt

Proposition 4

In the short run, higher deficit-spending stabilizes aggregate demand and dampens economic fluctu-ations.

In the long run, higher debt-to-GDP ratios will

increase long-term interest rates and reduce economic growth

narrow the room for growth-enhancing public investment expenditure

burden future generations.

II.2. How to reduce public debt burdens

  • Proposition 5

  • In principle, there are five ways of achieving a reduction in public debt burden :

    • strict consolidation efforts by reducing (structural) primary deficits (i.e. cutting public expenditures or increasing taxes)

    • a higher growth rate of GDP

    • 3. a “bailout” or capital transfer from abroad

    • 4. a default (repudiation; restructuring of sovereign debt)

    • 5. higher inflation.

II.2. How to reduce public debt burdens

Proposition 6

A higher growth rate could help to solve the debt

problem, but will not suffice to consolidate public


GDP growth rate is endogenous and not a policy instrument; it is hard to boost growth rates in a lasting manner by tax or expenditure policies.

For example:

The growth rate effects of the German “Growth Acceleration Law”, implemented in 2010, are


II.2. How to reduce public debt burdens

Proposition 7

In northern “core” countries of the euro area (DE, FR, AT, NL, BE, LU) fiscal sustainability has to be restored by a long-term fiscal tightening.

Public expenditures have to be cut and/or taxes increased in order to achieve (structural) primary surpluses in public budgets.

Unfortunately, so far almost nothing has been done in


II.3. Evaluation of the Greek “rescue package”

Proposition 8

With the “rescue package” of May 2 2010, euro area member states and the IMF agreed to bail out Greece, conditional on Greece meeting strict consolidation requirements.

The alternative – a Greek default or “haircut” – could have been even more expensive for euro area countries.

Even after the three-year financial support program, Greece will not be able to manage its debt crisis alone and will need additional help or have to restructure its debt.

II.3. Some details of the Greek “rescue package”

“rescue shield”

for Greece











110 bn euro




Relative Shares in ECB‘s capital

(excl. Greece share)


€ 80 bn

bilateral loans

€ 30 bn




II.3. Is there a conflict between the rescue package

and the no-bail-out clause of the TFEU? ?

II.3. European Stabilization Mechanism

Proposition 9

In addition to the Greek rescue package, on May 10 2010, EU finance ministers established a European Stabilization Mechanism (ESM) with a total volume of 500 billion euros.

The IMF will participate and provide a further 250 billion euros.

The package provides financial support to member states

in financial difficulties and is subject to strong conditiona-lity.

Even if the legal basis for the program is weak, it will help to stabilize financial markets.

II.3. Details of the “European Stabilization Mechanism”

European Stabilization Mechanism:

an even larger rescue shield

750 bn euro

€ 60 bn

loans and credit lines

from EU Commission

€ 440 bn

by euro area

members via SPV

€ 250 bn


II.4. Reforming the Stability and Growth Pact

Proposition 10

The rules of the Stability and Growth Pact (SGP) were neither strict enough nor enforced strictly enough to prevent the European debt crisis.

Hence, it is essential for the Greek rescue package and the European Stabilization Mechanism to be complemented by a strengthening of the SGP.

A recent proposal by the European Commission is a first step; the proposal of a “European Consolidation Pact” launched by the German Council of Economic Experts is even better.

II.5. ECB has lost its reputation

  • Proposition 11

  • The role of the ECB in the current euro crisis is not at all convincing.

  • By first explicitly excluding far-reaching measures, only to take a number of them a few days later, the reputation of the ECB has been diminished.

  • The critical measures are:

    • purchasing sovereign debt in secondary markets as part of the “Securities Markets Program” (May 10 2010);

    • suspending the application of any minimum credit rating for collateral requirements in the case of Greek sovereign debt (May 3 2010).

II.5. Inflation will remain low in the euro area

Proposition 12

Despite the purchase of sovereign debt by the ECB there will be no inflation in the euro area during the next few years.

The probability of inflating away the real burden of public debt is higher in the United States and, to a lesser degree, in the United Kingdom.

II.5. Long-term inflation expectations remain low

Source: ECB, Monthly Bulletin, May 2010

II.6. Will the euro survive ?

Proposition 13

The euro area will not break up, nor will the euro collapse.

A country cannot simply leave the euro area.

It could, however, leave the EU and then re-apply for EU membership. Incentives are weak, even if a country could depreciate its currency in the meantime.

A country cannot be expelled from the euro area, or from the EU.

The only real threat to the euro area is that Germany or France will leave the EU, because of the fear of becoming the principal bail-outers. But this will not happen!

II.7. Taxing financial transactions or activities ?

  • Proposition 14

  • In June 2010, the G-20 leaders will decide on how the financial sector can contribute to paying for any burden associated with government interventions to repair the banking system.

  • The options are:

    • a financial transaction tax

    • a financial activity tax

    • a levy on financial institutions.

III. Final remarks

Proposition 15

(a somewhat optimistic outlook)

Economic recovery is underway in the euro area,

even if only gradually and only for the “core” countries.

Annual percentage change in real GDP (2010 and 2011)

European Commission Spring Forecast

Source: European Comission, Spring Forecast, April 2010

More optimistic: OECD Spring Forecast

Source: OECD, Economic Outlook, May 2010

III. Final remarks

Thanks for listening ..

and have a nice evening