The Eurozone: Challenges and Structural Problems
| DOI | http://doi.org/10.1111/j.1758-5899.2011.00092.x |
| Author | Helmut Kaiser |
| Date | 01 October 2011 |
| Published date | 01 October 2011 |
The Eurozone: Challenges and
Structural Problems
Helmut Kaiser
Deutsche Bank
The challenges faced by the Economic and Monetary
Union (EMU) countries are far more complex than the
current sole focus on sovereign debt suggests. Sovereign
debt has exploded of late in the wake of the economic
slump in 2008–09 and as a result of the high costs of
the banking sector bailouts that became necessary in
most cases after the property crises. However, in some
EMU countries there is, additionally, a structural growth
weakness, brought about by poor competitiveness.
Whether and how well the countries can master the
challenges depends on a number of internal and exter-
nal factors. The external environment is still supportive
at present: global interest rates are low and global
export demand is bolstering growth and thus the capac-
ity to service the debt. Yet, many internal factors such as
a political consensus in favour of wide-ranging economic
reforms, the structure of the debt, the quality of the
financing and, above all, the economic policy lessons
learned from the crisis (concrete form of the austerity
measures and reforms) diverge considerably from coun-
try to country. As a consequence of these differences, a
clear EU policy response going beyond liquidity facilities
and financial support remains outstanding. The current
problems have to be addressed and solved both at the
member state as well as the EU level in order for the
eurozone to be a long-term success. In other words,
collective action from Brussels can only work with mem-
bers’ policy making, but can never be a substitute for it.
The eurozone: a complex situation with
manifold challenges
The following paragraphs identify the most significant
structural challenges that almost all EMU countries face
and then highlight policy solutions.
First and foremost, an undercapitalised banking sector
and from 2007 to 2010 a surge in public debt have sent
shock waves through the eurozone (see Tables 1 and 2
below). The European banking sector’s strong interde-
pendence causes problems in one country to spill over
to others. This explains why almost all EMU countries
have problems in the banking sector (even though, as in
Germany for instance, there was no preceding consump-
tion and ⁄or property boom). In future, banks and sover-
eigns will be increasingly competing for scarce financial
resources. Banks’ financing problems and bad loans will
indirectly burden the state. Under the European safety
net, the implicit contingent liability for individual states
(and thus indirectly for their banks as well) is spread
over the EMU states (see Table 1). Furthermore, property
booms and busts and consumption booms leading to
overindebted households accentuate the adjustment
burdens. One lesson learned is that the more important
the banks or the property sector were in the economy
before the crisis, the greater the repercussions after the
crash. What is needed here is a convincing recapitalisa-
tion of troubled banks, application of proper risk man-
agement techniques and a balanced regulation of the
financial sector along the lines already discussed and
partially implemented (i.e. Basel III, Solvency II).
Second, a country’s growth potential is a key factor for
containing its escalating debt. However, whether and
how much economic growth can be achieved, and
whether this growth is sustainable over the longer term
also depends on the quality of economic policy. While
economic growth is essential to be able to service and
reduce the debt, there is a close correlation, too,
between the form of the restrictive course that is
needed in almost all EMU countries and growth. Saving
tends to dampen growth. But the negative effect on
growth depends to a large extent on the form of budget
consolidation: increasing revenues or spending cuts? If
taxes have to be raised, then it is more growth friendly
to raise indirect taxes (VAT) than direct wage and
income taxes. As far as possible, the spending cuts
should not be in growth-furthering education and infra-
structure measures, but in areas where government sub-
sidisation has diminished efficiency and competition.
Third, competitiveness. In some countries, the banking
sector and debt problems are compounded by the problem
of poor competitiveness, reflected as a rule in high current
account deficits. Weak competitiveness accentuates the
rigours of the necessary austerity process and often har-
bours other vulnerabilities because of the dependence
on external financing. Given that currency depreciation,
a means often resorted to in the past to mitigate
economy drives, is not an option within the eurozone,
export success depends on other criteria: labour cost
Global Policy Volume 2 . Issue 3 . October 2011
Global Policy (2011) 2:3 doi: 10.1111/j.1758-5899.2011.00092.x ª2011 London School of Economics and Political Science and John Wiley & Sons Ltd.
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