GermanEuropean dept crisis – An honest solution – advantages and disadvantages
What are the advantages and disadvantages of the different solutions to overcome the European dept crisis? It’s the honest path based on market principles versus the current attempt to collectivize European depts. in the European Stability Mechanism (ESM).
Lets begin with the disadvantages of the honest path:
The main disadvantage of the market solution is the fact, that it will cause sharp reactions on the financial markets for a short period of time. It is clear that some market players will react in panic until even the last fund manager realises that it is better to accept a financial loss in order to get their feet back on stable grounds. Until then, those affected states might be cut off from the capital market.
The International Monetary Fund (IMF) should prepare for granting short term support in the form of loans. This is to overcome the transitional financial difficulties. It must be the IMF, and not a different European assistance agency such as the ESM or ESFS – this would not be in compliance with the Euro zone agreements.
Once again: It is ok to burden financial losses to creditors of state bonds, as they were gaining benefits of the interests payed before. A right to government bonds carrying no risk is complete rubbish. The growing interest rates on the government bonds are necessary, as now they include the risks that comes along. The fact that this raise happens simultaneously with the current cuts of public spending in Greece, Italy or elsewhere is not pleasant. But it is unavoidable.
The next disadvantage could be the fact that the financial crises may develop into a real economic crisis, hence a crisis of production and services enterprises that do not provide financial services.
In general, a crisis in bakeries for example is indifferent to us, for as long as we continue to receive our bread in the mornings. The is true for the financial sector. As long as there is enough liquidity for investments, for constructions and for other needs of a real economy available, the crisis among the financial institutions does not affect the real economy. The task of providing money lies with the emission banks – for us the European Central Bank (ECB) or the Federal Bank in Germany. The emission banks dealt very well with this task and are fulfilling it until today.
The real economy will only then face difficulties, if self-made bubbles implode simultaneously. This means that if there are already problems in the structure of a particular industry, then these problems will come up altogether. This effect was seen in numerous cases in 2008 and 2009, specifically in the construction sector. For example, the bursting of the bubble on the real estate market in the US (Subprime), in Spain and Ireland happened all at the same time. Thanks god, the last large, cleaning crisis took place just a few years ago. So there was not enough time to create new bubbles, yet.
In any case, the real economy will witness different market structures and demands. For example, the demands for German submarines will decrease, because Greece and other states will cut their defense funds. Therefor the demand for hotel supply might increase, because the Greek will concentrate on what they are good in: providing excellent vacation ressorts.
Let us now move to the advantages of the honest path for overcoming the debt crisis:
The first advantages is the amount of money spent by the taxpayers of the solvent European states. For the example of Germany, there is the amount of EUR 50 billion on the one hand, towards EUR 211 billion or more on the other hand.
Another advantage is the final conclusion of the debt crisis through the honest path. In this solution, the entire weakness of the situation comes into light through the debt decrease negotiations. This causes a cleansing storm, after which trust will be built on a solid basis. The known adage proves correct here: Better an end with terror than terror without an end.
Another advantage of the honest path are the incentives implied for the decision makers. For sure, the bonuses for the risks on the interest rates are an evident lesson for the politicians dealing with Europe’s budget policy. Only this can limit the freedom of spending money and can lead to a better budget discipline. Europe will become more stable!
However, the words of caution and the shaking of the finger from Berlin or Brussels would be received in Rome, Athens or anywhere else as strange gestures of an entertaining value. Therefore, higher interest rates including risk bonuses imposed by the financial markets, are the better instrument to discipline national budget spendings. This instrument is more subtle and more efficient.
The next advantage of the honest solution is the greater prosperity of all entities in Europe. By the savings packages, the social welfare of the citizens in the indebted states will suffer. But by the redemption of their debts, these states will soon return to function normally again, and the citizens will be able to make their way once again to economical prosperity. This stands in comparison to those many years of insecurity and depression that come by collectivizing the debts on a European level.
For the healthy states in Europe, the benefits are obvious. The money needed for the honest path is much less than the money necessary to cover Eurobonds. Eurobonds would imply higher debts in the solvent states, like Germany, and would lead to inflation and to high tax burdens for their citizens. Both effects would prevent future economic development.
The next advantage is the possibility to steer the process of running into debts. Nobody would seriously believe that some high commissioner for budgets can control the spendings in Athens, Rom or elsewhere successfully! As long as there is no national majority for conservative budget management any attempts from outside are doomed to fail.
Efficient motivations to steer towards sound budgets can only come from the financial markets. By lending money or rejecting credits on a voluntary basis, investors clearly show what they like and what they dislike.
The last advantage of the honest path is the quickness of a clear solution. The basic settings are decided in a few weeks only. Then there comes half a year of shock in financial markets. After this, the first positive results will get visual and the press atmosphere will become optimistic. Then there is no other way than to economical stability and prosperity.
However, in the other case of the collective debts or Euro-bonds, the real debt party is yet to start. Bringing down all the debts will take years if not decades. In some countries it seems currently, that they even haven’t stopped to go into more debts so far.
With these mentioned advantages and disadvantages, I don’t claim to have all aspects touched. But, if you think about it shortly, it will get crystal clear, that there is only one way out of the European debt crises than the honest path.
So let us begin !
All the best
Yours Albert Sauter