Some unpleasant ECB arithmetic

From Nicholas Crafts of the University of Warwick.

The rules of the Eurozone prescribe a gross government debt ratio of 60%, and the debt-convergence rules adopted in the light of the crisis indicate that 1/20th of the excess over this level shall be removed each year. The OECD (2013) calculates that to stay within this rule for every year from 2014 to 2023, Greece will have to maintain a primary budget surplus of about 9% of GDP, Italy and Portugal about 6% of GDP, and Ireland and Spain about 3.5% of GDP. Table 3 shows that in the past, equivalently large reductions in debt ratios have to a large extent depended on favourable interest rate/growth rate differentials. It is difficult to see this being repeated in a slow growth environment where monetary policy is run by the ECB.

No Pollyanna, he;

 As the interwar experience underlines, a key starting point is for the ECB to ensure there is no price deflation in the Eurozone. Then, the alternatives to fiscal consolidation as a means of reducing public debt ratios are well known, namely, financial repression, debt forgiveness, or debt restructuring/default. Financial repression works on the interest rate/growth rate differential by way of the government being able to borrow at ‘below-market’ rates. Current EU rules severely limit the scope for this.¹ History suggests that a combination of financial regulations designed for the purpose, the re-introduction of capital controls, and a central bank willing to subvert monetary policy in the interests of debt management might be required. Debt forgiveness would be very expensive for the creditors – forgiving a quarter of the debts of Greece, Ireland, Portugal, Italy, and Spain would cost about €1,200 billion – and, in the absence of watertight fiscal rules to prevent a repeat, risks a serious moral hazard problem. ....

The implications of this discussion are quite uncomfortable. They are that, under the present agreements to resolve the crisis, several Eurozone economies face a long period of fiscal consolidation and low growth. 

You ain't just whistlin' Dixie, Bro.