The Greek crisis is one of the worst in history, even in the context of recorded ‘trifecta’ crises – the combination of a sudden stop with output collapse, a sovereign debt crisis, and a lending boom/bust. This column quantifies the role of each of these factors to better understand the crisis and formulate appropriate policy responses. While fiscal consolidation was important in driving the drop in output, it accounted for only for half of that drop. Much of the remainder can be explained by the higher funding costs of the government and private sectors due to the sudden stop.
Pierre-Olivier Gourinchas, Thomas Philippon, Dimitri Vayanos, 05 August 2016
Charles Wyplosz, 01 August 2016
The German Council of Economic Advisors recently proposed a mechanism for the orderly restructuring of sovereign debt in the Eurozone. This column argues that the proposal suffers from some inherent weaknesses. The proposal builds on logical errors and embeds well-established ideas in a setup that suffers from serious limitations. It also neglects alternative strategies that favour targeting large debts as soon as possible.
The conference, jointly organised with Horizon 2020 ADEMU and The European Stability Mechanism (ESM), aims to bring together leading scholars to discuss theoretical and empirical issues in sovereign debt sustainability. In particular, we are interested in papers that deal with debt maturity structure, official lending, crisis resolution frameworks, and multiple equilibria, among others. The goal is to identify priorities for both future research and policy-making as it relates to recent developments in the Euro Area and multilateral lending frameworks. The conference will be structured to facilitate interaction and discussion among leading academics and policymakers.
Jochen Andritzky, Lars Feld, Christoph Schmidt, Isabel Schnabel, Volker Wieland, 21 July 2016
To make the no-bailout clause credible and to enhance the effectiveness of crisis assistance, private creditors should contribute to crisis resolution in the Eurozone. This column proposes a mechanism to allow for orderly restructuring of sovereign debt as part of ESM programmes. If debt exceeds certain thresholds, the mechanism triggers an immediate maturity extension. In a second stage, a deeper debt restructuring could follow, depending on the solvency of a country. The mechanism could be easily implemented by amending ESM guidelines.
Fabrice Collard, Habib Michel, Jean-Charles Rochet, 13 July 2016
Since the Global Crisis, sovereign debt levels have exploded in many OECD countries. This column presents a new measure of government debt – maximum sustainable debt. This measure takes account of the fact that a shortfall in growth naturally increases the probability of default, while allowing for the possibility of rollover. Applications to recent data suggest that without sufficient institutional constraints, governments will generally borrow up to a level close to the maximum that can be sustained.
Steven Ongena, Alexander Popov, Neeltje van Horen, 17 March 2016
The European sovereign debt crisis has triggered speculation that part of the increase in banks’ holdings of domestic sovereign debt was driven by ‘moral suasion’ by governments. This column shows that domestic banks in fiscally stressed countries were considerably more likely than foreign banks to increase their holdings of sovereign bonds in those months when the government had to issue a large amount of new debt. This suggests that governments indeed ‘morally sway’ their banks to purchase domestically issued sovereign bonds when sovereign bond markets are stressed.
Peter Goves, Michael Spies, Alessandro Tentori, 02 March 2016
Sovereign risk and its treatment by European banks is a frequently debated topic. In particular, regulators are focusing on zero risk weighting and large exposure limits. This column argues that redesigning the macroprudential framework for sovereign risk management will be a key theme in the years to come. Depending on the exact outcome, the structure of the EZ bond market might look very different from its current shape. This could have far-reaching consequences for both the ECB’s monetary policy strategy and investors alike.
Daniel Gros, 12 February 2016
The Eurozone’s ‘Banking Union’ created a system of banking supervision and a common institution to restructure troubled banks. There remain two issues, however, that need to be addressed: banks are holding too much debt of their own sovereign, and deposit insurance is only backstopped at the national level. This column argues that these issues need to be addressed simultaneously for economic and political reasons. Specifically, periphery and core countries hold opposing positions on remedies to the respective problems. A combination of the two makes economic sense and could represent an acceptable political compromise.
Andrea Consiglio, Stavros Zenios, 02 January 2016
Contingent debt has been gaining ground as a tool for banking stability. This column argues for the advantages of sovereign debt with a contingent payment standstill. Sovereign contingent debt would have instigated early responses for Eurozone crisis countries ranging from a couple of months (Ireland) to almost two years (Cyprus). Pricing simulations illustrate how this financial innovation creates appropriate incentives for sovereigns and addresses creditor moral hazard. Using contingent debt for Greece, we illustrate that the country’s debt profile can improve significantly.
Bálint Horváth, Harry Huizinga, Vasso Ioannidou, 31 July 2015
When banks invest heavily in sovereign debt, and in domestic sovereign debt in particular, the result is a debt home bias. This column presents evidence of a partially voluntary and partially involuntary sovereign debt home bias among large European banks. This bias is stronger if the sovereign is risky and shareholder rights are strong or the government has a positive ownership in the bank. Also, banks with a strong home bias are valued positively by the stock market.
Tamon Asonuma, Said Bakhache, Heiko Hesse, 04 July 2015
Home bias in banks’ holdings of domestic government debt could pose problems for financial stability and crisis management. This column discusses some of the determinants of this bias. Factors that increase macroeconomic instability are associated with higher home bias, while better investment opportunities in the private sector and better institutional quality reduce home bias.
Urszula Szczerbowicz, Natacha Valla, 09 April 2015
Sovereign bonds are the latest and biggest quantitative easing (QE) policy conducted by the Eurozone. This column argues that instead of sovereign bonds, the Eurozone should focus on assets that are the closest to job-creating, growth-enhancing, and innovation-promoting activities. In particular, instruments issued by agencies and European institutions should be given a prominent role. But they should also be selected to promote the financing of long-term growth and jobs, not of unsustainable government expenditure.
Michal Kobielarz, Burak Uras, Sylvester Eijffinger, 12 March 2015
The Eurozone Crisis has been characterised by a sharp rise in sovereign interest rates in peripheral countries. The re-emergence of spreads between peripheral and core Eurozone countries at the start of the Greek crisis came after a decade of homogeneous interest rates in the monetary union. This column investigates the behaviour of spreads through the lens of a theory of implicit bailout guarantees.
Sebastian Edwards, 04 March 2015
There were 24 sovereign defaults and debt restructurings between 1997 and 2013. Using data on 180 debt restructurings – for both sovereign bonds and sovereign syndicated bank loans – this column argues that the roughly 75% ‘haircut’ Argentina imposed on its creditors in 2005 was an outlier. Greece’s ‘haircut’ of roughly 64% in 2012, by contrast, was in line with previous experience.
Lars Feld, Christoph Schmidt, Isabel Schnabel, Benjamin Weigert, Volker Wieland, 20 February 2015
Claims that ‘austerity has failed’ are popular, especially in the Anglo-Saxon world. This column argues that this narrative is factually wrong and ignores the reasons underlying the Greek crisis. The worst move for Greece would be to return to its old ways. Greece needs to realise that things could actually become much worse than they are now, particularly if membership in the Eurozone cannot be assured. Instead of looking back, Greece needs to continue building a functioning state and a functioning market economy.
Julio Escolano, Laura Jaramillo, Carlos Mulas-Granados, Gilbert Terrier, 27 February 2015
Fiscal consolidation is back at the top of the policy agenda. This column provides historical context by examining 91 episodes of fiscal consolidation in advanced and developing economies between 1945 and 2012. By focusing on cases in which the adjustment was necessary and desired in order to stabilise the debt-to-GDP ratio, the authors find larger average fiscal adjustments than previous studies. Most consolidation episodes resulted in stabilisation of the debt-to-GDP ratio, but at a new, higher level.
Luis Garicano, Lucrezia Reichlin, 14 November 2014
The ECB seems to be edging towards QE, but faces a quandary on what to buy. This proposal suggests that the ECB buy ‘Safe Market Bonds’. These would be synthetic bonds formed by the senior tranches of EZ national bonds combined in GDP-weighted proportions. The ECB would merely announce the features of the synthetic bonds it will purchase. The market would create the bonds in response to this announcement, thus avoiding new EZ-level institutions or funds.
Irina Balteanu, Aitor Erce, 12 November 2014
The feedback loop between banking crises and sovereign debt crises has been at the heart of recent problems in the Eurozone. This column presents stylised facts on the mechanisms through which banking and sovereign crises combine and become ‘twin’ crises. The results point to systematic differences not only between ‘single’ and ‘twin’ crises, but also between different types of ‘twin’ episodes. The timing of ‘twin’ crises – which crisis comes first – is important for understanding their drivers, transmission channels, and economic consequences.
S. M. Ali Abbas, Laura Blattner, Mark De Broeck, Asmaa El-Ganainy, Malin Hu, 27 October 2014
There has been renewed interest in sovereign debt since the Global Crisis, but relatively little attention has been paid to its composition. Sovereign debt can differ in terms of the currency it is denominated in, its maturity, its marketability, and who holds it – and these characteristics matter for debt sustainability. This column presents evidence from a new dataset on the composition of sovereign debt over the past century in 13 advanced economies.
Carmen Reinhart, Christoph Trebesch, 21 October 2014
To work towards resolving Europe’s ongoing debt crisis this column looks to the past. From the recent emerging market debt crisis (1980s-2000s) and the interwar episode of the 1920s-1930s we learn that debt write-downs and defaults are able to be postponed but not prevented. Punishment for default is temporary, sometimes followed by a renewed surge in borrowing that leads to another crisis.