Wednesday, October 26, 2011

Eurozone versus US Debt

Eurostat a couple of days ago released 2010 data for government debt and deficits.  Above I contrast the total Eurozone gross debt with that of the US (US data from the IMF) as a fraction of their respective GDPs.  It's interesting to note that the US debt is higher than Eurozone debt, and the US has overall acted in a more stimulative manner in response to the 2008 crisis than has the Eurozone.

This makes it clear that the present crisis in Europe is not a function of the overall level of the debt across the entire Eurozone but rather of inadequate institutional arrangements for coping with the way it is distributed.

It doesn't sound like the next summit meeting is likely to have a big impact on the problem:
New fissures and disagreements emerged on Tuesday on the eve of a European Union summit meeting promoted as the moment for agreement on a comprehensive solution to the two-year-old euro crisis. Crucial financial measures were left unresolved, and Prime Minister Silvio Berlusconi of Italy faced strong opposition inside his governing coalition to major changes demanded by the Europeans.
From all appearances this week, this could be another disappointment, an agreement on a general plan but without many specifics, and probably without the massive “wall of money” to protect vulnerable Italy and Spain that the markets have demanded.

In addition, a meeting of European Union finance ministers, set for Wednesday before the summit meeting, was abruptly canceled on Tuesday, largely because of continuing negotiations with banks over a reduction in the face value of Greek debt — a so-called haircut — of up to 60 percent instead of the 21 percent previously agreed to but considered grossly inadequate by most economists.

The Europeans want the banks to agree to the losses voluntarily, to avoid a formal default that would incite unpredictable events. But the banks have negotiating capital, too, and are stretching out the talks. At the same time, officials in Brussels said, it was difficult to sign off on bank recapitalization — considered pretty much a done deal — until they were clear about the real value of the Greek debt in the banks’ portfolios.

The Europeans also want Mr. Berlusconi to live up to his promises to do more to reduce Italy’s huge accumulated debt — about $2.65 trillion euros, or 120 percent of gross domestic product, among the highest in the developed world — and to promote economic growth in a largely stagnant economy. While Italy’s annual deficit is modest, the debt overhang means that speculation is driving up the cost of financing that debt, which if unchecked, could tear holes in the budget.
My view is that since the present level of crisis is not enough to drive eurozone politicians into an adequate solution, the crisis will have to worsen first.  Since it seems unlikely to get better by itself (with growth slowing and Italian interest rates rising) it seems likely that at some point European leaders will be staring into the abyss.  At that point they will most likely finally come up with some adequate set of arrangements (most likely by finding a way to allow the ECB to finance government debt on a larger scale).  If that proves impossible then I suppose there's likely to be a massive financial crisis as multiple banks fail - given that that is in no-one's interest, I expect a solution to be found.

So my view is still "it has to get worse before it can get better".


The Arthurian said...

Any thoughts on private debt?

sinbad said...

There are differences among accountability systems. Us public debt ls far worse. Because it's federal debt only.

Hypnos said...

EU vs US savings rate:

Data from 2007, there's probably something more recent now.

James said...

Well, allowing the ECB to finance government debt on a larger scale is going to remind the Germans of Weimar hyper-inflation ... and to work will have to be a transfer union by stealth.

Everyone agrees that nobody wants the EMU to break up ... but all of the viable alternatives are unpalatable to European voters.

My guess is that they will just keep promising unicorns until a crisis forces the breakup. I think French bond spreads are the key indicator to watch at this point.