Consequences of the new EU debt-reduction rule

Since the beginning of the European debt crisis, most economists have focused on the potential consequences of a breakup of the euro zone. It’s easy to understand why. Although unlikely, a euro-zone breakup would be a potentially cataclysmic event that would leave the world economy in tatters. Economist Milton Friedman famously predicted the euro zone would fail when confronted with its first systemic crisis because it was a fair-weather construction.  

Gianluca Cafiso, Roberto Cellini, 20 March 2012As fiscal-consolidation policies are being implemented across the EU, a debate has been developing concerning the effects of such policies on the dynamics of the debt-to-GDP ratio. This column examines past episodes and finds that following fiscal adjustment may have favourable effects in the short term but that the two-year cumulated changes have been mainly adverse. Full Article: Fiscal consolidations for debt-to-GDP containment?

Back in November of last year, when Jeff Frieden and I were putting the finishing touches on Lost Decades, we wrote: Many countries with foreign debts in their own currency reduce their real debt burden by allowing their currency to drop in value, so that foreigners get repaid in less-valuable currency.

Viral Acharya, Raghuram Rajan, 24 November 2011Why do governments repay external borrowing? This column argues that myopic governments seeking popularity do not default when they are poor because they would lose access to debt markets and be forced to reduce spending. And they do not default when rich because of the adverse consequences to the domestic financial sector.

The eurozone finance ministers postponed agreement on the next Greek deal following a rare public feud between IMF chief Christine Lagarde and "Liar-in-Chief" Jean-Claude Juncker, chair of the eurogroup of finance ministers. Recall that Juncker once publicly stated "When it Becomes Serious, You Have to Lie".