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Debt and Taxes in the Eurozone

BRUSSELS – The current crisis in the eurozone is known around the world as the “euro sovereign-debt crisis.” But the crisis is really about foreign debt, not sovereign debt.

The importance of foreign debt is well illustrated by the case of Portugal: although the country’s public-debt and deficit ratios are broadly similar to those of France, the risk premium on its public debt increased continuously, until it was forced to turn to the European rescue fund. The key problem confronting Portugal is thus not fiscal policy, but the high (foreign) debt of its private sector – its banks and enterprises.

The limited importance of public debt alone is also evident in Italy and Belgium. Both countries have much higher debt-to-GDP ratios than Portugal, but both are paying a much smaller risk premium. The key reason is that they both have very little foreign debt (Belgium is actually running a current-account surplus). Indeed, although Belgium’s debt ratio is above the euro area average (at around 100 % of GDP), the country still pays a risk premium of less than 100 basis points – despite being without a government for more than a year.

Why are markets focusing on foreign debt? One reason, of course, is that in a crisis, private debt tends to become public debt. Financial markets thus look at the overall indebtedness of a country. But it matters to whom this debt is owed.