Illiquid Europe

Why does every announcement of harsher governance rules for the eurozone merely fuel another round of financial turmoil? One need look no further than the mechanics of liquidity in a monetary union.

ROME – Crisis management in the eurozone has clearly failed to restore confidence. Indeed, following each of the six rounds of emergency measures implemented between May 2010 and December 2011, matters took a turn for the worse. Without fail, markets signaled growing doubt: interest-rate spreads over German Bunds increased in Portugal, Ireland, Italy, Spain, and Greece. Even Germany experienced a partial Bund auction failure in November 2011, while France lost its AAA rating from Standard & Poor’s in January 2012.

Germany and other Northern European countries maintain that the culprit is lax fiscal policy and excessive debt accumulation by other eurozone members. Their solution has been to strong-arm European Union countries into adopting strict fiscal governance and enforcement procedures.

As a result, fiscal consolidation and structural reform seem well under way in all of the “sinning” countries. Indeed, the International Monetary Fund now forecasts sovereign-debt stabilization by 2016 throughout the eurozone, except Greece.

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