Three Steps to Resolving the Eurozone Crisis

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Three steps to resolving the eurozone crisis A comprehensive solution to the euro crisis must have three major components: reform and recapitalisation of the banking system; a eurobond regime; and an exit mechanism. First, the banking system. The European Union’s Maastricht treaty was designed to deal only with imbalances in the public sector; but excesses in the banking sector have been far worse. The euro’s introduction led to housing booms in countries such as Spain and Ireland. Eurozone banks became among the world’s most over-leveraged, and they remain in need of protection from counterparty risks. The first step was taken by authorising the European financial stability facility to rescue banks. Now banks’ equity capital levels need to be greatly increased. If an agency is to guarantee banks’ solvency, it must oversee them too. A powerful European banking agency could end the incestuous relationship between banks and regulators, while interfering much less with nations’ sovereignty than dictating their fiscal policies. Second, Europe needs eurobonds. The introduction of the euro was supposed to reinforce convergence; in fact it created divergences, with widely differing levels of indebtedness and competitiveness. If heavily indebted countries have to pay heavy risk premiums, their debt becomes unsustainable. That is now happening. The solution is obvious: deficit countries must be allowed to refinance their debt on the same terms as surplus countries. This is best accomplished through eurobonds, which would be jointly guaranteed by all the member states. While the principle is clear, the details will require a lot of work. Which agency would be in charge of issuing, and what rules would it follow? Presumably the eurobonds would be under eurozone finance ministers’ control. The board would constitute the fiscal counterpart of the European Central Bank;

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