Managing the Crisis

Manfred J.M. Neumann

University of Bonn

Munich, 30. April 2010

2 Remarks on Bank Regulation and Supervision

1. Core capital

relative to non-weighted assets: 10 %

2. European Systemic Risk Board (ESRB)

for monitoring macro-prudential risk:

ECB/ESCB-council can take care of that

Economic indicators Averages 2000-2008

Greece Euro 16 Germany

GDP growth, % 4.0 2.0 1.5

Total consumption (private + public) % of GDP 89.1 77.3 77.2

Personal savingsratio 0.5 11.5 16.1

-14

-12

-10

-8

-6

-4

-2

0

2

-14

-12

-10

-8

-6

-4

-2

0

2

00 01 02 03 04 05 06 07 08 09 10

Deficit/GDP ratiosDeficit/GDP ratios

Germany

Euro 16

Greece

Eurostat data

Twin deficits

2000 2008 2009

% of GDP

Deficit - 3.7 - 7.7 - 13.6

Current account - 7.7 - 14.6 - 11.2

EUR billion

Deficitprimary - 5.0 - 7.4 - 20.3interest expend. - 0.1 - 10.9 - 12.0

total - 5.1 - 18.3 - 32.3

Current account - 10.6 - 34.8 - 26.6

Back on the envelope (EUR billion):

Suppose the Greek deficit will be cut by EUR 10 billion (4 % of GDP) each year:

If half Debt redempt. + fresh deficit = demand for support comes true

2010 24.5 20.8* 45.3 50.3

2011 31.3 11.6 44.9 49.9

2012 31.7 1.6 33.3 123.5 38.3 138.5

2013 24.8 - 8.4 16.4 21.4

2014 31.6 - 18.4 13.2 153.1 18.2 178.1

* Plan of 1. April 2010

The support-package for Greece

builds on deficit cuts of 4 % of GDP each year

plus

devaluation by command “your wages will be cut by 25 %”

John Maynard Keynes

Credible?

How long will the Greek government be able to deliver ??

If the Greek government cannot deliver - the Euro-EU will transform into a transfer union

having to push up transfers year after year

- danger of moral hazard

why not imitate ?

How long would the game be tolerated in the rest of euro 16 ?

Note:

Each aid package is a combination of

a bail-out of investors

plus a bail-out of Greek government

Question:

Why not have investors take their share in the bail-out ?

The rejected alternative solution:

1. Debt moratorium with partial cessation

Losses (EUR billion)

Suppose a hair cut of 20 % 33 %

France 10.0 16.7

Germany 5.6 9.3

Italy 4.0 6.7

Belgium 3.4 5.7

Netherlands 3.0 5.0

2. Deliberate exit from the euro to effect real devaluation

5 years

well-defined re-entry (criteria)

The choices for Greece are

a few years of costly restructuring with a new currency plus devaluation

or long-run stagnation with overvaluation under the euro regime

Domino ?

- unlikely but cannot be ruled out given other overindebted countries

- if the fundamental conditions for a domino exist, it will happen, anyway,

as the EuroEU will hardly be ready to put up rescue packages for more countries.

Stability and Growth Pact

needs rewriting

Problem:

how to achieve incentive compatibility?

More biting sanctions - loss of financial aid - temporary loss of voting rights- temporary loss of euro-membership ?

Automatic start of sanctions ?

rules with trigger points