Groundhog Day in Europe

European policymakers have to be concerned that the half-life of their Band-Aids is getting shorter and shorter while resistance to these measures gets stronger and stronger.

More than two years into the European debt crisis and 19 European summits later, an all-too-familiar pattern has established itself. Generally, these summits are convened in response to an intensification of a crisis, and generally they come up with just enough of a policy response to defuse the crisis for a short while. However, once markets figure out that the policy response merely addressed the symptoms rather than the underlying causes of the crisis, it soon re-emerges in a more virulent form.

Last week’s European summit seems to have followed this pattern and it remains to be seen whether this time around it buys Europe as much market calm as previous summits. By allowing the European Stability Mechanism (ESM) to lend directly to the Spanish banks and by allowing the ESM to buy sovereign debt of Italy and Spain in the markets, the European summit has provoked a sharp short-covering rally in European equity and bond markets. However, one would have to be blind to the experience of past European summits to think that last week really provided a long-term solution to the European debt crisis.

Among the reasons for skepticism as to the longer-run efficacy of last week’s agreement is that it did not add new money to the European firewall for Italy and Spain. All that it did was to make it easier to use the existing funds that had been set aside for that purpose. One would expect markets to quickly come to the conclusion that the firewall established to prevent the crisis from engulfing Italy and Spain remains woefully inadequate to the task of bailing out both of those countries.

Read the full article at The American.

Desmond Lachman is a resident fellow at the American Enterprise Institute.

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About the Author

 

Desmond
Lachman
  • Desmond Lachman joined AEI after serving as a managing director and chief emerging market economic strategist at Salomon Smith Barney. He previously served as deputy director in the International Monetary Fund's (IMF) Policy Development and Review Department and was active in staff formulation of IMF policies. Mr. Lachman has written extensively on the global economic crisis, the U.S. housing market bust, the U.S. dollar, and the strains in the euro area. At AEI, Mr. Lachman is focused on the global macroeconomy, global currency issues, and the multilateral lending agencies.
  • Phone: 202-862-5844
    Email: dlachman@aei.org
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    Phone: 202.862.5862
    Email: emma.bennett@aei.org

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