THE PAST seven days have seen some significant shifts in global economic policy. Last weekend the Group of 20 finance ministers of the world’s leading economies met in South Korea and reversed policy priorities that they had set only in April. Then, they favoured fiscal expansion – deficit spending – over fiscal austerity as the best means of achieving a sustainable global economic recovery. By last weekend, the collective view was that “countries with serious fiscal challenges need to accelerate the pace of consolidation”.
Market pressures and a developing sovereign debt crisis in the euro area had forced a reassessment. As France’s finance minister, Christine Lagarde noted, “addressing the public finances” had become priority number one for a large majority.
Against that background the German government on Monday announced €80 billion in budget cuts over four years. Chancellor Angela Merkel set an example in budget discipline that, she hoped, other euro zone countries might emulate. Spain, Portugal, and Italy have introduced major austerity programmes; France is preparing to do so; while Greece and Ireland have already imposed tough measures. But will fiscal tightening threaten the weak economic recovery now under way? Certainly, Germany’s reluctance to stimulate domestic demand will not help matters. Some countries, notably Greece, Portugal and Ireland, have no choice.
A month ago European Union finance ministers agreed a €750 billion aid package to tackle a euro zone debt crisis. As an interim measure, the European Central Bank (ECB) agreed to buy the government bonds of the weaker euro zone members to help stabilise their borrowing costs. On Monday, a €440 billion stabilisation fund was set up which will buy government bonds of the euro zone countries that have difficulty in financing their debt. But despite the ECB’s market intervention, bond yields in some peripheral economies – Spain, Portugal, Greece and Ireland – have started to rise again. Market concerns about sovereign debt have put pressure on the euro which fell to a four-year low against the dollar earlier this week.
The establishment of the stabilisation fund should remove any doubt about the commitment of euro zone governments to defending European monetary union. Both that and the agreement to accept tighter surveillance of national budgets are some of the essential first steps needed to restore investor confidence in the euro, and in the government debt of euro zone states.