Euro area sovereign debt – road to ruin or salvation?

The risk premiums that have to be paid by a number of EMU countries on the capital market remain stubbornly high. This is testimony to the lack of confidence in these countries' ability to get to grips with their debt problems without the need for debt restructuring. It is not, however, just the financial markets, but also policymakers that seem increasingly convinced of the need for debt restructuring. There are signs that the EU and major national governments are starting to consider debt restructuring for Greece.

To date, however, no generally applicable criteria for sovereign debt restructuring have been defined. So what criteria can be used to determine when sovereign debt restructuring is advisable or even imperative? Greece's government debt ratio came in at 140% of GDP last year, but then, Japan's was as high as 200%. As the Japanese example shows, high debt levels do not necessarily translate into a considerable interest burden for a country's budget if investors on the capital market are prepared to lend the state money at a low interest rate. Greek interest payments in 2010 totaled around 6% of GDP – back in 1995, they were still hovering at around 11% of GDP. These examples show that pinpointing generally valid criteria for debt restructuring poses something of a challenge. It is a challenge that has eluded even the IMF in the many years of its existence.

Dr. Michael Heise

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