Stephen King: Simply making debtors suffer is not a solution to the eurozone crisis

Economic Outlook: The eurozone is fast becoming enclosed in a straitjacket that was manufactured in Germany

Mrs Merkel likes a bit of discipline. I'm not sure Mr Sarkozy shares her enthusiasm. The eurozone, however, is rapidly being enclosed in a Teutonic straitjacket – with perhaps a soupçon of French collaboration – designed to prevent countries from indulging in fiscal self-abuse. Whereas schoolmasters of old warned only of impending blindness, budgetary self-abuse in the eurozone will be met in the future by the imposition of automatic fines. Those who borrow too much will be given a sharp fiscal thwack.

There is, however, a limit to the amount of masochism a sane nation state can put up with. Under the proposed new rules, eurozone countries should strive to deliver fiscal positions close to balance, be subject to automatic punishments should their deficits exceed 3 per cent of GDP and, moreover, hit the so-called "golden rule" whereby they borrow only for investment purposes (in the UK's case, the golden rule introduced by Gordon Brown ultimately proved utterly useless). It sounds all so terribly mediaeval; it also sounds implausible.

People in the UK are already complaining about austerity but George Osborne, the Chancellor of the Exchequer, aims to reduce the budget deficit to 3 per cent of GDP only by the middle of this decade (and to hit the golden rule on a cyclically-adjusted basis by 2017-18). His case is helped by remarkably low bond yields and the Bank of England's willingness to print money (which involves buying second-hand gilts, helping to explain low yields).

Elsewhere in Europe, however, there is no such support. Spain enjoys arguably a better fiscal position than the UK yet its 10-year bonds yield 5.8 per cent, hugely increasing the costs of servicing Spanish debt. The European Central Bank (ECB), meanwhile, is steadfastly refusing to turn on its printing press in any kind of meaningful way, leaving debtor nations at the mercy of nervous investors. Compared to the problems faced by the eurozone's southern states, the UK's fiscal challenge is no more than a walk in the park.

The Franco-German plan is designed to make sure the eurozone will never again succumb to an economic and financial meltdown. The intention is honourable, but it's difficult to see how the plan can really work. The starting point is hopeless, raising doubts about whether the plan will ever be effective. And it is designed only to look after Europe's creditors. It offers little to help solve current systemic difficulties.

The debtors have been cast to one side in a fit of moral superiority from those who, understandably, want their money back. Those with large deficits – or persistently-rising ratios of debt to GDP – will have to deliver ongoing austerity for years. Their people will suffer collective punishment, even though many are innocent victims of the stupidity of their fellow-citizens, or of the blind greed of creditors from elsewhere in Europe who lent them so much money in the first place. Greece and Italy have technocratic leaders. Democracy, it seems, is under threat.

And markets are all-too-aware of the possibility of debtors simply being unable to pay. In coming months, eurozone governments will have to issue new government paper as existing bonds mature. Some of these bond auctions might fail, beckoning in a world of default and greater instability.

The problem lies with the creditors' adoption of the moral high ground. For every creditor, there must be a debtor. For every country with a balance of payments current account surplus (Germany, for example), there must be another with a current account deficit (Italy or Spain, for example). The idea that the creditors are "worthy" while others are "irresponsible" doesn't stack up. Creditors and debtors are two sides of the same coin and coins, in general, have no moral status.

Both sides have been caught out by a serious shortfall of income associated with the original financial crisis. Levels of economic activity across the West are much lower than either party assumed a few years ago. As a result, the ability of debtors to repay their creditors has been reduced.

Prior to the onset of the financial crisis, most eurozone countries appeared to have relatively healthy fiscal positions. They had no difficulty in looking after creditors. But this rectitude could not prevent them from being in a total mess today. Mrs Merkel's fiscal whip, if used, would lash countries already on their economic knees.

The political battle between the interests of creditors and debtors is a consequence of the economic paralysis engulfing the western world since "sub-prime" entered popular discourse.

The eurozone plan is no more than an attempt to create a new legal and political framework to look after the interests of creditors and to make debtors suffer. By doing so, it threatens to introduce Keynes's paradox of thrift on the grandest of scales. If the southern European nations end up like Germany, saving not spending, who in Europe will do the spending? It's not possible to have a one-sided coin. But it is possible to have economic collapse.

For those interested in the history of these political battles, a new book published at the beginning of the month is particularly illuminating. Philip Coggan's Paper Promises: Money Debt and the New World Order (Allen Lane) is a masterful history of financial crises, always with one eye on the situation unfolding today. The 19th Century Gold Standard debates, the reluctance to create an independent Federal Reserve, the battle between fixed and floating exchange rates in the 1970s and today's Sino-US exchange rate dispute are all linked to the differing interests of creditors versus debtors.

As Coggan notes, many of these crises were resolved in the interests of the debtor. We can see the same process at work today. When the US and the UK indulge in quantitative easing, the supply of dollars and sterling goes up. That threatens either higher domestic inflation or a weaker currency. A weaker currency, in turn, shifts the burden from domestic debtors to foreign creditors who discover that, considered in their local currencies, the value of their US and UK assets has gone down. Printing money is a stealthy way of default.

Within the eurozone, however, the opportunity for stealthy default has been removed. As a consequence, the risk of actual default has gone up. Yet demanding continuous austerity from the periphery to force them to "mend their ways" will only make matters worse particularly, as now seems highly probable, the eurozone as a whole plunges into recession.

Systemic abuse, it turns out, is far more harmful than any self-abuse.

Suggested Topics
PROMOTED VIDEO
Arts and Entertainment
booksPhotographer Richard Young has been snapping celebrities at play for 40 years - but he says it wasn’t all fun and games...
News
i100
Sport
Aguero - who single-handedly has kept City's Champions League dreams alive - celebrates his dramatic late winner
footballManchester City 3 Bayern Munich 2: Argentine's late hat-rick sees home side snatch vital victory
News
Muhammad Ali pictured in better health in 2006
peopleBut he has enjoyed publicity from his alleged near-death experience
Arts and Entertainment
Tony breaks into Ian Garrett's yacht and makes a shocking discovery
TVReview: Revelations continue to make this drama a tough watch
News
news
News
ebooksNow available in paperback
News
peopleSinger tells The Independent what life is like in rehab in an exclusive video interview
News
The assumption that women are not as competent in leadership positions as men are leads to increased stress in the workplace
science... and it's down to gender stereotypes
Arts and Entertainment
Inner sanctum: Tove Jansson and friends in her studio in 1992
booksWhat was the inspiration for Finland's most famous family?
News
i100
Arts and Entertainment
Singer songwriter Bob Dylan performs on stage
films
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Citifocus Ltd: Product Development - Asset Management

£Attractive: Citifocus Ltd: High calibre individual with significant product d...

Citifocus Ltd: Credit Ratings - Banking Sector

£Negotiable: Citifocus Ltd: Leading global bank seeks experienced credit analy...

Citifocus Ltd: Economic Crime Investigation & Analysis

£Attractive Package: Citifocus Ltd: High calibre individual with a high degree...

Citifocus Ltd: Snr Risk Analyst - Capital & Liquidity

£Attractive: Citifocus Ltd: High calibre individual with superior academics an...

Day In a Page

Homeless Veterans Christmas Appeal: Drifting and forgotten - turning lives around for ex-soldiers

Homeless Veterans Christmas Appeal: Turning lives around for ex-soldiers

Our partner charities help veterans on the brink – and get them back on their feet
Putin’s far-right ambition: Think-tank reveals how Russian President is wooing – and funding – populist parties across Europe to gain influence in the EU

Putin’s far-right ambition

Think-tank reveals how Russian President is wooing – and funding – populist parties across Europe to gain influence in the EU
Tove Jansson's Moominland: What was the inspiration for Finland's most famous family?

Escape to Moominland

What was the inspiration for Finland's most famous family?
Nightclubbing with Richard Young: The story behind his latest book of celebrity photographs

24-Hour party person

Photographer Richard Young has been snapping celebrities at play for 40 years. As his latest book is released, he reveals that it wasn’t all fun and games
Michelle Obama's school dinners: America’s children have a message for the First Lady

A taste for rebellion

US children have started an online protest against Michelle Obama’s drive for healthy school meals by posting photos of their lunches
Colouring books for adults: How the French are going crazy for Crayolas

Colouring books for adults

How the French are going crazy for Crayolas
Jack Thorne's play 'Hope': What would you do as a local politician faced with an impossible choice of cuts?

What would you do as a local politician faced with an impossible choice of cuts?

Playwright Jack Thorne's latest work 'Hope' poses the question to audiences
Ed Harcourt on Romeo Beckham and life as a court composer at Burberry

Call me Ed Mozart

Paloma Faith, Lana del Ray... Romeo Beckham. Ed Harcourt has proved that he can write for them all. But it took a personal crisis to turn him from indie star to writer-for-hire
10 best stocking fillers for foodies

Festive treats: 10 best stocking fillers for foodies

From boozy milk to wasabi, give the food-lover in your life some extra-special, unusual treats to wake up to on Christmas morning
Phil Hughes head injury: He had one weakness – it has come back to haunt him

Phil Hughes had one weakness – it has come back to haunt him

Prolific opener had world at his feet until Harmison and Flintoff bounced him
'I have an age of attraction that starts as low as four': How do you deal with a paedophile who has never committed a crime?

'I am a paedophile'

Is our approach to sex offenders helping to create more victims?
How bad do you have to be to lose a Home Office contract?

How bad do you have to be to lose a Home Office contract?

Serco given Yarl’s Wood immigration contract despite ‘vast failings’
Green Party on the march in Bristol: From a lost deposit to victory

From a lost deposit to victory

Green Party on the march in Bristol
Putting the grot right into Santa's grotto

Winter blunderlands

Putting the grot into grotto
'It just came to us, why not do it naked?' London's first nude free runner captured in breathtaking images across capital

'It just came to us, why not do it naked?'

London's first nude free runner captured in breathtaking images across capital