Martin Feldstein: The Solution To The EU Debt Crisis Is To Become The US

martin feldstein

More and more the consensus seems to be gathering around the idea that the answer for Europe is to become more US-like in its political structure. Countries will be states. The EU will have its own treasury.

This will solve the dilemma of their being multiple treasuries and a single central bank, which for now, everyone seems to agree is a bad idea (not nobody thought it was a bad idea a couple of years ago, pre-crisis when the euro was very strong.).

In a WSJ op-ed, Martin Feldstein explores further the idea of Europe becoming more States-like:

Here there may be something to learn from United States. Although the 50 states share a currency and each sets its own spending and tax policies, state deficits remain very low. Even California has a deficit of only about 1 per cent of the state’s GDP and total general obligation debt of less than 4 per cent of state GDP. The basic reason for these small deficits is that each state’s constitution prohibits borrowing for operating purposes. States can issue debt to finance infrastructure but not salaries, services, transfer payments or other operating expenses.

In some states, these self-imposed restrictions go back to the 19th century, a time when excessive borrowing led to state defaults. Those states wanted to assure potential lenders that such excess borrowing would not happen again. Over time, all states adopted such rules to help make the bonds they issued for capital expenditures attractive to investors. Although the states’

balanced-budget rules differ in detail, with some using rainy-day funds to offset cyclical declines in revenue, they all succeed in preventing persistent operating deficits. If the EMU governments were to adopt similar constitutional rules, the interest rates on their bonds would fall.

Amazingly, even with out balanced budget rules here, states still manage some serious trouble, spending wildly during the boom times, and then assuming that the boom times will never end.

This could work in Europe, though of course Brussells would have to take on monster deficits, and, perhaps more importantly, you’d have to establish a system of inter-governmental transfers on an annual basis, like we have here. German tax money would constantly be getting shipped to the likes of Greece, Portugal, and other poorer countries.

The interesting question at the moment is: how fast can Europe evolve politically. These things tend to take a while. But if the crisis spirals, and this momentary lull proves to be just that, can leaders actually accomplish something like this in market speed? That seems unlikely.

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