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On the 13th of December, ACES hosted a roundtable discussion with Agnès Bénassy-Quéré (French Treasury, Paris School of Economics and Bruegel), Barry Eichengreen (University of California, Berkeley, US), and Waltraud Schelkle (London School of Economics, UK), convened and moderated by ACES affiliate Paul van den Noord.

Starting point of the discussion was that the pandemic and the associated lockdowns produced the deepest and most disruptive downturn in the European economy since World War II. This prompted the European Commission to suspend temporarily all constraints on debt and deficits embedded in the European fiscal framework. The ensuing surge in public debt raises several burning questions: (i) what is the place of public debt in a well-functioning system of economic and fiscal governance? (ii) to what extent has the level of desirable and sustainable debt changed in view of pandemic recovery spending and low interest rates?, and (iii) how should these issues be considered in the current debate about fiscal rules?

The main take-aways from the event are summarised below by Paul van den Noord. A recording of the event is also accessible on YouTube.

This event was a follow-up to an earlier event on 29 September this year, featuring Marco Buti (European Commission), Jean Pisany-Ferry (Bruegel, Peterson Institute and European University Institute) and Roel Beetsma (Amsterdam School of Economics and European Fiscal Board). They explored the European Union’s fiscal future post-COVID – a return to “normal” or a leap to something new – and how the EU could grasp this moment as a unique opportunity to address some of the fiscal framework’s long-standing weaknesses. ACES will return to this question in spring 2022 once the European Commission releases its proposals for reform of the fiscal framework.

Main take-aways from the discussion on 13 December 2021

Barry Eichengreen

Governments need to restore their borrowing capacity soon to prepare for crises to come – related to climate, geopolitics, or other pandemics.

But how to do it? In the more distant past, most of the reversals of debt surges were the result of running primary surpluses, with the important exception of Weimar-Germany when inflation was instrumental. After WWII the fall in public debt was the result of a combination of running primary surpluses and a favourable real yield-growth differential (r-g). There look to be three pathways possible this time:

  1. The experience suggests that in normal times it is not possible to rely solely on primary surpluses. But there can in exceptional situations, and maybe this is such a time.
  2. Goodhart and Pradhan (2020) think that inflation is a possible way out. But – because nominal yields immediately rise with inflation, this can only work if the maturity of debt is very long, such as in the UK (40 years), as higher inflation is then not (immediately) reflected in higher borrowing cost. In the US, by contrast, where the average maturity is only five years, the cost of borrowing would immediately respond, leaving r-g practically unchanged. And in any case central bank independence is now so deeply ingrained that they are unlikely to resort to high inflation in any case.
  3. What about boosting growth? Spending your way out of the debt trap is unlikely to work (as increased demand will push up yields). Engineering a boost to productivity does not look likely to be very successful either. The historical experience shows that productivity accelerates (with a long lag) after major technological breakthroughs such for instance as the combustion engine.

Barry concluded that, while debt consolidation after the pandemic will thus be difficult, each of the three pathways is likely to contribute to some extent. 

Waltraud Schelkle

A major flaw in the set-up of EMU is that there is no lender of last resort function for national debt. This is problematic in the case of a common pandemic shock (which is genuinely exogenous with no one to blame), with debt creation as the only way out. This can be motivated by pointing out that future generations have a clear interest in the containment of the pandemic, so they should help to repay the debt. This repayment could be seen as an insurance premium.

In the case of asymmetric shocks, the alternative way to avoid default is to reinsure (given that debt issuance in the case of an adverse shock is an insurance policy). The IMF and/or ESM offer guaranteed credit at non-market conditions to hard-hit countries. Some conditionality is necessary but not too much as the cost for the guarantors is very low. The low rates help countries to grow out of their debt problem.

But in case of a symmetric shock the situation is different (the normal insurance principle fails as shocks are strongly correlated). Keeping rates low through monetary expansion to keep debt sustainable is not a long-term solution as this is an invitation to play casino in financial markets. Instead, we need ‘intelligent financial repression’. Three instruments can help in this regard:

  1. Growth-linked bonds. Both borrowers and lenders share the risk of a growth collapse in the case of calamities.
  2. Adoption of debt-restructuring rules, to price in the risk of default better from the outset and avoid procyclical yield surges.
  3. When debt is issued, revenues should be earmarked for the repayment. Notably tax on wealth should be considered as the purpose of the debt is to protect this wealth. This harks back on the idea of debt as an insurance policy.

Agnès Bénassy-Quéré

The pandemic response adds to the stock of safe assets, which is bound to raise the benchmark yield, in turn creating welcome monetary policy space. This suggests that real yields would increase and – taking inflation as given – nominal yields as well. That said in the EA it is difficult to fine tune the policy mix in the absence of an EA treasury.

If an increase in the primary surplus proves inevitable to restore governments’ borrowing capacity, countries should not make the same mistake of simultaneous consolidation. To an extent they do, and monetary policy therefore needs to stay very accommodative, a call should be made on tighter macroprudential policies. Current account imbalances could again become an issue and therefore should be contained. In this regard it is helpful that Germany is raising its minimum wage.


Barry points to his Project Syndicate column on greening Europe’s fiscal rules that is just out. He points out that there is a need to make space for climate-related public investments. Due to (network) externalities much of the climate spending will have to be done by governments. So where will European governments find the better part of €5 trillion? Should they borrow it? And should the EU’s rules be revised accordingly?

In the past, various governments have adopted a “golden rule” that exempts public investment from the rules. Investment in climate policy would qualify for this. Even if it does not boost economic growth, it could avert a climate-related disaster in which GDP plummets and the debt burden becomes unmanageable. If green public investments cannot be debt-financed, they would have to be financed by cutting other expenditure or raising taxes. That said, Barry dislikes fiscal rules and calls instead for the adoption of fiscal standards as advocated by Blanchard et al (2021) (with country-specific assessments using stochastic debt sustainability analysis, led by national independent fiscal councils and/or the European Commission).

On Waltraud’s suggestions for debt restructuring and growth-indexed bonds Barry has reservations. Sovereign debt restructuring rules would be appropriate perhaps, but the WTO won’t let it happen (outside the ESM) as it involves a trade distortion (as currencies depreciate). The idea to create GDP-indexed bonds has been a good one for decades…

Agnès points to the coordination problem for climate investment. No single country can do the job alone and would therefore be induced to freeride (prisoner’s dilemma). So, we end up with unsustainable debt (due to low GDP) and a climate problem. Barry agrees with this point. Waltraud is more optimistic, arguing that the EU as a club of rich countries has been able to establish new standards that other parts of the world feel compelled to comply with because the EU is such a huge market (for example child labour or ‘social dumping’). Europe could do this again in the case of setting standards for climate policy.

Agnès makes the point that r-g may be low not for very long because in the future (and indeed at present) supply shocks will likely prevail over demand shocks. So, while g could fall due to supply shocks, we may in fact see an increase in r as a result (unlike previously when adverse demand shocks often entailed a fall in r).

Barry again highlights the political constraints limiting the scope for running primary surpluses. Reconciling the latter with democracy is problematic as it fuels polarization. On this Barry is more pessimistic on the US than on Germany though, as US electoral institutions display a tendency to induce polarization whereas in Germany these are more poised to favour social cohesion. Extinguishing debt through fiscal austerity is problematic even in totalitarian regimes -- look what happened to Ceaușescu. Agnès adds that in equally democratic countries the scope for running primary surpluses (and raising taxes to that end) may differ across countries. Waltraud observes that some countries can only hold together by transferring funds from rich to poor regions in part financed by debt (Belgium).

Waltraud reiterates her point that when you issue public debt to face a major crisis this protects contemporary assets. The owners of those assets should be told that this is part of an insurance contract, financed by future taxes to repay the debt. Agnès stresses that those taxes should then be levied on those same assets via e.g. the corporate tax and not a digressive tax like VAT. Waltraud thinks that it would nevertheless be the middle classes that would have to foot the bulk of the bill, because it is primarily their housing wealth that has been protected by the issuance of public debt.

Roel Beetsma objects against a move from fiscal rules to fiscal standards, as advocated by Barry. Barry reiterates that he does not like fiscal rules because they are arbitrary and disconnected from the current situation. Instead, we need fiscal standards and the right set of institutions. Specifically, we need strong and independent fiscal councils that analyse debt sustainability and communicate this well to the public. Agnès disagrees, arguing that rules are easier to communicate than stochastic simulations which, in any case, are drawn from past distributions. She would prefer a system of stress testing akin to the annexes of the Article 4 reports, though not do away with the rules, but rather make them simpler. There should also be room for flexibility, and we should rethink the roles of the Commission and the fiscal boards. In any case, governments should be clear on the longer-term fiscal strategy and communicate this to the public.


  • Olivier Blanchard, Álvaro Leandro and Jeromin Zettelmeyer (2021), Redesigning EU fiscal rules: From rules to standards, PIIE Working Paper 21-1, February
  • Barry Eichengreen, Asmaa El-Ganainy, Rui Esteves and Kris Mitchener (2021), In Defense of Public Debt, Oxford University Press.
  • Barry Eichengreen (2021), Greening Europe's Fiscal Rules, Project Syndicate, December 13.
  • Charles Goodhart and Manoj Pradhan (2020), Ageing Societies, Waning Inequality, and an Inflation Revival, Palgrave Macmillan, London, UK.