Yannis Stournaras: Public debt - past lessons, future challenges
Opening address by Mr Yannis Stournaras, Governor of the Bank of Greece, at the
International Conference on "Public Debt: Past lessons, future challenges", organised
by the Bank of Greece, Athens, 7 November 2024.
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Ladies and gentlemen,
It is my great pleasure to welcome you to this conference. As we gather today, we aim
to address a topic of growing importance, not just for individual Member States, but also
for our collective future - particularly for the euro area.
Historically, public debt has shaped the economic history of nations because
governments have often resorted to borrowing to achieve economic stability and foster
growth. While borrowing has at times allowed nations to provide critical support for their
economies, it has also raised significant questions about sustainability, fiscal
responsibility and intergenerational equity. As we reflect on the lessons of the past, we
need to acknowledge the delicate balance between financing today's prosperity, on
the one hand, and safeguarding the well-being of future generations, on the other .
In Europe, the debt crisis, which unfolded over a decade ago, tested the resilience of
our economies, financial systems, as well as the unity - the very fabric - of the
European Union. It exposed the vulnerabilities in our fiscal and banking systems,
bringing to light critical lessons on fiscal policy, debt sustainability and the health of the
banking sector due to the strong sovereign-bank nexus. Indeed, it tested the very
existence of the single currency area.
In what follows, I will reflect on these lessons in four key areas: (1) fiscal policy, (2) debt
sustainability, (3) financial stability and (4) the interaction between monetary and fiscal
policy. These interconnected dimensions are not only relevant for understanding the
past, but are also crucial for shaping the future of European economic governance.
1. Fiscal policy: The foundation of stability
Fiscal sustainability lies at the heart of any stable economy. During the European debt
crisis, we were reminded of a fundamental truth: unchecked fiscal deficits, combined
with large imbalances in the current account, which themselves were mostly related to
the fiscal deficits, can trigger severe economic and financial distress. Several of our
economies faced enormous fiscal and external sector imbalances, exposing the fragility
of the euro area's architecture. What are the lessons that emerged?
Lesson 1: Credible fiscal frameworks.
Sound fiscal policies and strong institutional frameworks are the foundation of
economic stability, especially in the context of the euro area, which still remains an
incomplete economic union, lacking a central fiscal capacity. Before the crisis, the
Stability and Growth Pact (SGP) aimed to impose fiscal discipline across the EU.
However, its enforcement was weak, and many countries repeatedly breached the
Pact's deficit and debt limits. The crisis underscored the importance of stricter fiscal
surveillance and the need for credible enforcement mechanisms .
To address these issues, the EU introduced the Fiscal Compact in 2012, mandating
balanced budgets and stricter oversight. The European Semester aimed to coordinate
fiscal and economic policies among Member States. Moreover, post-crisis reforms
included the European Stability Mechanism (ESM) , which provided financial
assistance to countries in distress, tying its support to strict fiscal and structural reforms.
The ESM is an essential reform within the European economic architecture, as it acts
as a financial backstop by providing a safety net for eurozone Member States during
times of economic and financial distress, helping to prevent the contagious effects of
crises and ensuring stability across the region.
Lesson 2: Countercyclical fiscal policies.
Countercyclical fiscal policies are key to stabilising economies and avoiding
Many
selfdefeating effects of fiscal consolidation, while also creating fiscal buffers.
eurozone Member States were forced into procyclical austerity measures during the
crisis, including large cuts in public investment, which exacerbated economic
contractions and worsened unemployment. Having been Greece's Finance Minister
during 2012-2014, I can attest first-hand to the damage Greece had to endure due to
the imposition of overly restrictive fiscal measures. Without overlooking the political
constraints at the time, since a milder and more gradual fiscal consolidation would have
required a larger financing envelope, and the need to enhance market confidence by
addressing the country's credibility gap, a more flexible approach to fiscal policy
could have mitigated the severity of the crisis.
As we move forward, the encourage countercyclical fiscal policies,
new EU fiscal rules
balancing fiscal responsibility with the ability to support economic growth during crises.
This is especially relevant in today's context, where high levels of public debt persist
after the COVID-19 pandemic. The new framework accounts for country heterogeneity
and provides greater flexibility regarding the medium-term fiscal consolidation plans.
Moreover, by focusing on structural fiscal adjustment , the new framework
encourages the authorities to differentiate between temporary and permanent fiscal
measures, thereby promoting more prudent long-term fiscal planning.
The use of the expenditure rule as a single operational indicator used to monitor
compliance with the new framework contributes to a more sustainable fiscal
environment by encouraging disciplined budgeting and, thus, more effective
expenditure-based fiscal consolidation plans. Expenditure rules mitigate fiscal risks and
create fiscal buffers, by curbing excessive spending during periods of economic boom.
Also, these rules allow flexibility for public investment and enhance predictability and
market confidence in fiscal strategies.
Lesson 3: National ownership of fiscal consolidation.
The experience of the euro area debt crisis has clearly indicated that national
ownership of fiscal adjustment efforts is critical for ensuring the success and
sustainability of fiscal reforms. Successful fiscal consolidations depend on political
consensus and effective social dialogue. When countries take ownership of their fiscal
policies, aligning them with domestic economic conditions and political realities, this
strengthens their commitment to sound fiscal management. National ownership of fiscal
consolidation plans allows governments to design tailored measures that reflect the
specific needs of their individual economies, while fostering public support, because
citizens are more likely to back homegrown reforms than those that are externally
imposed.
Within the EU, where fiscal rules are in place, national ownership helps bridge the gap
between EU-level requirements and domestic policy priorities. By embracing fiscal
responsibility voluntarily, rather than merely complying with EU rules, Member States
can promote fiscal discipline, improve credibility with markets and enhance trust in
European institutions.
This approach supports long-term fiscal sustainability and economic stability, ensuring
that fiscal consolidation efforts are both effective and politically feasible.
But let me emphasise that trust, or credibility, is not something that can be obtained
overnight. We will have to earn it. Our new fiscal framework provides a necessary
vehicle for doing so. The rest is up to us. As the old saying goes, "The proof of the
pudding is in the eating."
2. Debt sustainability: A multifaceted discipline
Debt sustainability was perhaps the most immediate concern during the European debt
crisis. The skyrocketing public debt levels in several Member States led to a loss of
market confidence, rising borrowing costs and fears of sovereign defaults. In this
context, the European debt crisis offered key insights into managing sovereign debt
effectively.
Lesson 4: A holistic approach to debt sustainability.
The crisis revealed that managing public debt is not simply about medium-term
solvency, but also about long-term sustainability. The concept of debt sustainability
analysis (DSA), which had traditionally focused on the medium-term evolution of the
stock of debt, was expanded to include longer-term projections (due to the concessional
terms of official sector loans) as well as vulnerabilities of the debt trajectory to various
adverse macroeconomic, fiscal and financial sector shocks.
The extended analysis reinforced the notion that safeguarding a favourable
of the snowball effect to debt reduction is equally important as pursuing
structural
acontribution fiscal adjustment. Moreover, medium-term projections of Gross Financing
Needs (GFNs) are also important in identifying debt sustainability risks, because they
reflect the underlying characteristics of the public debt structure. For example, high
levels of short-term debt or relatively high shares of floating-rate debt can make a
country more vulnerable to interest rate shocks and high liquidity risks. Such projections
are particularly important in detecting sustainability risks that would otherwise have
gone unnoticed.
The European institutions (EC, ESM, ECB) as well as the IMF played a central role in
providing assistance based on DSAs, ensuring that fiscal consolidation targets the
country's structural fiscal position (thereby promoting structural fiscal reforms, especially
in the pension and social security systems), while also advocating for
productivityenhancing reforms in the labour and product markets in order to raise long-term
potential output growth.
Today, we understand that debt sustainability is not solely about reducing debt ratios,
but also about ensuring that debt levels remain manageable under varying economic
conditions. The new European fiscal framework is centred on a risk-based
surveillance framework, which puts debt sustainability at its core and differentiates
among countries, taking into account their specific public debt challenges.
The incorporation of stochastic debt sustainability analysis in determining the
structural fiscal adjustment needs of EU Member States provides significant
advantages because it accounts for uncertainty and incorporates a range of potential
economic scenarios. Unlike traditional methods, stochastic DSA helps policymakers to
assess more realistically the likelihood of various debt outcomes, identify risks earlier
and manage debt levels proactively.
Lesson 5: Flexibility in debt servicing - Reform of the euro area debt
restructuring framework.
Flexibility in debt servicing can help alleviate immediate fiscal pressures and prevent
defaults. The ESM and the IMF introduced measures such as debt maturity
extensions and lower interest rates for countries receiving bailout packages. These
measures provided temporary relief and helped restore market confidence.
Moreover, the overall debt restructuring framework in the euro area, shaped by the
experience of the European debt crisis, has evolved significantly to address more
effectively sovereign debt challenges. In particular:
- The ESM , which acts as a permanent crisis resolution mechanism, has the legal
mandate to restructure sovereign debt if necessary.
- Since 2013, all new euro area government bonds with maturities of more than one
year must include Collective Action Clauses (CACs) . The use of CACs is a core
component of the new debt restructuring framework, designed to ensure that
restructuring can be carried out in an orderly manner, limiting market disruption.
- The ESM and the EC play a central role in conducting DSA before providing financial
assistance. The framework is used to guide decisions on the necessity and the scale of
any potential debt restructuring.
- The experience of the Greek debt restructuring highlighted the significance of the
Private Sector Involvement (PSI) in sovereign debt crises. The Greek case revealed
the potential benefits and challenges of PSI, where the involvement of private creditors
helped reduce Greece's debt burden, but the process also raised concerns about
contagion risks.
- The euro area crisis underscored the need for orderly and predictable debt
restructurings. Past experience has shaped principles to minimise financial market
volatility. Timely intervention is crucial, as early restructuring, if needed, is more likely to
be successful before debt levels spiral out of control, than long, drawn-out
restructurings.
- The legal and institutional framework for debt restructuring has been enhanced
to prevent moral hazard, ensuring that governments adhere to fiscal rules. The Fiscal
Compact and the revised SGP impose stricter fiscal discipline to prevent excessive debt
accumulation. The framework also ensures that sovereign debt restructuring is treated
as a last resort, after all other policy measures (such as fiscal adjustment, structural
reforms, liquidity support) have been exhausted.
All in all, following our experience, the eurozone is much better equipped to manage
sovereign debt crises in the future. However, the need for continued vigilance, early
intervention and fiscal prudence remains essential to ensure that sovereign debt crises
can be prevented and, should they arise, be resolved efficiently.
3. Financial stability: A pillar of economic resilience
The crisis also exposed vulnerabilities in Europe's financial stability framework . The
increase in the sovereign-bank nexus created a vicious circle of contagion, where failing
banks weakened sovereigns and vice versa.
The euro area's banking system was one of the weakest links during the debt crisis.
Several factors accounted for this circumstance. For one thing, euro area banks
typically hold relatively large shares of the debts issued by their respective national
governments in their portfolios. Related to that, and in contrast to the situation in the US
and the UK, the ECB does not have the mandate to act as a lender of last resort to
sovereigns.
Banks in several countries, especially those exposed to housing bubbles and sovereign
bonds, found themselves undercapitalised and struggling with high levels of non-
performing loans (NPLs). The crisis in the banking sector intensified the sovereign
debt crisis, as governments were forced to bail out failing banks, adding to their fiscal
burdens.
Furthermore, the crisis highlighted the importance of a well-functioning financial
market infrastructure. This includes payment systems, securities settlement systems
and central clearing counterparties. A robust infrastructure can help mitigate systemic
risks and ensure the smooth functioning of the financial system.
Lesson 6: Strengthening financial oversight.
A strong regulatory and supervisory framework is essential to monitor and mitigate
systemic risks. Before the crisis, financial regulation in Europe was fragmented, with
national authorities being responsible for supervision. This lack of coordination allowed
financial imbalances to grow unchecked.
In response, the EU took significant steps to enhance financial supervision and
regulation . The creation of the Single Supervisory Mechanism (SSM) and the Single
Resolution Mechanism (SRM) under the Banking Union framework aimed to
centralise supervision and resolution at the European level. This ensures that systemic
banks across the eurozone are subject to uniform standards and that failing banks can
be resolved without burdening taxpayers.
Lesson 7: Macroprudential policies.
The crisis also highlighted the need for macroprudential policies, which include
tools designed to address systemic risks. The ECB and the national authorities
have adopted a series of macroprudential measures, such as capital buffers, to
enhance the resilience of the banking sector, prevent the build-up of financial bubbles
and excessive leverage, and reduce procyclicality.
Lesson 8: Bank recapitalisation and resolution frameworks.
A key takeaway from the crisis is the importance of ensuring that banks are
wellcapitalised and that there are mechanisms in place to resolve failing banks without
jeopardising financial stability. The creation of the European Banking Authority (EBA)
and the Single Resolution Board (SRB) have helped address this matter. These
institutions have improved the regulatory framework and ensured that banks maintain
sufficient capital buffers to absorb shocks. Moreover, measures to effectively manage
credit risk were essential in order to improve the quality of the loan portfolio.
Lesson 9: Reducing the sovereign-bank nexus.
Reducing the sovereign-bank nexus is critical to preventing future crises. The European
debt crisis has demonstrated how weak banks could exacerbate sovereign debt
problems and vice versa. The introduction of bank resolution mechanisms under the
Bank Recovery and Resolution Directive (BRRD) ensures that shareholders and
creditors bear the losses in the event of bank failures, rather than taxpayers. This has
helped weaken the link between banks and sovereigns, thereby decoupling risks in both
sectors and enhancing their resilience to economic shocks.
4. Monetary-fiscal policy interactions: Complementarity of policies is critical
The interaction between monetary and fiscal policies is central to understanding how
Europe can navigate its future debt challenges. The consistency between fiscal and
monetary policies is critical in shaping sustainable economic recovery paths, while
managing the delicate equilibrium between growth, inflation and fiscal sustainability.
Regardless of the near-term budget outlook, the current high levels of public debt
complicate the task of monetary policy, limit the room for manoeuvre and worsen the
trade-offs faced by central banks. Evidence from the recent crises in the euro area have
underscored the need for alignment of monetary and fiscal policy objectives,
highlighting the benefits of complementarity between the two policies. Risks of
fiscal dominance could emerge if debt dynamics are left unchecked by the fiscal
framework, or if fiscal policies lack countercyclicality.
Lesson 10: Effective complementarity of monetary and fiscal policies.
In the current multi-crisis environment, the complementarity of monetary and fiscal
policies is critical for achieving two interrelated goals in the European context: fiscal
sustainability and price stability. The ECB has long emphasised the
importance of
complementarity between these two policy areas, particularly during periods of
economic turbulence. Moreover, over the medium-term horizon, the benefit of the
negative interest rate-growth differential is expected to gradually fade, highlighting the
risks of low growth and the effect of relatively higher interest rates levels (as compared
to the pre-Covid period) on debt dynamics going forward.
Monetary policy, driven by the ECB's mandate to maintain price stability, operates most
effectively when complemented by sound fiscal policies that ensure public debt levels
remain sustainable over the long term. This interplay is especially important in the
eurozone, where fiscal policy remains the responsibility of national governments, while
monetary policy is centralised through the Eurosystem. Therefore,
in the
short-tomedium-term horizon, the development of a framework to monitor and steer the
aggregate euro area fiscal stance, including through a permanent central fiscal
capacity of sufficient size, is important for increasing the effectiveness of
monetary policy.
A failure to align fiscal policies with the ECB's efforts could lead to inflationary
pressures and undermine monetary policy effectiveness, as excessive government
borrowing risks overheating the economy or raising inflation expectations. Therefore,
fiscal policy needs to be disciplined and forward-looking, focusing on long-term
sustainability to allow monetary policy to maintain price stability.
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The European debt crisis was a wake-up call for policymakers, businesses and citizens
across the continent. It exposed deep-rooted weaknesses in our fiscal, financial and
banking frameworks, but it also instigated a wave of reforms that have made the
eurozone more resilient. Further reforms aimed at strengthening the EMU, such as a
deeper fiscal union, a complete banking union and a well-functioning capital markets
union, can help prevent future crises and make the euro area more robust.
Today, Europe stands at a crossroads, grappling with debt burdens that have grown
due to a series of recent crises, such as the global financial collapse of 2008, the
sovereign debt crisis of 2010-13, the COVID-19 pandemic and the energy shock
triggered by the war in Ukraine. Addressing debt sustainability concerns is even more
complex within the European framework, with its unique challenges - ranging from the
complicated eurozone economic structure and the lack of efficient fiscal coordination to
balancing national sovereignty with collective responsibility.
How do we ensure that the consequences of today's decisions do not unfairly impact
future generations? How do we manage debt levels without stifling growth? How can
Europe create a framework for shared prosperity while maintaining fiscal discipline?
Over the course of today's discussions, we will try to delve into these issues from both
historical and forward-looking perspectives, focusing on how we can learn from history
while navigating the challenges of an uncertain future. Our goal is not just to understand
how we got to where we are, but to contribute to the overall discussions on charting a
responsible path for the future.
The challenges we face today - ranging from high debt levels to climate crisis,
geopolitical risks posed by conflicts, geoeconomic fragmentation, demographic shifts,
low productivity and deglobalisation trends - require us to remain vigilant and adaptive.
Should we confront rising debt vulnerabilities, the need for innovative and sustainable
fiscal solutions will be more urgent than ever.
The decisions we make today will determine not only Europe's financial stability, but
also the well-being of future generations. Striking the right balance between fostering
growth, ensuring fiscal sustainability and protecting the long-term interests of our
societies is no easy task, but it is one we must face together.
Thank you all for your participation, and I look forward to the fruitful discussions.