The EU Summit of 21 July 2011 has brought considerable adjustment impulses for the stabilization of the euro-zone. At first sight, the main problem is sovereign debt financing of Greece, Ireland, and Portugal—the three countries that benefit from euro-zone rescue packages—but, in fact, the bigger issue is a series of broader challenges for EU integration and institutional reforms in the euro-area.

The Root Problem: Sovereign Debt Financing in Greece, Ireland, and Portugal.

To a considerable extent, the problems in the crisis countries of Greece, Ireland, and Portugal are home grown, although they appear largely as a similar sovereign debt problem. Moreover, these countries’ crises are partly a result of the U.S. sub-prime crisis and of the transatlantic banking crisis. Taken together, these two factors led to expectations as early as autumn 2008 that risk premiums would drastically increase after the Lehman Brothers shock, which occurred after years of excessive credit expansion and artificially reduced risk premiums.1

Round table discussion at summit

The decisions made at the Brussels summit of 21 July are not adequate for stabilization of the euro-zone, as sound new policy principles were not established and traditional key principles of a market economy were not restored. For example, the European Commission or the European Parliament should have sued Ireland in the European Court, as the Irish government has violated key principles of prudential supervision of banks. The spirit of EU integration will die if member countries can violate EU directives—in this case, the banking directive—without fearing any consequences. Greece is a similar case, in which a conservative government produced fake deficit statistics in 2009; only once the new government took office was it revealed that, instead of a 5 percent deficit to GDP ratio for 2009, the country’s true figure was almost 15 percent. The maximum 3 percent deficit-GDP limit of the Stability and Growth Pact was ignored in a shocking way. The president of the European Commission did not even publicly admonish Greece for this scandal. Financial markets concluded that confidence in EU institutions should be weak, with the possible exceptions of the European Central Bank (ECB) and the European Court of Justice. It is also noteworthy that neither the EU nor the OECD countries have achieved consistent reforms—as a group—on prudential supervision and rules that would improve the quality of financial innovations2 so that unsolved problems of the banking crisis, plus government debt problems, overlap.