If Europe Turns Away From Austerity, Who Will Foot the Bill? - New York Times

FRANKFURT â€" Everyone in Europe seems to agree that government austerity has been overdone. Now comes the hard part: finding someone to pay for less of it.

Classic fiscal stimulus through increased deficit spending by governments does not seem to be an option, analysts say, simply because not enough private investors are willing to lend more money to the countries that need it most, like Spain.

On the contrary, some analysts argue, more borrowing would simply destroy what little investor trust remains.

“A pro-growth agenda that limits austerity will likely prove self-defeating,” said José Wynne, head of North American foreign exchange strategy at Barclays in New York. “The market is questioning the solvency of sovereigns and banks.”

The European Central Bank could use its deep pockets to issue more inexpensive loans to commercial banks, but has shown no inclination to do so yet. Meanwhile, Germany remains unwilling to let the rest of the euro zone trade on its good name by issuing debt jointly.

There may still be ways to ease the pain that has created political chaos in Greece and put nearly a quarter of Spaniards out of work. But the options tend to require more political will and financial subtlety than Europeans so far have been able to muster.

As result, many economists are skeptical that the French president-elect, François Hollande, will be able to deliver on promises to stimulate the French economy by hiring more teachers and through other spending programs.

A close look at Mr. Hollande’s program reveals that even he plans to cut France’s deficit, just more slowly than President Nicolas Sarkozy had proposed.

“France has very limited fiscal space and actually has to engage in fiscal consolidation,” said Nicolas Véron, a senior fellow at Bruegel, a research institute in Brussels. He pointed out that investors are demanding a return on French bonds similar to what they asked of Italy a year ago, an ominous sign.

“There is no reason for France to be complacent,” Mr. Véron said.

Even if classic Keynesian fiscal stimulus is unlikely, there may be other options.

For example, there has been talk of using the region’s bailout fund, the European Stability Mechanism, to directly recapitalize weak banks. That would help Spain, for example, by removing the risk that its hard-pressed taxpayers would have to finance a huge bank bailout.

Such a plan would face political obstacles. Germany and other wealthier euro zone countries continue to insist that governments should take responsibility for their domestic banks. In addition, even afflicted countries like Spain may be reluctant to cede control of their financial institutions, despite the burden, which they would probably have to do in return for European aid. But such opposition may not be implacable.

Dennis Snower, president of the Institute for World Economics in Kiel, Germany, argues that Spain and other European countries â€" with the exception of Greece â€" could still tap financial markets for more money if they adopted constitutional pledges to run budget surpluses in good times.

The pledge would have to be written in stone, he said. Mr. Snower argued that one reason German borrowing costs are near record lows is because the country has already adopted such a constitutional amendment.

“With the exception of Greece it would work for everyone,” Mr. Snower argued. But he is skeptical that political leaders would adopt truly binding debt limits. “Politicians like to keep the fiscal levers in their hands come election time,” he said.

Investor reluctance to back European countries is based partly on governments’ record of spending money in ways that did not promote growth. Many economists say that such doubts are fully justified. In Greece, political parties used the government budget to effectively buy votes. Italy is known for its huge and inefficient civil service.