The piling up of public debt defeats sustainable growth

An emergency fund by the EU and IMF is a only short-term measure. Struggling economies need to put their affairs in order.

The German parliament passed legislation cutting welfare spending, which was a major federal expenditure this year.

An emergency fund and interventions in struggling euro economies this year by the EU and IMF are only short-term measures. Countries need to put their own affairs in order

The IMF estimates that the crisis-induced net cost of financial-sector support provided by Group of 20 (G20) leading and emerging economies last year amounted to 1.7 per cent of GDP - US$905 billion (Dh3.32 trillion) - while discretionary fiscal stimulus was 2 per cent of GDP last year and this year.

All the euro-zone countries, except Luxembourg and Finland, reported fiscal deficits in excess of 3 per cent of GDP last year, while Greece, Spain and Ireland ran deficits of more than 10 per cent. Within a single year, euro-zone governments' general debt increased by almost 10 percentage points: 78.7 per cent of GDP last year, compared with 69.3 per cent in 2008.

As for Germany, the 2010 federal budget features a record-high deficit of well above €50 billion (Dh241bn). Public-sector debt will surpass €1.7tn, approaching 80 per cent of GDP. Interest payments, which consume more than 10 per cent of Germany's budget, will grow along with the mounting debt burden - and even faster if interest rates rise.

Yet the financial crisis and the ensuing recession go only so far towards explaining these high levels of indebtedness. The truth is that many European and G20 countries, including Germany, have lived far beyond their means.

Even in good times, governments have for too long been spending more than they received. Perhaps worse, some also spent more than they could easily repay, given their economies' declining long-term growth potential because of the ageing of their populations. Such profligacy has led to levels of debt that will become unsustainable if we do not act.

This is why Germany decided last year to enshrine strict fiscal rules in its constitution. The Schuldenbremse, or "debt brake", requires the federal government to run a structural deficit of no more than 0.35 per cent of GDP by 2016, while Germany's Laender will be banned from running structural deficits at all as of 2020. The current federal government will certainly abide by these rules, which implies reducing the structural deficit to approximately €10bn by 2016 - a reduction of about €7bn a year.

Welfare benefits account for more than half of Germany's federal spending this year. So there is little choice but to cut welfare spending. But this fiscal consolidation can be achieved only if a majority perceives it as being socially equitable. Recipients of social and corporate welfare, and civil servants, must share the sacrifice.

Germany's binding fiscal rules set a positive example for other euro-zone countries. But all euro-zone governments need to demonstrate their own commitment to fiscal consolidation in order to restore the confidence of markets - and of their own citizens.

Greece's debt crisis was a clear warning that European policy-makers must not allow public debt to pile up indefinitely. The EU was right to react decisively to ensure the euro's stability by providing short-term assistance to Greece and establishing the European Financial Stabilisation Facility (EFSF). But the Greek crisis has revealed structural weaknesses of the European Monetary Union's fiscal-policy framework that cannot, and should not, be fixed by routinely throwing other countries' money at the problem.

Indeed, I consider the EFSF to be a stopgap measure while we remedy the fundamental shortcomings of the Stability and Growth Pact, whose fiscal rules lack both substantive and formal bite.

Germany and France have proposed stricter rules on borrowing and spending, backed by tough, semi-automatic sanctions for governments that do not comply. Countries that repeatedly ignore recommendations for reducing excessive deficits, and those that manipulate official statistics, should have their EU funds frozen and their voting rights suspended.

We cannot foster sustainable growth or pre-empt a sovereign-debt crisis in Europe (or anywhere else) by piling up more debt.

Wolfgang Schaeuble is Germany's federal minister of finance

* Project Syndicate