The solution for the Eurozone debt crisis is simple (But no one wants to try it)

There was some excitement today over the announcement that Merkel and Sarkozy have decided that the European Union treaty needs to be rewritten to include sanctions on countries that exceed the 3% debt/GDP limit that they all agreed to way back when the EU was first established.

The problem with this "solution" is that the mechanism for enforcing sanctions is a deeply flawed concept. The best, and probably the only way to impose real sanctions on governments who spend and borrow too much is to let the market do it. When the yield on your bonds starts to skyrocket, you quickly realize that you can't continue to borrow. You either mend your ways and borrow less, and/or figure out how to grow more, or you default on your debt obligations. And even if you default, you will find it very difficult—if not impossible—to continue to be profligate. That's the way it has always worked in the bond market. It's quite simple: if lenders don't think you can repay your debts, they won't lend you any more money.

A market-based solution doesn't need any agreements or rewritten treaties. It also has the virtue of essentially eliminating moral hazard, since lenders would have a powerful incentive to do their due diligence every time they buy a bond, instead of simply relying on what ratings agencies are saying, or betting that they will be bailed out by taxpayers or other countries if things turn sour. A true market-based solution would even make the ratings agencies obsolete. No serious investor would ever base his decisions on what a ratings agency says anyway; the only purpose that ratings serve in today's world is to facilitate the ability of bureaucrats and technocrats to decide, for example, which assets qualify as Tier 1 capital for banks, effectively overriding the investment decisions of the private sector and thus providing fertile ground for moral hazard.

The only reason that no one is talking about a simple, proven, market-based approach to solving the Eurozone sovereign debt problem is that politicians (urged on no doubt by their investment banking constituents) fear that highly indebted Eurozone countries are more likely to default (i.e., to act irresponsibly) than they are to cut spending, and that this, in turn, puts Eurozone banks (who hold tons of Eurozone sovereign debt) at risk, and that this, in turn, puts the very viability of the Euro and the Eurozone economies at risk. Politicians love to think this way, because it makes them indispensable. The truth, however, is that when politicians step into the fray to fix things, they almost always make the situation worse.

Eurozone countries may indeed default, and defaults may be large enough to bring down the Eurozone banking system, but a collapse of the Eurozone economies is not necessarily the only way this can play out. Defaults happen all the time. Banks fail all the time. Defaults don't destroy currencies, they just destroy the value of debt issued in that currency. Defaults don't destroy wealth, since they are just the accountant's way of recognizing economic realities. Defaults don't destroy demand either, since debt is a zero-sum game: one man's liability is another man's asset. The value of global financial assets fluctuates by trillions of dollars every day and yet economic life goes on. There is a virtually unlimited supply of capital in the world ready to fund profitable new ventures and/or to recapitalize failed banks. Truth be told, the market has already wiped out almost 80% of the market cap of Eurozone financial institutions in the past four years, yet the Eurozone economies continue to function as always.

Will the politicians please stop trying to "fix" this Eurozone debt problem? A trillion or two of defaults might end up doing us all a world of good.

Easy solution...if a country exceeds the 3% limit, then Germany invades...”

With what? A regiment of grandfathers in lederhosen and a polka band? Men with earrings and ponytails and their lesbian friends? The Texas National Guard probably could overrun Germany in a matter of days....perhaps even the Boy Scouts could ;-)

The solutions to the US’s problems are simple as well, and only about 15% of even the “conservative” GOP wants to implement them.

If we want to grow our way out of our problem, the government must shrink radically while the REAL GDP must expand. The way to expand real GDP is increase the number of net-taxpaying workers and improve their productivity.

Importing non-taxpaying, social service using Oxacans will not work.

Expanding the numbers of “entitled” through allowing retirement at 62 with subsidized medical care for the next 25 years of life will not work. Furthermore, squandering the increased lifespan afforded by modern medicine for more time in government subsidized “retirement” won’t work either.

Removing large segments of the population from the labor market through social gospel inspired programs like drug testing for jobs not directly involving public safety, and then complaining about people being unemployable is a bit stupid.

Farting around in college until you’re 30 to get a degree in some sort of theraputic authoritarianism for a government job is outright counterproductive.

Removing impediments to growth, such as the NLRB, EPA and OSHA (most functions of these agencies are well handled by the civil court system), would be a good step.

Not a comprehensive list.

The OP Identifies the problem but assumes that there are “fixes” being thrown about.

What Europeans must ultimately conclude is that they have been driving a Ford Pinto.

There is a design flaw in the EU and it’s currency the Euro.

The solution at hand (Merkel/Sarkozy) is to throw the Maastricht Treaty out the window and hit the “Do-Over” Button with a new Treaty.

Sarkozy made a huge mistake yesterday- he gave a March deadline for the creation, drafting and signing of a New Europe Treaty...

There is no easy solution because the only solution is to allow massive defaults to occur, scrap the Union, Recapitalize banks and have lesser members retreat to their own currencies.

S&P will continue with downgrades on the Eurozone and it’s instruments...

The longer they wait, the more debt accumulates.

The fact that the ECB has consumed so much debt in the last few months should be alarming, but no one sems to care.

Merkel and Sarkozy will get a treaty and the Eurozone will be divided into a two tier system: Major League (Germany, France, Nethrlands, Finland, Belgium...
and the Minor League or Europe Jr: Italy, Spain, Portugal, Ireland and possibly Greece (I believe Greece will default and be pressured out of the Club)...

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