Germany: Markets will start punishing the eurozone countries with high debts

European states should consider cutting government spending and re-imposing fiscal discipline earlier than expected, otherwise markets will begin to “punish” eurozone countries with high debts, said a senior official. German Ministry of Finance.

Speaking to other ministry officials at a closed-door event on Monday, Florian Toncar said Germany should ensure at European level that once the pandemic is over, Europe should return to a more conservative era of public financially.

“I’m convinced that perhaps very, very soon, Europe will not be wondering how much debt the rules allow and how much they can bend, but rather how much debt the markets allow,” Toncar was quoted as saying by a Reuters video.

European leaders have agreed to suspend EU fiscal rules until 2023, but there is now debate over whether the so-called Stability and Growth Pact should be reformed to allow for more flexibility before launching again next year.

Olaf Schultz’s coalition government has so far hinted that it is open to reforming the EU rules, but comments by Toncar, a member of the more conservative Free Democratic Party (FDP), signal a change in tone.

“I think the change in strategy is closer than many people think,” Toncar said, adding that Germany should work on its economic performance rather than think that fiscal rules could be further weakened.

“Because we will no longer be able to take on any debt in Europe,” said Toncar, who is also a close associate of Finance Minister Christian Lindner.

Prior to the pandemic, Germany was one of the eurozone’s most vocal members, along with other -mainly- northern states, calling on governments with higher debt levels in the south of the eurozone to cut spending and reduce borrowing.

The European Central Bank’s bond-buying programs have pushed bond yields to unprecedented levels in recent years. This has reduced yield spreads between northern states, such as Germany with relatively low debt, and southern states, such as Italy, with higher debt.

Although borrowing costs in the Eurozone have risen recently as the ECB begins to shrink its emergency bond-buying program due to the pandemic, it generally remains at historically low levels.

The 10-year yield in Germany is -0.06%, which means that investors must pay to hold on to German debt. Yields in German 10 years were over 1% last time in 2015, while a decade ago it was at 2%.

But in Italy the cost of borrowing is relatively low, with the difference in yields on Italian and German bonds being 138 basis points, above the low of 2021 at 85 bp. but far below the high, above 300 bp. before the onset of the coronavirus crisis.

Italy is now facing new questions about its debt sustainability as the ECB has announced plans to cut emergency aid that helped the eurozone’s most indebted economies during the coronavirus pandemic.

European countries, including Germany, have borrowed record sums since the 2020 pandemic to support businesses and households. At the same time, the EU has launched an unprecedented € 750 billion loan-funded recovery fund run by Brussels to help pandemic-hit Member States such as Italy and Spain.

Several Member States, such as Italy and France, have warned that if the existing deficit and debt limits remain strictly in the Stability and Growth Pact, Europe risks another austerity period when spending on spending needs to increase. promote environmental protection policies.

Toncar also said that pressure from international markets could be a good thing, as it could help accelerate structural reforms.

“In Germany, too, I think there is a chance that we will start discussing priorities and structural changes again and we need to talk about how we can improve the country and better organize our communities,” Toncar said. “This is another opportunity to do everything better. It is not just to save the euro, but to improve the public sector as a whole and to modernize it,” he added.