by Calculated Risk on 4/15/2012 02:39:00 PM

From Paul Krugman: Insane in Spain

"the euro crisis is [now] ... centered on Spain — which in a way is a good thing, because now the essential craziness of the orthodox German-inspired diagnosis of the crisis is on full display.

For this is really, really not about fiscal irresponsibility. Just as a reminder, on the eve of the crisis Spain seemed to be a fiscal paragon:"

	Spain	Germany
Budget Balance, % of GDP, 2007	+1.9%	+0.3%
Net Debt, % of GDP, 2007	27%	50%

"What happened to Spain was a housing bubble — fueled, to an important degree, by lending from German banks — that burst, taking the economy down with it. ...

And the policy response is supposed to be even more austerity, with the European Central Bank, natch, obsessing over inflation ...

I’m really starting to think that we’re heading for a crackup of the whole system."

The German argument falls apart when we look at Spain. Instead of focusing on government spending, we could look at capital flows. Oh well.

The ECB's LTRO has bought a little bit of time, but if the policymakers stay focused on austerity, they will fail. A key European analyst pointed out last week that essentially all recent sovereign issuance in the periphery has been purchased by in-country banks, and that was related to the LTRO from the ECB. In other words, there is no private market for peripheral sovereign debt. The key analyst concluded: "The EMU (Economic and Monetary Union) is over".