The ideal policy back in 2009 would have cost around 50 billion euros. It would have required either the ECB, or Germany as its major creditor, to buy the secondary-market Greek debt that was subject to near-term rollover risk, bury it somewhere deep in its balance sheet, and walk away. Why didn’t they do so? One answer lies in German politics. There was a regional election coming up in Germany, and it was politically easier to blame the Greeks for being feckless than it was to explain to the German public that the ECB needed to bail them out for reasons of systemic risk. The other answer lies in the ECB statutes that forbid one country to bail out another for fear of generating moral hazard. Such bailouts are, except in exceptional circumstances (the treaty in question mentions natural disasters) not allowed. Remember, the ECB only has one problem, price inflation, and one tool, the rate of interest. As such, the ECB was completely unable, and the Germans were completely unwilling to take responsibility. As a consequence, investors began to price in the risk of contagion as increasingly likely, and the yields on all periphery bonds began to rise, which is why Portugal, Ireland, Spain, and Italy got lumped together with Greece. The PIIGS collective was born in the fires of contagion risk. Unfortunately, while the collective acronym is attractive, the problem is that Ireland, Spain, Portugal, and Italy are nothing like Greece.

Mark Blyth, Austerity, loc. 180