In part I, I reviewed the MMT view that full monetary sovereignty is the key to full employment policies in all countries, provided that those with current account (CA) troubles have safe access to alternative sources of foreign liquidity - what is not the case in reality. I also examined the MMT’s claim that the Eurozone (EZ) cannot suffer of internal balance of payment (BoP) troubles as long as fiscal transfers from a significant federal budget backed by a genuine European CB are provided - what again is not the case in reality. In this post we shall return on Wray’s denial of the BoP origin of the EZ crisis. I agree with Wray, Bell-Kelton and other MMTs that in a currency union local states are partially deprived of fiscal policy as a tool to sustain aggregate demand (without forgetting that this power is anyway in many countries subject to the foreign constraint even with full monetary sovereignty), while the institutional design of the EMU is not able to assure full employment and the preservation of the traditional European welfare state in a non-OCA. As Godley 1991 pointed out:“The EMU could easily have self-destructed even with no current account deficits anywhere.” (Wray here)“Trade issues within the eurozone …will remain a point of economic and political stress even with a full resolution of the liquidity issues…” (Warren Mosler)
“The fact that individual countries no longer have their own currencies and central banks will put new constraints on their ability to run independent fiscal policies. However, the collective formulation of fiscal policy would be a far more difficult business than passive ‘coordination’. Fiscal policies of the whole Community could be co-ordinated and expansionary: but they could also be co-ordinated and contractionary. How is the common formulation of fiscal policy to be achieved? By what institutions and according to what principles?”But Godley found even:
“more disturbing … the notion that with a common currency the ‘balance or payments problem’ is eliminated and therefore that individual countries are relieved of the need to pay for their imports with exports. Quite the reverse: the existence or a common currency makes a country more directly dependent on its ability to sell exports and import substitutes than it was before, particularly as it will then possess no means whereby it can (in the broadest sense) protect itself against failure” (hat tip to Ramanan).Indeed, the crisis did not stem from an undisciplined fiscal behaviour of some peripheral countries – they knew very well that “markets” would have punished them (the EMU was designed for this purpose – but from the lose of competitiveness of some member countries, as Godley feared, and from some additional events brought about by monetary unification that nobody (with one exception) foresaw .
1. Leaps forward and back
The problem with the second post by Wray (here), in which he focuses on the nature of the EZ crisis, is that at least three explanations of the crisis are provided and the reader might be confused by the leaps forward and back from one to another without much coordination among the three. Godley’s stock-flows three balances are sometimes evoked, but as such they are national account relations deprived of causal explanations.
None of the three explanations is per se wrong, what is lacking is a consistent framework, perhaps obstructed by the “Nostradamus race”. Let us examine the single explanations first, pointing out their respective limits as they are presented by Wray, trying later to coordinate them in a more coherent picture. In doing this I will refer to Frenkel (2012), which is however substantially consistent with, si parva licet, Cesaratto & Stirati (2010-11), Cesaratto (2012), Bibow (2012) and others. One thing we should premise: each EZ country involved in the crisis is like Anna Karenina’s family, unhappy in its own way, so generalisations are not easy (see here for a quick glance of the country cases). The three explanations are: CA crisis; sovereign crisis; banking crisis. Let us begin from the former.
1.1. A current account crisis
Wray (here) quotes a “prescient” paper by Kregel (1999) to show that MMT has not neglected the CA problems within the EMU due to a progressive loss of competiveness of more inflation prone countries (including not really peripheral countries like France and Italy). Kregel also argue that a weaker euro cannot compensate the loss of EZ markets for the inflation prone countries. I fully agree that Kregel was “indeed looking at the potential for current account imbalances once the Euro was launched”. If I may indulge in the Nostradamus race, many people including myself (hundred of students may witness this) were sure of this outcome. Without downplaying Kregel’s warnings, this was the easiest part. No doubt Italy lost competitiveness during the EMU years and the same happened to the other peripheral countries. In spite of the enormous disinflation process endeavoured by Italy, Germany did better, playing its traditional game of pursuing though labour discipline an inflation rate below that of the partners within successive fixed-exchange-rate systems (Bretton Woods, EMS, EMU, cf. Cesaratto & Stirati 2010-11). The cause of the CA imbalances is not only, however, in the real exchange rate advantages of Germany (this is especially true for Portugal and Italy), but in the relatively higher growth rate of domestic demand in some peripheral countries, Spain, Ireland and Greece. And this was caused, in Spain and Ireland, by the housing bubble financed by foreign capital inflows. (I also used to warn Spanish Erasmus students that the high rate of growth of Spain was paper-made - or rather bricks-made - and that Spain was accumulating an enormous foreign debt). In Cesaratto & Stirati (2010-11) and Cesaratto (2012) this is described in Kaleckian terms: the mercantilist country finances the absorption of its trade surplus by lending to peripheral countries, a process favoured by financial liberalizations and fixed exchange rates. Frenkel (2012) regards these events as analogous to those who have traditionally taken place in emerging economies. De Grauwe (1998) foresaw that the EMU would have led to a housing bubble in Spain. To sum up: Wray is correct to refer to the CA crisis as an aspect of the EZ crisis, although this has more complex features than those that any single economist (Kregel or De Grauwe) could foresee before the events took place, features that we cannot neglect now.
1.2. A banking crisis
So we arrive to the second explanation of the crisis: a banking crisis. No doubt that the sequence financial liberalisation cum currency unification could not but let (with the benefit of hindsight, of course) to a banking crisis, at least in some peripheral countries (as foresaw by De Grauwe), associated also to a foreign accounts crisis and to a fiscal crisis once banks’ problems were taken over by the state. Saying good bye to Kregel, Wray, however, seems to refer to a different sort of banking crisis as the main and independent cause of the European crisis. He mainly refers to the crisis that involved Irish banks that engaged in risky financial activities in a way not dissimilar to those that involved the Icelander banks, but it extends the case to Spain as well:
“it is much more than a current account problem ... Any EMU nation can be blown up by its banks even while running a current account surplus. This is the ‘financialization’ or ‘Money Manager Capitalism’ story that comes from Hyman Minsky—probably well over 90% of cross-border finance has nothing to do with the current account, and it was that part of finance that blew up countries like Ireland and Spain… So far as I know, Warren Mosler was the first to fully understand this.” (Wray here)I may concede that tiny Ireland had a banking crisis similar to that of Iceland (which is not part of the EZ) due to a particularly risky behaviour of banks (I am not expert enough to judge this). This is, however, generalised to all the EZ in a disputable interpretation of the crisis due to “financialization”, a view that is also shared by many mainstream economists. The banking crisis is almost completely detached from the story told by Frenkel and many others that led to the housing bubbles (that are just mentioned in passing, p.9) in Spain and, according to a World Bank report also in Ireland (and Greece!) too, and to the ensuing the CA troubles. Certainly, no risky banking behaviour is behind the Italian troubles. So the banking crisis as told by Wray-Mosler is of very limited if not of nil value. “Financialization” is part of the EZ story, but within the precise context that, to the best of my knowledge, only De Grauwe foresaw. 
More in general, “financialization” fits well in a Kaleckian (rather than Miskian) story that regards it as a way to sustain aggregate demand and the realisation of capitalists’ surplus either in the domestic market (as in the U.S. autonomous consumption bubble) or in foreign markets (as in the case of the core-periphery relations in the EZ). Anyway, I myself suggested a convergence between Kalecki and Minsky in the view that capitalism is debt driven (Cesaratto 2012b)
1.3. A sovereign debt crisis
Wray is certainly correct to point out that banks’ troubles are transferred to the public sector once government bails them out. The question is then if the country has or not full monetary soveregnity:
“From the MMT point of view … the main problem with current account deficits in monetarily sovereign nations is the balance sheet situation of the domestic private sector (given a government budgetary outcome). …some EMU nations also ran chronic current account deficits. And if these had been monetarily sovereign nations (in the sense that they each issued their own floating rate currency), then the worry would have been over the private sector balance. But here the EMU nations diverged significantly from one another—some with current account deficits did not run up huge private sector debts, others did. The balancing item, of course, was the government balance. And, more importantly, these were not monetarily sovereign. Each dropped its own currency in favor of a ‘foreign’ currency—the Euro. So there are two issues: a current account deficit mostly offset by a private sector deficit, versus a current account deficit offset mostly by a government sector deficit. My argument is that for a monetarily sovereign nation only the first of these is a problem; but for Euro nations, either of these can cause trouble” (Wray here, my italics).These passages are important because they show that the ultimate factor at the origin of the EZ crisis is, in Wray’s opinion, the absence of national sovereign central banks: indeed, CA deficits (as long as they correspond to public deficits only) or the associated banking crisis (as long as monetary sovereign states bail then out) appear ancillary/derived troubles. We are somehow sent back to Wray’s arguments reviewed in part 1 LINK of the present post about the thaumaturgic values of either national monetary sovereignty that backs national public finances (the “born in the US” story), or of a fully federal EZ in which the ECB back a federal budget (the “had the EZ been like the U.S. it wouldn’t had a BoP crisis” story).
“we already addressed the current account story—easily understood through the lens of Godley’s sectoral balance approach: a current account deficit must be offset by a combination of a domestic private sector deficit and/or a government deficit. Since these are not sovereign currency issuing governments, private and government deficits can both lead to problems.” (Wray here).
“Our argument was that separating fiscal policy from currency sovereignty would raise questions of solvency that would constrain the ability of fiscal policy to expand when necessary. That was the basis of all these early MMT arguments.”
Beyond doubt, the EZ crisis has eventually become also a fiscal crisis. But this outcome must be placed in a fully consistent historical and analytical account of the events, otherwise the sovereign debt crisis story might perilously resemble the conventional story (mainly by the German economists and by Alesina and his associates) that the crisis originated from the fiscal profligacy of peripheral countries, a story that with (perhaps) the partial exception of Greece (with the political coverage of the Germans) is clearly false. And indeed, everybody in the European public debate knew that with the monetary unification the financial markets (not the Maastricht Treaty) were the watchdog of “fiscal discipline”. In fact, most of the peripheral government behaved in a very “disciplined” way during the EMU years and beyond. Wray and Kelton early warnings of a pending fiscal crisis in the EZ must be intended that had troubles arose from other sources – as they did – then the absence of monetary sovereignty (or of a genuine EZ central bank) would aggravate the crisis.
The differences between Wray’s and my point of views are perhaps not so substantial as it may appear, since partially depend from the angle you look at the events. He finds the origin of the EZ crisis in the lack of coordination of fiscal and monetary policy either at the EMU level, as seen in part 1 LINK or, alternatively, in the lack of full national monetary sovereignty. Being in the middle (never forget out of an explicit choice of the political designers) the EZ developed a crisis that is in the middle between the U.S. crisis – sharing in common with it the housing bubble and the banking crisis – and the traditional financial crisis of the emerging economies as described by Frenkel and many others. The EZ no-solutions also depends on this being in the middle: neither the U.S. relatively efficient solution of a domestic financial crisis, not the traditional solutions in emerging economies in which the adjustment was helped by the recovery of a competitive exchange rate. Perhaps I prefer to stress the events as they unfolded in the given design, while Wray prefers to look at the wrong design of the EMU (but strangely neglecting the importance of an ordered account of the actual events that came out from the wrong design).
2. Comprehensive views
I believe that Roberto Frenkel’s (2012) synthesis of the EZ crisis can constitute a reference point and convergence field for many of us. In short, he sees a similarity between the EZ events (and those of the Baltic and Eastern European countries that pegged their currency to the Euro here) and those that typically took place in the emerging economies till the very beginning of this century. This view particularly applies to the case of Spain, Ireland and Greece. Much less to Italy that is closer to the Kregel loss-of-competitiveness case. The Irish case should also, in addition, be interpreted through the Mosler-Wray lenses of a “pure” banking crisis. According to Frenkel, the similarity with what I called the “this time is different” story (after the otherwise confused book by Reinhart and Rogoff) stops here. There are al least three differentie specificae in the EZ crisis (as also pointed out in Cesaratto 2012a). One is that the EZ nations lack a lender of last resort, so that the fiscal crisis that followed the private sector crisis rapidly acquired an inertia by its own, as Wray, Kelton and Mosler presciently warned us it could. Nonetheless, a second differentia, the Eurosystem refinancing operations have made increasingly possible to domestic banks to sustain national states, so that now the fiscal and banking crisis are intertwined in a fatal embrace, one entity bailing out the other. A third is that the Target 2 scheme, as Wray (here) also points out, let the CA, banking crisis and what are called “sudden stops” (or capital flight) not to explode in generalized banking and state defaults. For how long this situation can continue is not clear. It will explode for political or social reasons. But we must stop here and let this discussion for the (near) future as events unfold. (an excellent post in this regard is by Marshall Auerback).
An even more comprehensive view - that deserves further research – would read as follows. In the pre-crisis EMU years, in the Italian and Portuguese (and French) (PIF) cases the loss of competitiveness was such that a same (albeit moderate) pattern of domestic autonomous (private and public) demand was accompanied by lower output growth and growing external imbalances (notably those countries had not an housing bubble). In other words, the deterioration of the foreign competitiveness is such that the same pattern of domestic investment, autonomous consumption and government spending is increasingly generating a larger output abroad (say in the core-countries), and correspondingly less within her boundaries. Through the lenses of sectoral balances, this means that the country is running an external deficit, and by definition the foreign sector (say, the core-countries) is lending to her, what is not surprising since at the same time the foreign sector is enjoying a higher income, and therefore higher saving. The low interest rates due both to the ECB policy stance, the temporary disappearance of devaluation risk and fiscal discipline permitted to the deficit countries to keep their fiscal accounts under relative control. Nonetheless a trend leading to the deterioration of the domestic balances was there (rapidly in the Portuguese case, slowly in the Italian case; even more slowly in the French case). Once the crisis exploded, as the result of the transmission of the American and global crisis and of the mismanagement of the Irish-Greek-Spanish (IGS) situation by the EZ authorities, in particular the absence of a truly European CB to substitute the disappeared national monetary sovereignty, led to the explosion of a sovereign debt crisis in the PI. The story of the IGS countries is partially different from that of the PIF. Although they share the same underlying events of the PIF, in their case, domestic demand grew faster sustained by foreign capital flows following the Frenkel’s style course of events. The buoyant fiscal revenues gave the impression of sound fiscal finances, while the private balances rapidly deteriorated mirrored by the mounting foreign imbalances. The explosion of the housing bubbles in Spain and Ireland, the insolvency of the Greek government, and the bail out of the domestic financial sector – in the absence of the backing of a central bank - led to the fiscal crisis. As Wray and Cesaratto (2012a) say, had the EZ similar to the U.S. the crisis would have been managed as a domestic crisis involving local banks and states (letting some of them to fail, or to downsize, but supporting the local states through transfers). Had the EZ composed by monetary sovereign states, the crisis would have been managed as the typical financial crisis that often involved the emerging economies. Being in the middle, sovereign spreads reflects the solvency (not just liquidity) risk of the peripheral countries or, what it’s the same, the risk of the break up of the currency union. Be as it may, the scale of the crisis is larger than previous cases and its management very complicated, first of all from a political point of view.
I am sincerely admired from the pieces of prescient views about the various deficiencies of the EMU that came from people associated to the Levy Institute. Yet, I feel, as many others (I’m sure many just keep silent to avoid troubles), uncomfortable with the Nostradamus race initiated by the MMTs that has, in my opinion, impeded them to work at a more comprehensive view of the EZ crisis, one that should have taken into account other contributions from a much, much larger community of heterodox (and even open minded orthodox) scholars. My impression is that the race to show that whatever others have said, one scholar associated to the Levy said it before (likely better), has let to a self-contradictory, disordered explanation of the crisis by some MMTs. I’m ready to use, cum grano salis, the insights from MMTs, while the Levy Institute is an essential lighthouse for all heterodox economists. Hope this is reciprocal. Humility is part and parcel of the scientific enterprise, especially for heterodox economists that already suffer the arrogance of the mainstream..
Wray (here) uses the expression “factors of production” (“One of the goals of European integration was to free up labor and capital flows, removing barriers so that factors of production could cross borders”). This term should not be employed by heterodox economists - unless you believe that a “factor of production” called “capital” measurable independently of income distribution exist, or you think that the question is irrelevant. I believe that capital theory, or distribution theory if you like, marks the boundary between orthodox and heterodox economics, no monetary issues – in principle you can be Chartalist or believe in endogenous money and be neoclassical – let alone methodological issues. Of course, once set free from the neoclassical constraints, good monetary theories and methodologies may give their best.
Barba A., Pivetti M. (2009) Rising Household Debt: Its Causes and Macroeconomic Implications-A Long-Period Analysis, Cambridge Journal of Economics, Vol. 33, Issue 1, pp. 113-137, 2009.
Cesaratto S. (2012b), Neo-Kaleckian and Sraffian controversies on accumulation theory, Università di Siena, Quaderni del Dipartimento di Economia politica e Statistica, forthcoming Review of Political Economy.
Cynamon B.Z., Fazzari S.M. (2008) Household Debt in the Consumer Age: Source of Growth—Risk of Collapse, Capitalism and Society, vol. 3, article 3.
Palumbo A. (2012), “On the Balance-of-Payments-Constrained Theory of Growth”, in Sraffa and Modern Economics (R. Ciccone, C. Gehrke, G. Mongiovi eds), London: Routledge.
 Partially because the balanced budget theorem and the possibility of redistributive fiscal policies from the wealthier to the poorer citizens suggest that some space is left to expansionary fiscal policies.
 This is not to lessen the important educative role that the “sectoral balances approach” has had on all us in telling macroeconomic stories that take into account the simultaneous evolution of the three balances. The “sectoral balances” must, however, be part of a consistent story. Here (fn 21) I commented a passage by Wray (2009: 6-7): “‘It is the deficit spending of one sector that generates the surplus (or saving) of the other; this is because the entities of the deficit sector can in some sense decide to spend more than their incomes, while the surplus entities can decide to spend less than their incomes only if those incomes are actually generated. In Keynesian terms this is simply another version of the twin statements that ‘spending generates income’ and ‘investment generates saving’. Here, however, the statement is that the government sector’s deficit spending generates the nongovernment sector’s surplus (or saving)’. The Keynesian multiplier is clearly alluded to, but Wray’s preference goes to the ‘stock-flow consistent framework’ (SFCA). The emphasis on the accounting identities may lead to overlooking the Keynesian mechanisms that lead from one equilibrium to another hiding the fact that when the balance of one sector changes, output is also changing. It might thus convey the impression that the argument is carried out for a given level of output. Despite this I do not deny the disciplinarian role that the SFCA has on our way of thinking, obliging us to always keep in mind the necessary interrelations between the three institutional sectors.”
 See, inter alia, World Bank (that quotes approvingly Bibow 2012) IMF, EU Commission, Federal Reserve Bank of St. Louis, Merler and Pisani-Ferry.
 I frankly felt some annoyance to read this: “How could anyone—let alone an Italian economist—attribute Italy’s problems to profligate consumption of imports? Heck, back in the bad old days before the EMU (when Italy had its “high” inflationary Lira) it actually ran current account surpluses. It was the set-up of the EMU that killed Italy’s exports—exactly as Jan Kregel had predicted.” No heterodox “Italian economist” has indeed accused Italy of profligacy. Had Wray the patience (or humility) to read Cesaratto (2012a), the Italian experience has precisely been illustrated along Kregelian lines. Incidentally, Wray cites several times the German Mercantilism. He could have perhaps learnt something about its nature from my papers (in turn, I was inspired by Marcello De Cecco, the senior Italian international monetary economist, and by the nationalist/mercantilist/political realist tradition in International Political Economy and development studies). It should also be said that, according to many experts, the Italian exports did not fare badly in the last years - and the case is the same for Spain. The problem was likely on the import side. For Spain that was certainly due to the relatively high growth of domestic demand due to the construction boom, and for both likely to the loss of competiveness in the sectors were they were already weak.
 “The crisis in Ireland is essentially one of a boom and bust of a real estate bubble. Encouraged by the fall in interest rates that went along with the adoption of the euro, banks obtained funding from British, German and US banks, usually in the form of short-term debt, foreign-owned bank deposits, or foreign-owned portfolio equity, to expand credit to the private sector. …
Fuelled by a rapid expansion of credit, Ireland‘s housing market began to expand in 2000, resulting in a boom in property investment and construction. The wealth effect from this boom spurred higher levels of consumption and helped sustain high growth rates. Boosted by the real estate boom, Ireland's banking system ballooned to five times the size of the economy, and its external debt to over 1000 percent of GDP at the end of 2010. When in the wake of the crisis funds from the US and Britain dried up, the banking system experienced a liquidity crunch, thus slowing credit to the real estate market. As borrowing became more expensive, the demand for housing started to decline, resulting in a fall in prices and an oversupply of housing. This put pressure on the balance sheets of banks many of which had relied extensively on profitable mortgage loans to boost their earnings. The authorities‘ extensive support as well as access to emergency support from the Central Bank was vital to address financial stability concerns. Yet, the bailout or purchase of failing banks also led to a crisis of confidence, as the government bailout package reached 20 percent of GDP and the budget deficit shot to 32 percent of GDP in 2010, leading to outflows of foreign assets.” (World Bank: 17:8). The interpretation of the EZ crisis advanced by this WB report is in line with those of Roberto Frenkel (2012), Cesaratto (2012a), Bibow (2012) and others: “Overall, at the heart of the euro debt crisis is an intra-area balance of payments crisis caused by seriously unbalanced intra-area competitiveness positions and the—largely private—accompanying cross-border debt flows. And as discussed above, the common currency was central to this outcome with its impact on interest rates (both for sovereigns and for credit to the private sector), financial integration and the encouragement of export-led growth in core countries and consumption-led growth in non-core countries.” (15).
 Italian banks have not been involved in risky international activities with the exception of lending to Eastern European countries that pegged their currency to the Euro, particularly Hungary, with the standard dire consequences.
 Paul De Grauwe’s foresaw in 1998 that financial liberalisation and monetary unification in the EZ would bring about a housing bubble followed by a banking crisis in Spain: the “future euro financial crises … will in one crucial aspect be different from the financial crises recently experienced in Asia. They will not lead to speculative crises in the foreign exchange markets. Thus, if Spain is confronted by a banking crises this will not spill over into the Spanish foreign exchange market because there will be no such market. One source of further destabilisation of the markets will, therefore, be absent. The founders of EMU have taken extraordinary measures to reduce the risk of debt default by governments. Maastricht convergence criteria and a stability pact have been introduced to guard EMU from the risk of excessive government debt accumulation. The Asian financial debacle teaches us that excessive debt accumulation by the private sector can be equally, of not more, risky. This has escaped the attention of the founders of EMU, concerned as they were by the dangers of too much government debt. In the meantime the EMU-clock is ticking, while the institutions that should guard EMU from financial and banking crises have still to be put into place.” This is the standard “this time is different story” of the financial crisis in emerging economies with, as we shall see, an important novelty in the EZ crisis.
 Non conventional economists are divided over the deep causes of the crisis that set off in 2007-8 (Palley 2010). Minskian authors, associated to the Levy Institute in the US, tend to see it as the result of periodic cycles of financial exuberance. Many conventional economists also share this view, as suggested by their rediscovery of Hyman Minsky’s lesson. Other heterodox economists go behind the financial excesses and find their origin in the necessity of capitalism, particularly in the US, to sustain aggregate demand after the big change in income distribution that occurred over the last thirty years, from the working and middle classes in favour of an affluent thin minority of capitalists (and relative attaches) (e.g. Barba, Pivetti 2009, Cynamon, Fazzari 2008). A few of open-minded mainstream economist also share this view (e.g. Rajan; Fitoussi, Saraceno).
 If, as in the MMT view, public debts backed by a sovereign CB are never a problem, why should the private debts be a problem as long as they can be transferred to the public sector?
 As Mosler suggests: “the conditions for a national liquidity crisis that will shut down the euro-12’s monetary system are firmly in place. All that is required is an economic slowdown that threatens either tax revenues or the capital of the banking system”
 I do not like this book, but it is not a case that Wray has critically reviewed it (here), while I simply believe that the “this time is different” story is analytically better told by Frenkel and the Latino-American tradition including the seminal paper by Diaz-Alejandro.
 That is the refusal by foreign capital to roll over public or private debts. To this capital flights from residents should be added.
 So I am very far from the naive views Wray attributes to me: “an Italian economist, Sergio Cesaratto called the MMT victory ‘spurious’. I’ll try to focus in on the main complaint, which seems to be that MMT missed the true cause of the Euro mess: current account deficits run up by some profligate EMU members” (here). Or (here): “Sergio (Remember him? …) sees all this as a current account imbalance. Those Irish and Icelander consumers just bought too many imports. Living the high life up north.” I never wrote this kind of things (let alone that Iceland is part of the EMU).