Second, instead of increasing the pressure for structural reforms and policy adjustments needed to strengthen competitiveness in the periphery, market forces acted in the opposite direction. The markets mis-priced credit risk, underpinning large capital flows into the periphery and reducing interest rate spreads.
The reduction in spreads led to a relaxation of the budget constraints that the peripheral countries  BIS central bankers’ speeches  1  faced and made it difficult to distinguish between those countries that were performing well in terms of policy adjustment and those that were performing poorly.