On 2 May, agreement was reached between Greece, the IMF and the other euro area countries on a three-year loan package with a maximum limit of EUR 110 billion. The agreement included a comprehensive IMF adjustment program. Greece has borrowed approximately EUR 30 billion from the IMF and the euro area countries since May. Other European countries with weak public finances were also being scrutinised and there was a risk of contagion to the banking system in Europe, which was behind many of the loans. On 10 May the EU and the European Central Bank announced extensive support measures for EU countries, including the European Financial Stability Facility, which can provide loans to countries in difficulty up to a total limit of EUR 500 billion, with additional loans of up to EUR 250 billion made available by the IMF through its program facilities. Countries may draw on these loan facilities provided that taxes are increased and expenditure cut so as to enable the country to gradually become self-supporting. At the same time, the European Central Bank began to buy government bonds, which had become difficult to trade on the market, enabling markets and monetary policy to function more effectively. Economic history shows that periods of surging corporate and household debt and sharply rising property prices often precede banking crises. The fates of banks and states are inextricably linked. Banking crises usually lead to fiscal crises. Similarly, weak government finances will undermine banks’ financial position. 1 Crises are costly.
It became increasingly difficult for these countries to raise loans in domestic currency, particularly loans with long maturities. Attempts were made to keep inflation and the magnitude of foreign debt in check by pegging the domestic currency to the US dollar. But fiscal mismanagement often triggered currency crises, a fall in the value of domestic currency and a surge in foreign debt. This is when the government gave up and stopped servicing debt. The degree of losses incurred by creditors in connection with sovereign default has varied. The most recent default episodes have left creditors with losses ranging between an estimated 30 and 75 per cent. 7 These experiences will probably influence interest rates on sovereign loans when a country’s debt-servicing capacity is in question. 5  Carmen M. Reinhart and Kenneth S. Rogoff (2009): This Time is Different. Eight centuries of Financial Folly. 6  Sverre Steen (1954): “Krise og avspenning”, Det Frie Norge Vol 3. 7  Panizza et al (2009): “The Economics and Law of Sovereign Debt and Default”, Journal of Economic Literature 47. 4  BIS Review 123/2010  A forum was established, the Paris Club, which meets regularly to find solutions to bilateral debt problems. The Paris Club consists of 19 creditor governments, including Norway. A solution is contingent on the implementation of reforms in the debtor country as part of an adjustment program supported by the International Monetary Fund (IMF). Since 1956, the Paris Club has negotiated 417 debt reduction agreements with 87 countries.