Indeed, with the considerable benefit of hindsight, there can be little doubt that a significant component of credit growth served to create and nourish financial and economic imbalances that have ultimately proved unsustainable, most notably in the housing market. Where mortgages had once been scarce or expensive, they became cheap and readily available. House prices boomed (Chart 6). Institutional and psychological factors fuelled an asset price bubble in real estate. Supported by the dynamism of the real estate market, the peripheral economies grew rapidly. But the growth achieved was not balanced: sectors of the economy associated with the housing boom – construction and financial services – grew disproportionately (Chart 7), drawing resources away from other activities, raising concentrations in loan books and increasing macroeconomic vulnerability to sector-specific shocks. Rapid economic growth led to increased demand for imports, while strong wage growth put pressure on the price competitiveness of the tradable sector. Large deficits on the current account of the balance of payments therefore emerged (Chart 8). Inflows of financial capital from abroad – the proverbial “hot money” – were needed to finance the current account deficit. Such unbalanced growth also had important consequences for the fiscal accounts (Chart 9). The housing boom (and its positive impact on broader economic activity and spending) increased tax revenues, dramatically in some cases. These “windfall” increases in tax revenue were treated as structural rather than cyclical in nature, as the housing boom was prolonged and appeared to survive the cyclical weakness in activity in mid-decade.
As a result, euro area countries cannot afford to implement a sovereign default without suffering as a consequence of such a default a major breakdown of their financial, economic and social structure. There is no post-war example of a government in an industrialised economy restructuring its debt. For a euro area sovereign to seek to restructure its debt would be a huge leap into the unknown. This aspect is frequently omitted by financial analysts in their  10  The classic reference is Fischer. I (1933). “The debt-deflation theory of Great Depressions”, Econometrica 1(4), pp. 337–357. BIS central bankers’ speeches  5  newsletters or by commentators or academics in their short op-eds. And this is the reason why they do not get the point right when they state that default and restructuring is unavoidable in the euro area. The fourth difference is that, given the much greater depth and intensity of financial and economic integration in Europe, the strength of contagion across financial institutions and markets is potentially more significant within the euro area today than was the case in Asia in the 1990s. That is not to say that there was no contagion in the 1990s. But the cross-border exposures within the euro area are an order of magnitude greater than was the case for such intra-regional cross-holdings in Asian EMEs. This means that the potential for spillovers and a systemic area-wide crisis is much higher and has to be factored into the policy responses.