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Many voices are calling for the ESM to be developed into a fully-fledged European Monetary Fund. But what changes would this entail, and how could the new institution be governed? The authors, André Sapir and Dirk Schoenmaker, see both need and hope for change.

Sovereign debt crises and banking crises were not supposed to happen in the euro area. Or more precisely, the Maastricht Treaty, which founded the European Monetary Union (EMU), contained no common provision for dealing with a sovereign or banking crisis. The euro area was therefore totally unprepared when hit first by a banking crisis, then by a sovereign debt crisis and finally by a sovereign-bank “doom loop”.

Under the Maastricht philosophy, or EMU 1.0, each member country was supposed to take care of its sovereign debt or banking problems on its own. The only common instrument that existed, the Stability and Growth Pact (SGP), was for the surveillance (and correction) of public deficits by the European Commission. There was no common instrument in case a sovereign faced a liquidity or solvency crunch. For banks, there was not even a common instrument for the surveillance of risk, and there was no common instrument in case of a liquidity or solvency crisis. Everything was left in the hands of individual member countries. This Maastricht architecture is described in the two columns entitled EMU 1.0 in Table 1.

The situation changed radically after the euro area was hit by a series of banking and sovereign crises. National and European authorities were forced to realise that a sovereign or banking crisis, leave alone a sovereign-cum-banking crisis, has implications for the entire area – even if it occurs in only one euro-area country. As a result, they gradually took steps to create new common tools for the surveillance of sovereigns and banks, for the management of sovereign debt and banking crises, and for the resolution of banking crises.

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