The late, great scholar of crises, Rudi Dornbusch, put it aptly: “In a very rich country you can afford to do very bad things for very, very long.” (Dornbusch and Fischer 2003). The Eurozone is in the process of finding out just how long “very, very long” means.
Far from waiting too long to act as a lender of last resort, the ECB has presided over a continuous and ongoing expansion of central bank credit to private banks in the periphery. Since 2007, it has increased more than 1000% in Greece, Italy, Ireland, Portugal and Spain (GIIPS for short), as shown in Figure 1. This is massive and unprecedented in the post-war history of Europe.
Without institutional reform to eliminate the tragedy-of-the-commons from the Eurozone architecture, the next rescue package will simply be another link in a chain of difficult decisions forced upon the ECB and European authorities by the urgency to avoid a crisis. Unfortunately, such a rescue package will exacerbate the tragedy-of-the-commons and further delay reforms.
The tragedy-of-the-commons concept has been used to explain the overgrazing of the Commons in the middle ages, the overfishing of the oceans, capital flight, etc. Anywhere property rights are not strictly enforced, agents tend to overuse the common-pool resources, paying attention to the average, rather than the marginal cost that their actions place on society (Tornell and Velasco 1992).