The Euro Area has gone through a long and painful crisis, but the end is near. Growth is returning, although its distribution across the EU is very unequal. This divergent economic development between member states of the European Union is not sustainable, both for economic and political reasons.
The most important challenge is now to restore balanced economic growth. This is also a necessary condition for maintaining stable public finances. We reassess the concept of sustainable public debt and provide empirical evidence. It turns out that in the long run the debt/GDP ratio depends on the nominal growth rate, which needs to attain 5% in order to bring the steady state debt ratio down to 60%. Yet, unfortunately no member state of the European Union is presently achieving nominal growth rate of this order.
We also find that fiscal policy must adjust in proportion to the growth adjusted interest rate in order to prevent it from steadily diverging from the long run steady state equilibrium. Most countries, with the exception of Belgium, Austria, Lithuania and Germany have satisfied this condition in 2016, but far less countries have done so since the crisis started in 2009. Yet, in the present economic environment, European public debt is sustainable.