Once one takes into account spillover effects, which are likely to be large in the Eurozone
In my post from last week in which I made the commonsensical observation that contractionary fiscal policy is contraction, I reproduced this table from a Deutsche Bank publication.
Figure 1: Fiscal adjustment, multipliers, growth impacts. Source: Deutsche Bank, “Fighting the Clock,” Fixed Income (May 2012) [not online], Note: a negative sign under “change in structural balance” indicates an increase in the surplus.
In a personal communication, Not the Treasury View’s Jonathan Portes observed that the multipliers, and associated impact on the eurozone, would be larger once one takes into the spillover effects, as closely linked countries embark on fiscal contraction (see this Vox post). Another communication from NIESR’s Dawn Holland indicates that treating the eurozone as a single economy implies the weighted average should be increased by about 30%. NIESR’s macroeconometric model, NiGEM,  suggests the individual standard country multipliers should be adjusted upward by different amounts (the NIESR’s NiGEM multipliers are likely to be different than DB’s).
Figure 2: Multiplier adjustment factor, accounting for spillover effects. Source: D. Holland.
The logic is as follows. The standard multiplier assumes each country can be treated as a relatively small open economy, where decreases in output induce decreases in imports, which offset the initial decline. However, when all countries are simultaneously shrinking, then the decline in imports is in turn mitigated.
Thinking about the eurozone in terms of individual countries highlights the fact even if some countries are constrained by borrowing costs (compare against the US Federal government with current real funding rates of zero), Germany and other northern European could stimulate their economies. This would help brake the continent’s contractionary spiral.
Personally, given my skepticism regarding the rapidity with which new institutional arrangements such as a banking union can be effected, unilateral measures by eurozone countries with fiscal space seem more plausible means of staving off a full-fledged financial crisis (as well as by the ECB, as discussed here).