European Sovereign Debt Crisis

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  • 5. Rising household and government debt levels • A number of economists have dismissed the popular belief that the debt crisis was caused by excessive social welfare spending. • According to their analysis, increased debt levels were mostly due to the large bailout packages provided to the financial sector during the late-2000s financial crisis.6. • The average fiscal deficit in the euro area in 2007 was only 0.6% before it grew to 7% during the financial crisis. • The International Monetary Fund (IMF) reported in April 2012 that in advanced economies,the ratio of household debt to income rose by an average of 39 percentage points, to 138 percent in Denmark, Iceland, Ireland, the Netherlands.7. • In the same period, the average government debt rose from 66% to 84% of GDP. • By the end of 2011, real house prices had fallen from their peak by about 41% in Ireland, 29% in Iceland, 23% in Spain and the United States, and 21% in Denmark.8. TRADE IMBALANCES • A trade deficit can also be affected by changes in relative labor costs, which made southern nations less competitive and increased trade imbalances. • Since 2001, Italy's unit labor costs rose 32% relative to Germany's. • Greek unit labor costs rose much faster than Germany's during the last decade.9. STRUCTURAL PROBLEM OF EUROZONE SYSTEM • There is a structural contradiction within the euro system, namely that there is a monetary union without a fiscal union (e.g., common taxation, pension, and treasury functions). • In the Eurozone system, the countries are required to follow a similar fiscal path, but they do not have common treasury to enforce it.10. • That is, countries with the same monetary system have freedom in fiscal policies in taxation and expenditure. • Eurozone, having 17 nations as its members, require unanimous agreement for a decision making process.11. • This would lead to failure in complete prevention of contagion of other areas, as it would be hard for the Euro zone to respond quickly to the problem. • That is, countries with the same monetary system have freedom in fiscal policies in taxation and expenditure12. MONETARY POLICY INFLEXIBILITY • Eurozone establishes a single monetary policy, individual member states can no longer act independently, preventing them from printing money in order to pay creditors and ease their risk of default. • By "printing money", a country's currency is devalued relative to its (eurozone) trading partners, making its exports cheaper,increased GDP and higher tax revenues in nominal terms.13. LOSS OF CONFIDENCE • The loss of confidence is marked by rising sovereign CDS (credit-default swaps) prices, indicating market expectations about countries creditworthiness. • Since countries that use the euro as their currency have fewer monetary policy choices certain solutions require multi-national cooperation.
  • European Sovereign Debt Crisis

    1. 1. European Sovereign Debt Crisis By: Lakshman Singh Praxis Business School 1
    2. 2. Eurozone  In 1992, members of the European Union signed the Maastricht Treaty.  To join the currency, member states had to qualify by meeting the stringent economic requirements, known as “convergence criteria”.  Price Developments: Inflation can only be 1.5% more than the average of the three best-performing member states.  Fiscal Developments: Budget deficits that cannot exceed 3% of GDP and total sovereign debt amounts or public debt cannot exceed 60% of GDP.  Exchange-Rate Developments: A prospective member cannot have devalued its currency relative to any other member state’s currency for the preceding two years.  Eurozone is an economic and monetary union of 17 European Union member states that have adopted the euro as their common currency. Praxis Business School 2
    3. 3. When does debt become a big problem? Praxis Business School 3
    4. 4. Eurozone Crisis  It is a combined sovereign debt crisis, a banking crisis, a growth and competitiveness crisis.  The Eurozone debt crisis is an economic crisis due to the:-  Collapse of financial institutions  High government debt  Rapidly rising bond yield spreads in government securities  The European sovereign debt crisis started in 2008, with the collapse of Iceland’s banking system  Three countries significantly affected Greece, Ireland and Portugal during 2009 and collectively accounted for 6% of the Eurozone’s GDP.  This led to a crisis of confidence for European businesses and economies Praxis Business School 4
    5. 5. Praxis Business School 5 CAUSES Rising household & government debt levels Trade imbalances Structural problem of Eurozone system Monetary policy inflexibility Loss of confidence
    6. 6. Ireland  The Irish sovereign debt crisis was not based on government over- spending, but from property bubble burst in 2007 which cause the economy to collapse.  Irish banks had lost an estimated 100 billion euros, much of it related to defaulted loans to:-  Property developers  Homeowners  Unemployment rose from 4% in 2006 to 14% by 2010  National budget went from a surplus in 2007 to a deficit of 32% GDP in 2010  By April 2011, despite receiving a 67.5 billion euros bailout, the bank debt downgraded to the junk status. Praxis Business School 6
    7. 7. Spain  Before the Eurozone crisis, Spain had low debt level compare to other advanced economies  Debt to GDP in 2010 was only 60%  Spain spent large sums of money on bank bailouts after the property bubble unacceptably burst.  In 2011 the government announced austerity measures  Spending cuts  Tax Increases Praxis Business School 7
    8. 8. Greece  In the early mid-2000s, Greece's economy was one of the fastest growing in the Eurozone  When Greece revealed that its budget deficit was 12.7% of gross domestic product (GDP), more than twice what the country had previously disclosed.  In Greece, high public sector wage and pension commitments were connected to the debt increase  Greece receives rescue packages of 110 billion euros in 2010 and than further 130 billion euros in 2012  Ratings agencies Fitch and Standard & Poor’s downgrade Greece’s credit rating to junk status  Greece implements austerity measures to reduce budget deficit Praxis Business School 8
    9. 9. Portugal  Portugal came into trouble because of decades-long governmental overspending  Portugal requested a 78 billion euros IMF-EU bailout package in a bid to stabilize it’s public finances.  On 16th May 2011, the Eurozone leaders officially approved a 78 billion euros bailout package for Portugal  The average interest rate on the bailout loan is expected to be 5.1%.  Portugal became the 3rd Eurozone country, after Ireland and Greece to receive emergency funds. Praxis Business School 9
    10. 10. Praxis Business School 10
    11. 11. Praxis Business School 11
    12. 12. Remedial Measures  Emergency loans have been extended as bailouts mainly by stronger economies like France and Germany, as also by the IMF.  The EU member states have also created the European Financial Stability Facility (EFSF) to provide emergency loans.  Austerity measures have been enforced  Brussels has given to authority to serve as finance minister for the seventeen countries  They will be overseeing National Budget and imposing harsh economics reforms to struggling countries Praxis Business School 12
    13. 13. Thank You Praxis Business School 13

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