Evolution and Threats to Euro


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Written before the Euro Crisis set in, this paper explains how Euro evolved from 1990s till now and the threats it is facing because of countries like Greece being a part of Eurozone. However unfortunate, the bright part of the paper is that the predictions done in the paper are coming true now with S&P rating Greece as Junk and IMF coming out to bail it. Please email me at ankurdineshsharma@gmail.com for any further information and/or details on this.

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Evolution and Threats to Euro

  1. 1. Evolution of Euro & Threats it is Facing *Prepared for an International Finance Project of Indian Institute of Management, Calcutta (IIM-C) For more information, please contact: Ankur Sharma ankurdineshsharma@gmail.com +91 9886403253 Follow me @ankurdinesh http://ankursharma.co.in/
  2. 2. Evolution of Euro • In 1999, the euro area was established as a currency in eleven of the then fifteen EU Member States • Of the 27 EU Member States today, sixteen have adopted the euro • Outside EU too, direct usage of euro affects over 3 million people • Its introduction - January 1, 1999, marked the final phase of Economic and Monetary Union (EMU), a three-stage process that was launched in 1990 as EU member states prepared for the 1992 single market
  3. 3. Euro Sign • The symbol for the euro is a rounded "E" with one or two cross lines - €. • Euros are divided into eurocents, each eurocent being one one-hundredth of a euro.
  4. 4. The EURO :1990’s • 1990: Aimed at boosting cross-border business activity, the first stage of EMU lifted restrictions on movements of capital across internal EU borders • 1994: The European Monetary Institute was established in Frankfurt to pave the way for the European Central Bank • 1999: the Euro was introduced as the single currency for eleven EU member states: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal, and Spain
  5. 5. The EURO:1999-Present • 1999-2002: The Euro and the previous national currencies were concurrently used in participating states. • 2002: The participating countries had their previous national currencies withdrawn permanently as legal tender. • EU member states not yet using the Euro as currency: Denmark, Sweden, United Kingdom • All nations that have joined the EU since 1993 have pledged to adopt the euro in due course.
  6. 6. Banknote Denominations
  7. 7. Coins
  8. 8. Unity in Diversity - The €uro Cyprus Malta Slovakia
  9. 9. Administration • Euro is managed and administered by the Frankfurt-based European Central Bank (ECB) and the EuroSystem (composed of the central banks of the Eurozone countries) • As an independent central bank, the ECB has sole authority to set monetary policy • The Eurosystem participates in the printing, minting and distribution of notes and coins in all Member States, and the operation of the Eurozone payment systems
  10. 10. Why was Euro Introduced? • Since for most EU countries today, majority of international trade is with other EU members, a common currency has: • Removed exchange rate risks from the internal market • Cut the costs of transactions • Encouraged firms to trade across national borders • The common currency has made the eurozone into an area of monetary stability in Europe • It has also forced EU states to adopt responsible economic policies that contain inflation and increase real living standards.
  11. 11. Criteria to join EMU • EMU was agreed at Maastricht, the Netherlands in Dec 1991 • Five Criteria for countries to qualify for EMU – Countries should have an inflation rate within 1.5% of the three EU countries with the lowest rate. – Long-term interest rates must be within 2% of the three lowest interest rates in EU – Exchange rates must be kept within "normal" fluctuation margins of Europe's exchange-rate mechanism. – The amount of money owed by a government for 1997, known as the budget deficit, has to be below 3% of Gross Domestic Product – The total amount of money owed by a government, known as the public debt, has to be less than 60% of GDP
  12. 12. Criteria to join EMU • Of the 12 countries wanting to join EMU, initially only Luxembourg and Finland fully met the currency criteria • The convergence criteria were somewhat flexible so that Austria, Belgium, France, Germany, Ireland, Italy, the Netherlands, Portugal and Spain were able to join • Only Greece failed to qualify • The United Kingdom technically qualified for EMU, but decided not to join with the first wave of countries • Denmark and Sweden met the Maastricht criteria, but have not joined the European exchange-rate mechanism yet
  13. 13. EuroZone • Officially the Euro Area • Is and Economic and Monetary Union of 16 EU member states which have adopted the Euro currency • Monetary policy of the zone is the responsibility of the European Central Bank
  14. 14. Countries that come under Euro Zone • Austria • Netherlands • Belgium • Portugal • Cyprus • Slovak Republic • Finland • Slovenia • France • Spain • Germany • Greece • Ireland • Italy • Luxembourg • Malta
  15. 15. States refusing to join Eurozone • Greece and Sweden were originally excluded from the zone because they did not meet the entry criteria in full. • Greece was subsequently admitted in 2001, but the people of Denmark and the government of the UK decided to remain outside the zone during the first wave. • No economic justification exists for these two states to remain outside the zone.
  16. 16. How does Eurozone Operate? • Achieved through EMU. All countries in the European Union are part of the EMU. • Each country in the Euro area runs its own economy, while keeping to certain rules to make sure that the euro remains strong and the euro-area economy does well. • These rules put limits on how much money a country can borrow. • The rules of EMU ensure that a country has a sustainable economy - it can pay its debts, and its pensions, in the future. • ECB, based in Frankfurt in Germany, makes a large contribution to the economic stability of the euro area and has the sole right of issuing banknotes and is in charge of the Monetary Policy
  17. 17. Effects of Single Currency on EU Member States Outside the Zone • The 12 EU member governments outside the Eurozone cannot take part in the 'Euro-15 Council' that deals with economic and fiscal policies within the common currency area. • Member states not in the first two waves must nevertheless avoid excessive government deficits and continue to regard their exchange rate policies as a matter of common interest. • No representatives on the ECB board • No voice in decisions regarding Eurozone interest rate – although it directly affects the value of their currency.
  18. 18. Direct and Indirect Usage of Euro • Sole Currency of 16 EU member states • Outside the EU, the euro is also the sole currency of Montenegro and Kosovo and several European micro states as well as in three overseas territories of EU states that are not themselves part of the EU • Gaining increasing international usage as a trading currency, in Cuba, North Korea and Syria • Since introduction, euro has been the second most widely- held international reserve currency after US dollar • Share of the euro as a reserve currency has increased from 17.9% in 1999 to 26.5% in 2008
  19. 19. Euro as 1st International Reserve Currency • Widely debated among economists • Former Federal Reserve Chairman Alan Greenspan gave his opinion in September 2007 that it is "absolutely conceivable that the euro will replace the dollar as reserve currency, or will be traded as an equally important reserve currency." • In contrast, the Greenspan's 2007 assessment shows the euro's increase in the share of the worldwide currency reserve basket has slowed considerably since the year 2007 and since the beginning of the worldwide credit crunch related recession.
  20. 20. Euro Advantages • Elimination of exchange-rate fluctuations • Price transparency • Transaction costs • Increased trade across borders • Increased cross-border employment • Simplified billing • Expanding markets for business • Financial market stability • Macroeconomic stability • Lower interest rate • Structural reform for European economies • Unites Europe
  21. 21. Euro Disadvantages • Cost of transitioning 12 countries currencies over to a single currency • Including accounting systems, software, printed materials, signs, vending machines, parking meters, phone booths and every other type of machine that accepts currency • Training for employees, managers, and consumers • Countries cannot adjust interest rates • Countries cannot adjust their exchange rate • Restricted government spending • Political shock • Loss of cultural identity
  22. 22. Threats facing the Euro • The differences among Eurozone countries jeopardize confidence in the euro and threatens cohesiveness of the euro area • Bond markets are indicating that investors are increasingly shunning offerings from Portugal, Spain and Ireland • After the Greek Debt Crisis, UBS advised investors to sell Euros, noting that the currency was likely to lose value
  23. 23. Threats facing the Euro • Strong fourth-quarter growth in the US coupled with a rather tepid recovery in Europe has led euro lose 9% from Dec ‘09 – Jan ’10 • Euro would go down even further, because foreign central banks are assessing the risk of a possible collapse of the Eurozone • Struggling euro zone countries would be tempted to abandon Euro to gain back control over interest & exchange rates, thereby leading to collapse
  24. 24. Thank You!