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Euro Zone Crisis


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Great Lakes Economics Club Debate on "Euro Zone Crisis"

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Euro Zone Crisis

  1. 1. Euro CrisisGreat Lakes Institute of Management (Chennai)GLECONOMICS Club
  2. 2. The European Union • Shared values: liberty, democracy, respect for human rights and fundamental 27 Member States freedoms, and the rule of law. • Largest economic body in the world. Combined population of 490 • World’s most successful model for EU Member advancing peace and democracy. States million • A unique institution – Member States Percent of world’s voluntarily cede national sovereignty in7 population many areas to carry out common policies and governance. Percent of global GDP 30 • Not a super-state to replace existing states, nor just an organization for international Percent of combined cooperation.55 worldwide Official Development Assistance • World’s most open market for goods and commodities from developing countries.
  3. 3. Timeline• 1951 – European Coal and Steel Community• Early 1950’s – EDC and EPC• 1957 – Treaty of Rome – EEC and Euratom• 1967 – EEC, Euratom and ESCC merged into EU• 1989 – Fall of Berlin Wall, set the stage for unifying Europe and EU enlargement
  4. 4. Why EU formedWar experience: - 25 million people died in WW-I and 40 million died in WW-II - EU formed to prevent Germany from regaining military might as well as future Europe-wide conflicts - put war-making industries (coal and iron) under international control - constrain nationalism through web of political rulesCold War: - end of Western European great powers, imperial rivalries in Africa, South America, and Asia - formed EU to unite against rising Soviet threat - US was main catalyst of EU formation because they wanted a strong Europe next to the USSREconomic Benefits: a. Comparative advantage b. Economies of scale c. Bargaining power
  5. 5. EU InstitutionsEuropean Commission European Parliament• EU’s executive branch proposes • Voice of European citizens – legislation, manages Union’s day- members elected for to-day business and budget, and five-year terms. enforces rules. • With the Council, passes EU laws• Negotiates trade agreements and and adopts EU budgets. manages Europe’s multilateral development cooperation. • Approves EU Commissioners.Council of the European Union European Court of Justice• EU’s main decision-making body, • Highest EU judicial authority. comprised of ministers of 27 • Ensures all EU laws are Member States, representing interpreted and applied correctly Member State’s point of view. and uniformly.• Decides on foreign policy issues. • the ECJ can only deal with matters covered by the Treaties.
  6. 6. European Commercial BANKThe European Central Bank (ECB) isthe central bank for Europes singlecurrency, the euro.The ECB’s main task is to maintainthe euros purchasing power andthus price stability in the euro area.The euro area comprises the 15European Union countries that haveintroduced the euro since 1999. The euro was introduced in 1999The ECB operates independentlyfrom Member State governments.
  7. 7. Euro ZoneIt is defined as economic,monetary and geographic union of17 member EU countries whohave accepted Euro as commoncurrency after satisfying entrycriteria
  8. 8. Why Eurozone was formed• Convergence than confrontation• Compete with Mighty US dollar• Ease of trade
  9. 9. Entry Criteria• Maastricht treaty – 1992 – to bring price stability – Inflation rates < 1.5 (avg. of 3 best performing EU countries) – Govt. deficit to GDP should not exceed 3% – Gross govt. debt to GDP should not exceed 60% (Germany and France violated this rule) – Applicant country must have joined the Exchange rate mechanism under EMS – Long term interest rate must not be more than 2%• Copenhagen Treaty – 1993 – to preserve democratic governance and human rights – Political – democracy, rule of law, human rights and respect for minority countries – Economic – functioning marktet economy – Legislative – legal laws in unison with EU laws
  10. 10. Agriculture• France benefitting the most from Common Agriculture Policy which provides agricultural subsidies whereas UK opposed to it as it does away its competitive advantage, hence uses annual UK Rebate to subsidize further.• Tourism• France- worlds number one tourist destination followed by Spain, Italy & UK.• The enlargement was "a gift" for the Baltic States leading to increased international travellers, overnight stays and rural tourism development.•New company Formation• The low labour costs in Poland helps the bottom line, while the sustained 5% annual growth guarantees market expansion.• Right next door in Lithuania, friendly tax rates are the main attractant, with their 15% corporate tax schedule among the lowest in the EU.
  11. 11. Reduced administrative hurdles• Dutch companies have saved the most due to reduced overall administrative hurdles resulting from EU formation.
  12. 12. General Drawback for the EU as awhole• Optimal currency theory first posed by American Robert Mundell in 1961, in order for a single currency to succeed in a multinational area several conditions must be met.  No barriers to the movement of labor forces across national,cultural, or linguistic borders within the single-currency area.  wage stability throughout the single currency area.  Area-wide system to stabilize imbalanced transfers of labor, goods, or capital within the single-currency area.• These conditions do not exist in present-day Europe particularly between those in the West and in the East.• The challenges faced by the Economic and Monetary Union (EMU) countries are far more complex than the current sole focus on sovereign debt suggests.• Many internal factors such as a political consensus in favour of wide- ranging economic reforms, the structure of the debt, the quality of the financing and, above all, the economic policy lessons learned from the crisis (concrete form of the austerity measures and reforms) diverge considerably from country to country.
  13. 13. •Unemployment• Highest in Greece and lowest in Austria.• The countries within the EU which were most affected were Spain, Ireland and the Baltic countries with the unemployment rate doubling or in case of the Baltic countries nearly tripling.
  14. 14. Greece
  15. 15. Before Entering Euro• In Greece the banks didn’t sink the country. The country sank the banks.• In the 1980’s and 1990’s Greece were considered far less likely to repay their loans.• In late 1990’s they had a chance to get rid of their currency.• In 2000, after a flurry of statistical manipulation, Greece hit the targets.• Greek-government statisticians did things like remove (high-priced) tomatoes from the consumer price index on the day inflation was measured.
  16. 16. After Entering Euro• Greeks could now borrow long-term funds at roughly the same rate as Germans—not 18 percent but 5 percent.• In 2001, entered Goldman Sachs, he investment bankers also taught the Greek-government officials how to securitize future receipts from the national lottery, highway tolls, airport landing fees, and even funds granted to the country by the European Union.• For these trades Goldman Sachs—which, in effect, handed Greece a $1 billion loan—carved out a reported $300 million in fees. Inside Greece there was no market for whistle-blowing, as basically everyone was in on the racket.
  17. 17. After Entering Euro…….• In just the past decade the wage bill of the Greek public sector has doubled.• The average government job pays almost three times the average private-sector job.• The Greek public-school system is the site of breathtaking inefficiency: one of the lowest-ranked systems in Europe, it nonetheless employs four times as many teachers per pupil as the highest-ranked, Finland’s.• As a result of inefficiency, Greek goods have become increasingly expensive and uncompetitive, causing loss of market share and further reducing revenues.
  18. 18. The Scandal• Votapaidi Monastery Affair• They basically are Greek Cypriot Monks
  19. 19. Truth comes out………The Greek government had estimated its 2009 budget deficit at 3.7percent. Two weeks later that number was revised upward to 12.5 percent and actually turned out to be nearly 14 percent.A projected deficit of roughly 7 billion euros was actually more than 30 billion. They had no Congressional Budget Office and no independent statistical service.
  20. 20. The reality………….• The structure of the Greek economy is collectivist, but the country, in spirit, is the opposite of a collective. Its real structure is every man for himself. Into this system investors had poured hundreds of billions of dollars. And the credit boom had pushed the country over the edge, into total moral collapse.• Steps taken-----• IMF and EU agreed to lend Greece up to $146 billion over three years.• Greece to increase sales taxes, reduce public sector salaries, pensions, eliminate bonuses.
  21. 21. Spain
  22. 22. A Brief Overview of the Spanish Economy  Spain’s mixed capitalist economy saw the fastest economic development in Western Europe since the 1960’s  Tourism, agriculture, industry, trade were the dominant players in the country’s economy  Much of its growth was dominated by the housing bubble  Many of the new jobs created were restricted to low wage, low- productivity parts of the economy  The economy attracted significant amounts of foreign investments
  23. 23. How it all happened for Spain  As Spain’s economy was rising rapidly before 2008, its debt-to-GDP ratio was falling sharply  When Spain joined the Euro the Spanish Government resisted the lure of cheap loans but most ordinary Spaniards and its banks did not  The country experienced a long boom, underpinned by a housing bubble, as Spanish households took on bigger and bigger mortgages  The economy which grew 3.7% per year on average from 1999 to 2007, has shrunk at an annual rate of 1% since then.
  24. 24. Repercussions  Real estate prices have dropped significantly (by 25%)  The banking sector is highly indebted. Bankia, the country’s 4th largest bank, recently asked for a 19 bn Euro bailout  1 in 4 Spaniards are in risk of poverty or social exclusion  Spain’s unemployment rate has become the highest in the EU zone post the crisis - 24.3% (total) and 51.5% (youth)  Spanish banks have 155.84bn euros of loans at risk of not being repaid
  25. 25. Reasons why Spain might be the 1st toexit the Euro Zone Spain’s economy is too big to be rescued Spain is tired of austerity already Spain has a real economy. Its export to GDP ratio is 26%, similar to the U.K, France or Italy Spain is politically secure Spain has bigger horizons. It can look to global markets rather than constraining itself to European markets only
  26. 26. Republic of Ireland
  27. 27. Origin• Eurozone is monetary union but not fiscal union• Differences in economies and their fiscal policies lead to crisis• Irish economy expanded rapidly from 1994-2007 because of low corporate tax, low ECB interest rates etc.• ISE went down from 10,000 points in April 2007 to 1,987 points in Feb., 2009 (a 14 year low).• Reasons for Ireland is same as that of Greece i.e., property bubble burst, effect of 2008 Economic crisis, ever increasing debt  Asset-liability mismatch.
  28. 28. The Recession• In September 2008, Ireland has been announced to be under recession. It is the first country to enter recession in Eurozone• Emergency budget 2008 - Withdrawal of HPV vaccines, medical cards, university fees, closure of military barracks in the northern border• Political turmoil and many protests. About 120000 people protested against pension levies, layoffs• Government debt increased, businesses closed, unemployment increased• On April 2011, Moody’s downgraded Irish bank’s debt as Junk• The debt to GDP ratio of Ireland is
  29. 29. The impact• Anglo Irish bank – Hidden loan controversy and illiquidity• Economic contraction and unemployment• Property market slump• Emigration• Political unrest and recession
  30. 30. The rescue plans• Austerity plans of the Government are met with protests and political coups• November 21, 2010 Ireland formally requested support from EFSF and IMF• On November 28, 2010 85 bn euros rescue package *doubt*• Ireland might need a second bailout
  31. 31. Italy
  32. 32. About Italy is the worlds 7th largest exporter of goods. It exports most of its products. Southern Italy : less developed, high unemployment. Italy supported the US-led invasion of Iraq in 2003 , causing dismay amongst some members. Which was opposed by France and Germany placing strain upon relations between member states.• The famous 4 Fs: Food, Furniture, Fashion and Ferrari.• Italy accounts for 16.8 per cent of eurozone GDP, behind Germany and France in importance, compared with 2.3 per cent for Greece.
  33. 33. REASONS• Starting in 2001, Italys GDP growth turned absolutely paltry, which was managing the large debt since long time.• Productivity: International Monetary Fund found that compared to other euro zone countries, Italy suffered from excessive regulation and a dearth of R&D spending. Another reason was weak labour laws.• South region: Unemployment, crime, and black market labour are also concentrated in the South. GDP per capita in the North and centre is more than 40% higher than the south.
  34. 34. EURO CRISIS• Italys debts now top $2.2tn, or 120% of gross domestic product.• Hit hard by rising borrowing costs on its government debt• Interest rates on its sovereign debt surging well above seven per cent, there is a rising risk that Italy may soon lose market access.• It is too-big-to-fail but also too-big-to-save, this could lead to a forced restructuring of its huge public debt
  35. 35. What next Their tourism industry is expected to grow in the next five years because they’re bringing travellers from emerging markets. Italy will offer up to 3 billion Euros of zero-coupon bonds and up to 750 million Euros of bonds linked to euro zone inflation at its regular end-month auction on Aug. 28, Italian PM Mario Monti is urging Berlin to present a "clear action plan to achieve a democratic, federally structured Europe”. A large part of Europe would find itself having to continue to put up with very high interest rates, that would then impact on the states, and also indirectly on firms Which is the direct opposite of what is needed for economic growth.
  36. 36. What next Berlin has strenuously opposed the issue of joint debt, or Eurobonds : as their cost of borrowing would increase. Italian PM Mario Monti, said that Italy needs no assistance of any kind. But if Italian economy slows down any further, it would not be able to maintain its massive debt burden on its own Monti suggests to buy up countries debt on the open market and reduce borrowing costs for Spain and Italy
  37. 37. Impact of crisis on India
  38. 38. FDI SpreadFurther in Euro Zone, distress countries contributed to India’sGDP only marginally, Italy (0.7%), Spain (0.6%) and Greece 0%.Together the contribute a marginal share of 1.3% to India’sFDI’s flows
  39. 39. FII The share of India’s FII in the emerging and developing markets has declined from 19.25 in 2010 to 3.8 % in 2011.
  40. 40. India’s exports arewell diversifiedacross countries.The share of PIGScountries is quitelow at around 3%and will not directlyhave an impact onour growthprospects inexports.
  41. 41. Positive correlation between India’s exports and world economic activities except 2006 and 2007
  42. 42. Impact on India