Evolvement of the Debt Problem in Europe - Essay Example

?How has the debt problem in Europe evolved? Using appropriate theories, assess how governments and s have responded to various events over the period 2012/13. In the 2008 wake of the global economic render down, the European Union (EU) has been undergoing struggles with a sluggish- but unwavering- crisis that laid emphasis on the flaws behind the region’s common currency, the Euro. The turmoil in the region has undeniably brought down governments, pushed numerous countries into a second recession and put out in the open deep-seated rifts between regions (World Bank 2009, p.13). Notably, fears of this sovereign European debt crisis assumed its shape as the sun was setting in 2009; a time at which the crisis proved to be quite challenging for countries such as Ireland, Greece, Portugal, Spain and Italy for them to honour their dues or even refinance their debts to the lenders in the region (the eurozone lenders) (Tran 2012, p.1). The EU market was lending to Ireland, Greece and Portugal at a rate that was at par with the one offered to Germany in 2008. The assumption at this point in time being that the Euro could never at any one given point break up and as a result, each and every country within the region was taken to be as safe as Germany- which had been considered to be the safest. For a very long time, Germany benefitted from the Euro zone crisis. The country had very low interest rates that made it even easier for the government to borrow more, thus creating a demand for more personal loans. The European Commercial Bank (ECB) even purchased German government bonds. Germany was seen to be the safe haven in European economics. Interest rates in the country had been going down since the start of the first symptoms of the crisis (Broyer, Peterson and Schneider 2012, p.2). . This was a part crisis how had the country performed before? Was it over heating? If no why? Following this assumption, Greece did accumulate almost 145% of its gross domestic product (GDP) as gross debt, a figure that was by far beyond what the country was capable of producing within a period of about one year and six months. As the crisis was progressing into its third year, it was not clear whether or not it would culminate in bringing to an end the straightening out or further accelerate the continent’s six-decade progress toward slow but sure confederacy, as Europe staggered between the currency’s (Euro) break up and the measurably stouter measures that would pave way for tighter political and fiscal bonds (Ernst & Young 2012, p.1). The move towards a single economic region, as adopted by the European Union in the unveiling of the Euro currency is informed by the optimum currency area theory. Presented by Robert Mundell, the theory outlines the features of a new currency developed after several currencies have merged. It deals with the currency of a region as opposed to that of a country; a particular region, larger than a particular country has to share a currency (Mundell 1961, pp. 658). In essence, the theory seeks to set out the maximum number of currencies that can be used in one particular region. The theory has enabled the close study of the many economic features that are key pillars in monetary unions. What does the theory say should happen? In spring 2010, Greece was not in a position of borrowing on the open markets at reasonably priced interest rates; a bailout package amounting to 110 billion Euros was devised by the European Union, International Monetary Fund and the European Central Bank. As an act of pay back Greece was required to cut down on its public spending by a quantifiable amount. In May 2010, the European countries’ government leaders made an approval of a contingency fund totalling to 500 billion Euros for the Union at large. In November 2010, Ireland did wrack a banking crisis after the collapse of a housing bubble and was in receipt of a bailout amounting to 6 billion Euros. Portugal, on her side, received 78 billion Euros as a result of a long-term economic laggard (Wharton 2012, p.1). In 2011 Italy was fumbling with its debts, which had accumulated prior to its membership in the Euro. Before the debt crisis, Italy enjoyed an increase of BTP-Bund spreads on the financial markets. The country’s credit worthiness was substantially downgraded. How was Italy’s and Spain’s budget balance before the crisis? Spain having had reported a housing bubble collapse which had heightened the rate of unemployment past the 20% mark. For the period between 1999 to 2007, the Spanish economy was a creator of more than one-third of all jobs that were produced in the Eurozone. This led to a flocking of immigrants into the country, and with that, more houses were needed. With the increased demand, prices of houses increased exponentially and to fund the purchase of these houses, the number of loans also increased in tandem. Continued activity in the constriction did not envisage the bursting of the bubble (Harrington 2011, p.6). Over the remaining months of the 2011, all the European governments struggled to increase their size of the ‘firewall’ so presented by the bailout funds. For the first two years of this crisis, Angela Merkel of Germany prevailed by a measurable margin. This saw the considered troubled countries being presented with bailout funds they had to make profound spending cuts to remain afloat. Nevertheless, with the increasing unemployment in the region, reaching almost 25% in Spain and Greece, the larger part of the region plunged into recession (Gray 2012, p.15). Pressures emerged for the measures put in place to promote growth with Angela Merkel on the defensive, Mario Draghi (European Central Bank’s new president) was the 2012 key figure in the crisis. Draghi took the initiative of opening the bank’s reserves on easy terms to the continent, presenting them with breathing room. He lowered the interest rate which his inflation-hawk forerunner had hoisted and went a step further to convince the government leaders within the region to support in an eventual move to a continent-wide system of bank oversight and deposit insurance is efforts to help avert bank runs (Griffins & Wall 2007, p.56). Mr Draghi gave a detailed explanation of the tough fiscal condition which were to accompany the short-term loans; meaning that the countries on the borrowing side were obliged to hand over a quantifiable portion of sovereignty to a central authority. Leaders in both Spain and Italy did display some reluctance in taking the European Central Bank up on its offer. (Draghi’s) strategy for patching up bank regulation experienced extensive opposition. This opposition potentially subjected the bond-buying plan into questions (Griffins & Wall 2007, p.67). In November 2011, a new conflict began following the acts of the International Monetary Fund (IMF) of insisting that the European nations, considered to be rich enough, to help Greece ease its massive debt burden. After a couple of years, finance ministers agreed a set of measures geared towards availing some relief without necessarily writing off loans. This included availing money for Greece so as to buy back some debts at a discount, longer maturities for the country’s bailout loans as well as lower these loans’ interest rates. In addition, the central banks in the European region had to come to an agreement to return to Greece any profits resulting from the Greek’s bond purchased by the European Central Bank (Dicken 2011, p.35). Meanwhile, the continent did tip toward a second recession, with Spain and Greece being the hardest hit countries this devalued their currency, but also the levels of unemployment were soaring as well as their deficits remained intractably huge. From Netherlands to Greece to Slovakia, governments were falling. This saw the troika (made up of the European Union, the IMF and the European Central Bank) engineer a default by Greece on the greater part of its private debt as well as a second bailout package amounting to 130 billion Euros. This package was in exchange of new rounds of both privatisation and budget-cutting. However, a wave of anger against austerity was building at this time (Dicken 2011, p.56). In June 2012 leaders in the region kicked off talks on the shared measures to contain the debt crisis. The European Central Bank leader called for a continent-wide deposit as well as instituted bank regulation. In addition, Germany did suggest that it would avail its support of pooling the lion’s share of the continent’s debt into a one-time fund that was to be paid off for more than twenty five years. In the same month, Spain became the fourth European country to accept a bailout for its banks- which had actually been cash-starved following the wake of the offer of the finance ministers in the region of a USD 125 billion aid package (Lin & Treichel 2012, p.5). As a result of the effects of the euro zone crisis, growth in developing countries is expected to slow down since the problems within the region. The European Union still believes that they are walking towards a broader solution of the crisis. However, investors as well as marketers have actually lost faith in the ability of Europe to normalise its banks (The Financial Times, 2012). References Brady, C 2011, Take a Look: Evolution Crisis, web, http://www.foxbusiness.com/investing/2011/12/06/take-look-evolution-europes-debt-crisis/ Dicken, P 2011, Global Shift, 6th Ed: Mapping the Changing Contours of the World Economy. Guildford Press. Ernst & Young 2012, ‘European Debt Crisis affects Business Worldwide’, BoardMatters Quarterly. Gray, D 2012, Financial Update 12/13, Harlow, Essex Prentice Hall. Griffins, A & Wall S 2007, Applied Economics, 11th ed, Prentice Hall. Lin, J, Y & Treichel, V 2012, The Crisis in the Euro Zone: Did the Euro Contribute to the Evolution of the Crisis? The World Bank, no.6127,DOI:10.1596/1813-9450-61278. The New York Times Company 2012, European Debt Crisis, The New York Times, web, http://topics.nytimes.com/top/reference/timestopics/subjects/e/european_sovereign_debt_crisis/index.html Tran, M 2012, ‘Eurozone Debt Crisis Poses Serious Threat to Emerging Markets’ The Guardian, web. Viewed 3 January 2012, http://www.guardian.co.uk/global-development/2012/jun/19/eurozone-debt-crisis-emerging-markets Wharton 2012, Why Eurozones Woes are Creating Headwinds for Global Firms, web, http://knowledge.wharton.upenn.edu/article.cfm?articleid=2986. World Bank 2009, Swimming Against the Tide: How Developing Countries are Coping with the Global Crisis. Horsham, United Kingdom. Read More