How the Debt Problem in Europe Evolved - Essay Example

The European debt crisis was mainly triggered by the global economic recession in late 2008. It is believed it has been directly caused by a combination of structural weaknesses of the European economy. This European debt problem has been cited as a threat to both the euro and to the American economy with other entities included. Several assumptions have been made regarding the potential impact of a European debt implosion. The faulty economic theory often causes a faulty conclusion by many people in Europe. Looking at the economic theory from a free-market perspective as it relates to the current European monetary challenges. It states that the European debt crisis was simply caused by overspending by European governments in the last decade.

The European Central Bank enabled non-naturally low-risk premiums on interest rates of government debt belonging to the so-called PIILDS countries which are Portugal, Italy, Ireland, Greece, and Spain. The self-made low rates smooth the progress of overspending and encouraged the overspending that led to a huge debt problem in Europe. Economists realized that overspending had occurred when they noticed reduced economic growth and the consequently reduced tax revenues that were a reduced amount of the amount needed for the debt payment and disbursement.

There was a concern that came up at the start of the debt crisis that was acted upon by foreign-exchange traders. The concern was that if Portugal, Ireland, Italy, Greece governments fail to pay their debts; the euro would decline in value. The assumption was not logical because the euro would raise not fail, in the face of the government not paying the debts. In the case of default, two possible scenarios are possible. The first one is that there will be monetary deflation due to a decrease in the money supply, in this case, that no single government takes any step to intervene in the situation. The second scenario is the monetary inflation of the money supply. In response to this debt crisis a rise in bond yields.

The reason behind the rising bond capitulate is straightforward, if financiers see elevated jeopardy related to investing in a country’s bond; they will have to need a higher return to pay compensation for that risk. As a result, the claim for higher yields links to higher borrowing costs for the country in crisis, which leads to further fiscal strain which prompts investors to demand higher wields.

We need to know what actions the European governments and the European Union have taken to solve this problem. The main problem of the European Union is that it is slow because it requires the consent of all the union members to make a conclusion on any matter. The main course of action that the European Union has taken is a series of bailouts for the troubled economies in Europe. Countries like Greece, Ireland, and Portugal have all received bailouts. The eurozone member states formed the European Financial Stability Facility (EFSF) in order to provide emergency lending to nations in financial complexity.