Greece Financial Crisis and Its Effect on the Global Economy - Coursework Example

Greece Financial Crisis Student’s Name: Institutional Affiliation: Greece Financial Crisis Abstract Greece stands as one of the European countries hard hit by the 2007-08 global financial crises. The chief cause of the global financial crisis was the subprime mortgage crisis that started in the US, and afterward stretched to the other parts of the world. Greece financial crisis is also rumored to spread an adverse effect to other European countries like Ireland, Italy, Portugal, and Spain. Unsustainable fiscal policies mainly resulted to the Euro zone financial crisis. Greece defaults raised fears over possible spread of default in other European regions. This research paper intends to explore the Greece financial crisis into details and its ramifications on the other parts of the world. Introduction The global financial crisis played a big role to the down fall of the Greece economy. The unemployment levels rose in the country during the crisis from 18.6% to 40.1%. The country’s debt too incredibly grew from 105.4% to 142.8% of the gross domestic product.1 To overcome her problems, Greece had to borrow a debt worth EUR 110 billion from both the European Commission and the IMF over a period of three years. EUR 30 billion of the debt was obtained from the IMF, while EUR 80 billion was obtained from the EU. As a debt condition, Greece was to plan a EUR 30 billion austerity program demonstrating her commitments to resolution of her financial crisis. This bailout has maintained the country from defaulting on its loans; however, it later apparently became clear that Greece would further require additional financial support. The EU and IMF in 2011 confirmed an additional bail out of approximately 109 billion euro. The details of the plan are currently underway. Greece is seen by the media as the focal point and cause of the Euro financial crisis, “the European sick man” in need of a cure. Failure for the formulation and implementation of an immediate action plan aimed at curing Greece financial crisis may mean hat the disease may spread to other Euro countries.2 For many reason, this austerity program currently being undertaken by the combined forces of EU and IMF, is worth attention. The program signals a new approach in the way that EU handles financial crisis across its jurisdiction. It also signals the deepening situation of the financial crisis, alongside illustrating on how contemporary political systems work. The year 2003 was the year when the people around the world anticipated policy makers to fix fundamental flaws in the global monetary system. Little though had been accomplished at the start of 2012, a time when an evaluation on monetary policies was done. The failure is extensively pointed at the growing Euro-Zone crisis as well as harmful effect on the international financial market and the global economy. Banking crisis and Europe’s debt converted the world policy maker’s attention. Instead of following improvement of the global monetary system, policy makers, channeled all of their limited financial and intellectual resources towards addressing Europe’s crisis. History of Global Financial Architecture In 1944, Bretton woods, New Hampshire, the world leaders gathered, to draw a worldwide financial system based on fixed exchange rates. They hoped the system would aid in recovering from the setbacks brought about by the World War II. Unfortunately, the loopholes caused by the two setbacks remained intact even as late as the 1970s. A chief principle of global economics is that states cannot simultaneously have free capital movement, and fixed exchange rates. But countries that ran a surplus budget ignored the call for appreciating their currency; America opted unbalancing her currency from the gold standard to safeguard her macroeconomic autonomy.3 America in 1971 let the fixed-exchange-rate structure to collapse, welcoming a new system of the floating exchange rate. The new system promised tangible benefits, letting the chief economies to unite national policy independence with open capital economies. The introduction of the floating exchange rates boosted the establishment of capital markets, creating fresh opportunities for states-poor and rich alike-to operate huge external deficits. The major international banks undertook a mission in the 1970s aimed at financing the budget deficits of the less developed countries through recycling petrodollars. The Japan and Germany surplus in the 1980s, for instance, aided at financing the America trade deficit. The support provided to the US aided in raising her trade deficit to three percent of her GDP figures. Even during the past few years of unprecedented globalization and economic growth, crises frequently interrupted the growth of global finance, causing international community to establish ways that could mitigate or prevent them. The G20 and the IMF recently created a forum for global economic leaders to debate over the global crisis. However, striking an agreement on the appropriate financial tools has marred these forums. Essentially, ways directed towards improving the soundness of the global system are viewed as aimed at threatening some countries’ short term plans. Additionally, response to crisis is regularly ad hoc, marked with faded will to effect major changes that often dispels after a crisis. For many years, the IMF, in its capacity as a lender of last resort, supplied emergency funding to troubled countries with a chief attention to developing countries. In addition to fund assistance during crisis, the finances often helped to encourage structural adjustment programs designed to decrease the country’s economic function and increase free markets.4 However, due to the 2007 global financial crisis and ensuing Euro zone financial crisis, the IMF took a new active position in developing countries. In the last three, the IMF granted loans to Portugal, Ireland, Romania, Latvia, Pakistan, Ukraine, Hungary, Greece, and Iceland (its first grant to a developed economy since the 1970s). Even as the IMF took a central position in crisis response, states opposed shifting high power to the fund or similar global institutions. Regulation remained a national affair, though regularly states harmonized their regulations to protect a downfall. An instance of such a regulation was the one passed by the Basel Committee in September 2010. Apart from the failure to prevent financial crisis, the international financial architecture has also shown the unwillingness to changes in tectonic shifts in global dissemination of economic power, especially with regard to ascend of India, China, and other growing economies. As a result of the 2008 global financial crisis, G20 seemed the most promising medium for the coordination of policies between the developing and the developed states. Although initially the G20 policies succeeded in reducing the levels of financial crisis, the success was not long lived. The developed and developing countries got sharply divided over policies, due to their distinctive outlooks and interests. Because of these sharp differences over macroeconomic policies, a meeting conveyed by the G20 in Seoul did not materialize. The IMF and World Bank have also tried to improve the position of developing countries in the policy making process. Both IMF and World Bank have endorsed quota and voice reforms geared towards improving the influence and the voting power of developing economies, the process is still underway.5 The World Bank, in its 2009 ‘external review’ release, proposed governance reforms, fruitfully raising voting powers for transition and developing states across its various groups. The G20 finance ministers agreed in 2010 to redistribute top boards seats as well as quota shares. The diversion of scarce intellectual, financial and economic crisis does not capture the only way that Greece crisis lead to changes in international monetary reform. The faults in Greece are similar to those apparent in the international monetary system. For both political and economic reasons, fixing the faults in both Greece and international monetary system appears quite a task. Financial analysts argue that the idea of creation of the Euro zone was not a timely one, and discourages the region acting as a monetary union, and that a single currency system should be scrapped either entirely or partly. Coordinating Exchange Rates and Macroeconomic Policies: A Frail System Since 1973 A major shortfall of the global financial system is the deficiency of an effective mechanism capable of coordinating different counties macroeconomic policies. The gap has widened in the last years, leading to colossal structural inequalities and causing financial analysts to question the probability of the dollar as the future chief international reserve currency. While the global financial crisis brought the need for international financial architectures, a lot still needs to be done as an improvement of the same. During the Bretton Wood System years, the dollar’s value was associated to gold, and other currencies were compared to the dollar, and this provided a global structure for monetary policy. Unfortunately, when the Bretton Woods closed in 1973, no multilateral coordination mechanism surfaced to replace it. The global financial crisis promoted exceptional rates of macroeconomic collaboration among the global chief economies.6 As a result of the crises, a majority of countries implemented fiscal stimulus packages to promote economic growth. Afterward, the G20 illustrated its capability as a global focal point for financial system architectures coordination in accepting the Structure for balanced, sustainable, and strong growth at its 2009 conference in Pittsburgh. In accepting the structure, G20 members agreed to coordinate their macroeconomic policies and fiscal policies. They too agreed to match the national stimulus plans as well as exit strategies; in addition, to remedying imbalances between deficit and surplus states, which had led to the global financial crisis. Monitoring and Regulating Financial activity and Financial Standards: open consensus to curb further world crisis Another prime weakness of the world financial system is the deficiency of any healthy instrument to allow the global economies to bring together their macroeconomic policies. This gap has widened in the past years, contributing to substantial structural imbalances and causing questioning over the future of dollar as the prime world reserve currency. While the world financial crisis encouraged interim efforts, these have not been affected in a global context. During the days of Bretton Wood System, the dollar’s worth was associated to gold, while the other currencies were valued in terms of the dollar. This practice did provide an international structure for monetary policy.7 But with the collapse of the 1973 Bretton Wood System, the mechanism has not been replaced with a better framework. The recent development of foreign exchange reserves popularized by the emerging-market economies triggered some states to think of a possibility of a Bretton Wood 2. The foreign exchange reserve too pegged the dollar as the main comparison currency to the other nation’s currencies. The currency gap in the recent years has promoted massive structural inequalities between deficit and surplus states. As a result, America, as an importer, constantly operates current account deficits, while Asian product exporters operate large surpluses. The ongoing financial crisis promoted exceptional rates of macroeconomic collaboration among the global leading economies. As a result of the financial crisis, countries developed fiscal stimulus policies to promote economic growth. The G20, in a similar manner came up with the PDF plan that ensured collaboration among different countries macroeconomic policies. From the above discussed weaknesses in the world’s financial architecture, it is apparent that the weaknesses led to the global financial crisis. The Way Forward for Financial Architecture New institutions and rules are required to minimize systematic risk, adjust the perimeter of supervision and regulation, and foster financial intermediation. This could imply a ‘Global Bank Charter’ for developed economies, most global banks with accompanying supervision and regulation, and liquidity support, especially if it happens that things to go wrong. The bottom-line, however, remains an adjustment in the governance of global financial crisis. As a way towards coordination of financial architecture, there are various policies that should occupy the minds of the world leaders. Such policies could include debating on the way forward in fostering financial regulation, since there appears to be massive loopholes in the current systems. The leaders should also design appropriate liquidity apparatus at an international scale to curb spillovers from resulting to solvency issue.8 From the events of the financial crisis, it is eminent that appropriate regulation was required long ago. Financial integration and innovation have accelerated the extent and pace at which shocks get transmitted across countries and asset classes. Innovation and integration have distorted boundaries, including between non-systematic and systematic institutions. New institutions and rules are required to shrink systematic risk, and help in cementing other macroeconomic policies. Meeting this target will call for new thinking. Designing macro-prudential rules, counter-cyclical and shrinking systematic risk are difficult tasks. Countries must thus work together in formulating and implementing sound macroeconomic policies. World leaders should also think of a new era for huge, international banks. A separate era for huge, globally active financial institutions should be instituted. The Causes of Greece Financial Crisis Greece has been waterlogged in a very tricky position as a result of the global financial crisis. To salvage her economy, Greece has conducted structural adjustment programs of raising taxes and cutting social expenditures9. This is seen as a dramatic attempt to change her economic system in the eyes of neoliberalism through deregulation and liberalization measures. Additionally, the country has privatized most of her state owned institutions. The current Greece administration has been very supportive of these programs. The government is at no choice other than adopting a capitalist system. A capitalist system requires minimum government intervention, and administrators should leave the market to the forces of demand and supply. The world is interdependent, and government must not punish the capitalist since such an act just scares away investors. The operations and efficiency of a capitalist economy depends on people’s discretion. They can be compared to political constructions, not natural or economic necessities. If we follow the philosophy of neo political and economic institutions, it is easy to capture this “market fanaticism”. Before the current financial crisis turned up to a debt crisis, contribution in EMU may have led to the lack of complete awareness of the problem, as it eliminated issues over financing external debt. A noticeable spin-off of the Euro was that by minimizing the cost of funding current account deficits, it permitted countries like Spain, Portugal, and Greece to enormously bulge such deficits. For instance, Greece balance rose from 5%of GDP in the year 1999 to 14.4% in 2008. Admitting Greece to the EMU dispossessed monetary systems of the exchange level policy as machinery for lightening “external imbalances”. The major causes of Greece financial crisis may be grouped into both domestic and international factors. The first domestic cause of the crisis was the lofty government spending and frail government revenues. Between the year 2001 to 2007, Greece recorded a positive growth in her GDP levels. The high economic growth rates were caused chiefly by the rise in private consumption (caused by the simple means of accessing credit that then prevailed) and public investment funded by the central government and the EU. Within the six year period, the government increased her expenditure by 87%, while the revenues increased only by 31% causing a budget deficit. Observers also identify an inefficient and large public administration, tax evasion, unwillingness to preserve fiscal discipline, and costly healthcare and pension systems as chief causes of the budget deficit. Greece, recorded the highest figures of public expenditure across the OECD region as of 2004. The trend continued to grow with the public expenditures hitting a high of 50% of the country’s GDP, with 75% of public spending being channeled to social and wages benefits. The Greek governments have instituted measures to consolidate and modernize the public management. However, experts continue to cite poor productivity and over staffing in the public division as a barer to economic growth in the country. The methods that the Greek government utilizes in the collection of revenue are weak and prone to fraudulent activities. The second domestic factor that led to the Greece financial crisis can be said to be international competitiveness and declining structural policies.10 The Greek industry currently suffers from decreasing international competitiveness. According to economists, this is brought about by low productivity and high relative wages. Since the adoption of the Euro, Greece increased her wage rate by 5%, a percentage that experts considered too high for Greece. For Greece to reduce her current account balance and increase her international competitiveness, the country must improve its productivity, increase savings and significantly reduce wages.11 Increased availability of capital at reduced interest rates is an international factor that caused the Greece financial crisis. In the year 2000, Greece adopted the use of euro as her currency, a step many which experts attributed to the immediate financial woos. Being a member of the EU, Greece had access to low interest loans offered by Euro. This caused the country to borrow high loans that it defaulted in paying leading to financial crisis. The EU, did not, in addition, construct appropriate mechanisms that would ensure member countries Privatization and “militarization”, in addition, caused the Greece financial crisis. The increase in global military expenditure over the recent years is another factored that activated the world financial crisis, and which also contributed to the Greek debt crisis. Implications of Greece Financial Crisis The financial crisis that locked Greece had far reaching effects on all facets of the economy. According to Karamonoli (2012), the Greece financial crisis developed problems in the country’s drug supply.12 According to her, country’s health centre hangs on a loose thread, without any indication of recovery. At the beginning of this year (2012), long patients queuing in pharmacies to buy prescriptions. Instead of the norm where customers used social service funds, the patients held money. Most pharmaceutical firms admit that the country faces a cute shortage of drug supply. The Greece financial crisis implies that the world leaders must devise mechanisms aimed at coordinating the global macroeconomic policies. This ensures the harmonization of the global financial systems as a way towards minimization of the world financial crisis. The Greece government should also depict from interfering with the operations of the free market mechanism to ensure adherence to the international financial architecture.13 The Greece crisis also implies a Eurozone and contagion debt concerns. The member countries of Euro fears that the Greece financial crisis may spill over to other countries. As investor’s nervousness about some countries sustainability of debt increases, the demanded higher interest rates for bonds make it difficult for those states to borrow and repay their existing debts. In case investors lose confidence in the capital markets, then this could imply a surge to financial crisis. Conclusion The global financial crisis played a big role to the down fall of the Greece economy. The unemployment levels rose in the country during the crisis from 18.6% to 40.1%. The country’s debt too incredibly grew from 105.4% to 142.8% of the gross domestic product. New institutions and rules are required to minimize systematic risk, adjust the perimeter of supervision and regulation, and foster financial intermediation. This could imply a ‘Global Bank Charter’ for developed economies, most global banks with accompanying supervision and regulation, and liquidity support, especially if it happens that things to go wrong. The bottom-line, however, remains an adjustment in the governance of global financial crisis. All world wide countries should play a major role in fighting the financial crisis. The IMF and other international banks should work hand in hand, as a means towards minimizing the levels of financial crisis. These bodies need also to institute and implement appropriate and efficient policies that will cut down the financial crisis. Greece, a country in the Euro zone, was one of the countries greatly affected by the financial crisis. The country had to be bailed out by IMF and Euro to protect her from defaulting in her debts. References Afonso, A., Schuknechtand, L. & Tanzi, V. (2008). “Income distribution, determinants and public spending efficiency.” ECB Working Paper, No. 861. Bank of Greece. (2011a). Fiscal developments and outlook. Fiscal Affairs Division, mimeo. “Culture of Entitlement and Dependence on the State.” European Commission’s Entrepreneurship Survey. December 2009. De Grauwe, P. (2010a). The start of a systemic crisis of the Eurozone? X, 1-6. Dominguez, K. (2006). The European Central Bank, the Euro, and Global Financial Markets. Journal of economic Perspective, 20(4), 67-88. ECB (2010), Quarterly Euro Area Accounts, September. Gibson, H. D., Hall, S.G. & Tavlas, G.S. (2012). The Greek financial crisis: growing imbalances and sovereign spreads. Journal of International Money and Finance, forthcoming “Greek economy needs growth not only cuts.” Kathimerini, May 2, 2010. p.A16. Hardouvelis, G. A. (2011a). The Greek and European crisis and the new architecture of the eurozone. Economy and the Markets Bulletin, EFG Eurobank. Ioannidis, A. (2010). Crucial factors and suggestions for a new developmental model”, in Fileleftheri Emfasi, 42, 35-42, Athens. Karamanoli, E. (2012). Greece’s financial crisis dries up drug Supply. The Lancet, 379(9318), 302. Katsaitis, O., & Doulos, D. (2009). The impact of EU structural funds, Kyklos, 62, 563-578. Katseli, L. (2008), “Greece 2020: researching a Greek developmental model”, in T. Giannitsis (ed.), Researching a Developmental Model for Greece (pp. 11-23), Papazisis Publications, Athens, 2008. Kokkinakis, Y. (2011). Grasping for the thread: Greece and the ongoing global crisis. A Journal of Modern Society and Culture, 10(1). Retrieved from http://www.logosjournal.com/grasping-the-thread-greece-global-crisis.php Kouretas, G. P. (2011). The Greek Debt Crisis: Origins and Implications. Retrieved from http://www.frbatlanta.org/documents/cenfis/eventscf/11sov_debt_Kouretas.pdf Kouretas, G. P., & Vlamis, P. (2010). The Greek crisis: causes and implications. Panoeconomicus, 57, 391-404. Retrieved from http://www.doiserbia.nb.rs/img/doi/1452-595X/2010/1452-595X1004391K.pdf Lane, P. (2006). The Real Effects of European Monetary Union. Journal of Economic Perspectives, 20(4), 47-66. Porter, M., Sala-i-Martin, X., & Schwab, K. (2008). Global Competitiveness Report 2007-08. World Economic Forum 2007. Rapanos, V. (2008). “Economic theory and fiscal policy: the fiscal institutions in Greece” in T. Giannitsis (ed.), Researching a Developmental Model for Greece (pp. 159-180), Papazisis Publications, Athens, 2008. Reinhart, C. M., & Rogoff, K. S. (2010). Growth in a time of debt. American Economic Review Papers and Proceedings, 100(2), 573-578. Stuckler, D. (2010). Foreign Currency Debt, Financial Crisis and Economic Growth: A Long-run View. Journal of International Money and Finance, 29(4), 642-645. “The OECD’s four instructions for the Greek rescue.” Kathimerini, May 2, 2010. p. 4. Tsoumas, C. (2010). A Roadmap to the Greek crisis, Department of Banking and Financial Management. University of Piraeus, Mimeo. Read More