Greece Economic Crisis - Case Study Example

Greece Economic Crisis Name Class Unit Introduction After financial crisis, there have been cases of governments defaulting on their debts. This is due to fact that financial crisis leads to economic turndowns, low revenues and widening deficits in governments. The Greece public debt problem became a major crisis in 2010. The crisis escalated to the point in which it threatened the survival of Euro (Lane, 2012). The Eurozone members and International Monetary Fund (IMF) had to come in and help the Greece from the crisis. This included a bailout plan of $145 billion as a financial package. The main aim was to ensure that Greece crisis did not affect other European countries such as Spain, Portugal, Ireland and Italy. An additional bailout was announced in May 2010 of $636 billion. This is a financial assistance that was meant to be given to the most venerable EU countries (Mitsopoulos & Pelagidis, 2011). The Greece debt crisis has led to a lot of questions and prospects for the future of European monetary integration. There have been suggestions that Greece should leave Euro and come up with its own currency. The issue of bailout for Greece has also led to a lot of debate (Vasilopoulou, Halikiopoulou & Exadaktylos, 2014). This essay analyses whether the rest of European (EU) should help in bailing Greece out from the economic woes. The essay also discusses whether Greece should have changed their domestic economic policies in response to demands from the EU. Need to bailout Greece The Greece government asked for financial assistance in April 2010. The agreement to assist Greece was finalised in May 2010 where 110 billion pound debt was to be given over a three year period. At that period, there were no formal mechanisms to provide financial support. This led to need for the Euro members to offer bilateral loans to Greece which amounted to 80 billion pounds. The disbursement for the loans was carried out through the European Commission. IMF was able to provide the rest 30 billion pounds through standby agreement (Rady, 2012). The need to bailout Greece has been met with resistance and controversies. Countries such as Germany faced a lot of resistance home when supporting the Greece bailout. Despite this, bail out has been the most reasonable step by EU. The Greece bailout is important to ensure that the sovereign debt does not spread to other European countries (Lane, 2012). This is due to fact that euro system is flawed in design and a dismal failure in one part leads to a widening crisis in the while region. Greece is not an isolated case crisis as it affects the whole of Eurozone. This is why it is important for the rest of EU to join hands in bailing out EU. The Greece economy is in free-fall and the consequences will be felt widely (Matsaganis & Leventi, 2011). The excessive debt problem faced by Greece was unbearable hence the need for EU to bail them out. Most of the Greece debt was owed to banks outside the country. The largest amount was in France and Germany who would have suffered most if the country defaulted. The bailout by EU members was the only means in which Greece would avoid default. Most of the money received from the bailout was used in paying French and German banks (Matsaganis & Leventi, 2011). It is important to note that the bailout plan included the drastic reforms which would help in closing the deficit. Through the reforms, it was assumed that the new lending would be manageable. If the reforms that were attached to the lending were implemented, it would have been possible to cut the deficits substantially (Mitsopoulos & Pelagidis, 2011). The national bank of Greece had a large debt to the European central bank. The debt in 2014 was at 41.7 pounds. In case Greece would have exited euro, their new national currency would have depreciated strongly with respect to euro. This would have made the country capacity to pay the debt owed to European central bank would have reduced (Matsaganis & Leventi, 2011). The loss that European central bank would have suffered was then to be shared by the remaining national central banks based on their share proportion. This makes the bailout the only way in which Greece would have been helped. The potential losses for Greece exit from euro would have been very high (Lynn, 2010). Greece required support to ensure that there is no further turbulence. This is due to fact that collapse of Greece has a great impact on the financial markets. For example, the Greek crisis affected the Euro-USD exchange rate in a negative manner. Greece failure would also have led to a decline in the European equities (Mink & De Haan, 2013). The failure of Greece shows the weakness in EU. Prior to Greece crisis, euro was seen as a successful European project. The failure of euro to ensure economic stability among the member states has been seen by many as a sign of its weakness. The Greece crisis is therefore a major challenge for EU members to show their ability to respond to international problems (Rady, 2012). Exiting euro is a bad idea in economic terms. This is due to fact that all financial assets would have to leave Greece. The debt holding private sector would become bankrupt while the Greece central bank would lose its credibility. The consequences would be high interest rates and inflation. The short term gains that would be achieved by Greece by leaving euro would be outweighed by disadvantages. In case Greece defaults in their debts, the economy will suffer. The external credit will be scarce and the country will be forced to leave by its own. The Greece economy cannot survive through defaulting debt. This is a move that can hurt a lot of nations across EU. Thus, remaining in the Eurozone with financial assistance through bailout is the only viable option. This is based on austerity measures (Lynn, 2010). Changing domestic economic policies in response to demands from the EU Despite the demand to change the domestic polices by EU, Greece should not have changed them. This is due to fact that despite implementing the changes to domestic polices, the situation have got worse. Majority of the population (50%) were against the imposed reforms by EU with only 35% in support (Vasilopoulou, Halikiopoulou & Exadaktylos, 2014). Prior to the crisis, there was lack of structural reforms in public debt, taxation and social surfaces. The political parties that existed did not agree on the way these reforms should have been carried out. The country fiscal system was in shambles due to lack of political will. This was made worse by poor competition and economic isolation. The tax authority was poor in collecting taxes leading to a short come in the revenue collected. The level of tax evasion was very high and there was poor fraud control in the country. The main area which Greece failed to reform prior to crisis was the public pay sector (Lane, 2012). After the crisis, the elected government agreed to implement the economic plans which were imposed by EU, IMF and Central Bank (Mink & De Haan, 2013). In return of implementing the reforms, Greece would be allowed loans which would help against bankruptcy and defaulting. The reforms demanded included cuts in public sector salaries, pension reforms and tax. The public sector pay reforms included a freeze on the public sector salaries. There was also need for layoffs and reduction on salaries based on employee earnings. The pension reforms included a reduction of payment to pensioners. The retirement age was to be increased to 65 years for both men and women. In case of early retirement, a penalty of 6% was to be imposed. A new plan to collect tax was to be introduced which would help in improving tax collection and reduce tax evasion. Through tax reforms, capital flight was to be reduced (Rady, 2012). The impacts of the proposed reforms have done more damage than good. The level of unemployment in Greece has continued to rise despite the falling salaries. Greece is among the countries with the highest number of citizens who are at risk of poverty. The middle class has shrunk and the level of inequality in the country continues to rise (Matsaganis, 2011). The Greece society is becoming more fragmented despite the reforms in economy as proposed by EU. The level of homeless population is on rise. The rising levels of poverty and weak social services are driving the crime rates high. The economic reforms proposed by EU and IMF have left large part of the population in dire need. The cut in public expenditure and high level of unemployment has left a large portion of the population poor. The reforms proposed by EU cannot work in Greece (Chamley & Pinto, 2011). There is need for reforms which are fair to the population. There is a need for fair tax system which will take care of the population. The economic reforms required by Greece should put people needs first (Economou, Madianos, Theleritis, Peppou, & Stefanis, 2011). Conclusion The Greece crisis has been a major challenge for the whole of EU. The need to provide financial assistance to Greece has been controversial among EU members. EU has always been considered a success story for the convergence of Europe. The Greece crisis has been a major setback for EU which tests its ability to manage financial situation of the member countries. Despite the resistance to bailout Greece, the method was the only best alternative. This is due to fact that the Greece crisis was connected to the whole EU region. The crisis was contagious especially to countries such as France and Germany. If Greece defaulted or exited Eurozone, the consequences would have been dire for the whole region and the country. The economic reforms provided by EU and IMF to Greece failed to work. In fact the reforms led to more problems than expected in Greece. These reforms would not have worked in Greece. The economic reforms that Greece should have adopted should have put the people need at first. References Chamley, C. P., & Pinto, B. 2011. “Why official bailouts tend not to work: An example motivated by Greece 2010.” The Economists' Voice, Vol.8, no.1, p.210. Economou, M., Madianos, M., Theleritis, C., Peppou, L. E., & Stefanis, C. N. 2011. “Increased suicidality amid economic crisis in Greece.” The Lancet, Vol.378, no.9801, p.1459. Lane, P. R. 2012. “The European sovereign debt crisis.” The Journal of Economic Perspectives, Vol.26, no.3, p.49-67. Lynn, M. 2010. Bust: Greece, the euro and the sovereign debt crisis. John Wiley & Sons. Matsaganis, M. 2011. “The welfare state and the crisis: the case of Greece.” Journal of European Social Policy, Vol.21, no.5, p.501-512. Matsaganis, M., & Leventi, C. 2011. The distributional impact of the crisis in Greece (No. EM3/11). EUROMOD Working Paper. Mink, M., & De Haan, J. 2013. “Contagion during the Greek sovereign debt crisis.” Journal of International Money and Finance, Vol.34, no.1, p.102-113. Mitsopoulos, M., & Pelagidis, T. 2011. Understanding the crisis in Greece: from boom to bust. Palgrave Macmillan. Rady, D. A. M. 2012. “Greece Debt Crisis: Causes, Implications and Policy Options.” Academy of Accounting and Financial Studies Journal, Vol.16, no.87, p.213 Vasilopoulou, S., Halikiopoulou, D., & Exadaktylos, T. 2014. “Greece in crisis: austerity, populism and the politics of blame.” JCMS: Journal of Common Market Studies, Vol.52, no.2, p.388-402. Read More