European Crisis Final1

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Euro Crisis

Mayank Gandotra 11PGDM090 Nikhil Pawa 11PGDM096 Srinija Appalaraju 11PGDM113 Sumit Dua 11PGDM116 Venugopal Kankani 11PGDM119

ContentsAbstract ......................................................................................................................................................... 4 Keywords....................................................................................................................................................... 5 European Crisis ............................................................................................................................................. 6 Going back to the origin ............................................................................................................................ 6 How did the Euro benefit them? .......................................................................................................... 6 Situation in Greece.................................................................................................................................... 7 Situation in Spain ...................................................................................................................................... 7 Why countries are not defaulting? ........................................................................................................... 7 The vicious cycle ....................................................................................................................................... 8 The other countries - interconnection ...................................................................................................... 8 Getting out of Euro? ................................................................................................................................. 9 Measures taken to prevent the crisis ......................................................................................................... 10 Bailout Package ....................................................................................................................................... 10 Emergency Parachute ............................................................................................................................. 10 European Stability Mechanism ............................................................................................................... 11 European Central Bank (ECB) .................................................................................................................. 11 Savings package by the Greek Government ........................................................................................... 11 Proposed 6th measure Euro Bonds ....................................................................................................... 11 Was the Euro a good idea? ......................................................................................................................... 13 Maastricht Treaty.................................................................................................................................... 13 Price Stability .............................................................................................................................. 13 Fiscal Prudence ........................................................................................................................... 13 Successful EMS Membership ...................................................................................................... 13 Interest-Rate Convergence ......................................................................................................... 14

How do these benefits of the euro arise? .............................................................................................. 15 Benefits worldwide ................................................................................................................................. 15 Realizing the benefits .............................................................................................................................. 15 Will the Euro zone disintegrate in the near future? ................................................................................... 18 Profligacy Diagnosis .................................................................................................................................... 22 Political Impact.................................................................................................................................... 24 Economic Impact................................................................................................................................. 24

Germany :Central to the solution of the Euro crisis ................................................................................... 25 Germanys History in Europe .................................................................................................................. 25 Germanys Current Role and Actions ...................................................................................................... 26 Cost of Breaking Up ................................................................................................................................ 28 Cost of the Bailout .................................................................................................................................. 28 The German Decision .............................................................................................................................. 30 References .................................................................................................................................................. 31

AbstractThe Euro crisis is the impending financial crisis that the entire world is waiting and watching to unfold. After the financial crisis that hit the global economy in 2007 which preceded by long period of rapid crdit growth, low risk premiums, abundant availability of liquidity, strong leveraging and development of bubbles in real estate, this crisis shows features more akin with the Great Depression of the 1930s. It started as a acute shortage of liquidity with the financial institutions which was then worsened by the global meltdown. The interconnections were so strong that EU GDP is shrunk by so much so fast, that it has never happened before in the history. The crisis has bought forward some very thought provoking questions regarding the policies followed and the changes required in these areas. Some of the questions thrown around are, was Euro a mistake? Cant countries just get out? What is the cost of getting out? How did things get so worse? Another interesting area of focus has been profligacy diagnosis. How much is really too much spending? How are we supposed to cap it? When can you say enough? From these questions we are now slowly moving to a place where the focus is shifting to Crisis prevention, Crisis control and mitigation and further Crisis resolution.

KeywordsBailout Consequences Euro zone Euro crisis Profligacy diagnosis European Union European Central Bank (ECB)

European CrisisGoing back to the originIn 1958, an organization called European Coal and Steel Community was formed. This evolved into the European Union (EU) which was established by the Maastricht Treaty in 1993. The European Union introduced the euro on January 1, 1999. On this day, 11 member countries of the EU started using euro as their currency. It benefited countries such as Portugal, Italy, Ireland, Greece and Spain (together now known as the PIIGS).

How did the Euro benefit them?

Before these countries started to use the euro as a currency, they had to borrow money at interest rates much higher than the rates at which a country like Germany borrowed. When these countries started to use the euro they could borrow money at interest rates close to that of Germany, which was economically the best managed country in the EU.

Another important factor is that the inflation in the PIIGS countries was higher than the rate of interest which means that if you are

borrowing at 3% interest rate but the inflation rate is 4%, effectively the real interest rate is a negative 1%. The setting facilitated huge borrowings on the part of these countries, not just the citizens even the governments started to borrow which helped the politicians keep their constituency of voters happy.

Situation in GreeceA job which paid x Euros amount in Germany, paid more than x Euros in Greece, even though Germany is a more productive nation. To get around the pay restraints in a calendar year Greece government simply paid employees a 13th or 14th month salaries, months that didnt even exist. Another aberration was that Greece had classified some jobs as arduous jobs, jobs which require more hard work. The retirement age for these jobs was 50 for women and 55 for men. At this point in time the government has giving out very generous pensions and more than 600 Greek professionals somehow managed to get themselves classified as arduous, and these professionals were people with jobs like hairdressers, musicians etc All of this led to more and more borrowing by the government when they already had so much debt.

Situation in SpainSpain had the biggest housing bubble in the world. To make things clear let us quote some facts, Spain has as many unsold homes as US even though US is 6 times bigger. Spains real estate debt comes to around 50% of its GDP.

Why countries are not defaulting?Every time a country defaults, the ECB (European Central Bank) helps out with a bailout. Since the financial crisis ECB has bailed out $80 billion Greek, Irish and Portuguese government bonds and lent another $450 billion to various European governments and European banks

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