Abstract
Since 2007, the European markets continued to experience a decline as several European nations had felt the consequences of applying the unstable Euro into their countries that had influenced the nation’s economic instability as seen in the case of Greece, Ireland, Italy, Spain, and Portugal. In recent news, the European debt crisis continues to prevail as the Eurozone reaches its all-time low for the past5 years as both strong and weak European markets now enter a state of recession that affects the entire world market. With the current European Debt Crisis continuing to influence the European markets, the United States may also find itself into the same economic status as that of the Eurozone members. This paper will discuss the history of the European debt crisis, as well as the countries that had influenced the Eurozone’s current decline. In addition to this, a discussion of the impacts of the European Debt Crisis to the United Sates market would also be included.
European Debt Crisis
Since 2007, the European markets continued to experience a decline as several European nations had felt the consequences of applying the unstable Euro into their countries that had influenced the nation’s economic instability as seen in the case of Greece, Ireland, Italy, Spain, and Portugal. While it had been caused by the global economic crisis that had also influenced banking and financial institutions to succumb to bankruptcy, the European debt crisis had evolve due to several regional impacts of the global economic crisis and subsequently caused declarations of bailout request. In recent news, the European debt crisis continues to prevail as the Eurozone reaches its all-time low for the past5 years as both strong and weak European markets now enter a state of recession that affects the entire world market. With the current European Debt Crisis continues to influence the European markets, the United States may also find itself into the same economic status as that of the Eurozone members. A possible resolution of the crisis may also be far at hand considering the ongoing financial recession experienced in the European market, adding to the accumulation of debt and losses for the Eurozone.
The Eurozone debt crisis’ history can be traced in 2007 when the global economic crisis had struck the world market. According to the analysis done by the European Commission’s Economic and Financial Affairs (2009), the crisis broke sometime in summer 2007 as many banks had slowly felt uncertainty over their counterparts due to overpriced financial transactions. BNP Paribas had also frozen several investments funding due to the lack of capacity to value products. This resulted into an increase of short-term loans between banks and still remained closely wrapped within the banks. However, by 2008, banks have slowly started feeling the financial meltdown as Bear Sterns (US), Northern Rock (EU) and Landesbank Sachsen (EU) had announced bankruptcy in spring 2008. Other financial institutions had followed these three institutions as they were already being affected with the high rates of short-term loans and the need to settle these loans to other banks. In September 2008, US based Lehman Brothers had filed for bankruptcy, causing tensions and panic for investors in the financial field. Banks were slowly unable to raise their own capitals through bank deposits and shares. Some institutions could also no longer finance themselves and sell some of their assets to sustain their financial status and prices. Eventually, the announcement of bankruptcy of the largest insurance giant AIG took down key US and EU financial institutions that caused a domino effect in the stock market and in the economies of various countries . According to Nelson, Belkin, Mix and Weiss (2012), the crisis had escalated in 2009 when Greece’s recently elected government officials had announced that it is in need of bailout funding from the EU or from the IMF as records of the country’s budget, debts and investments have been misreported by previous administrations. Immediate response from the EU had been implemented to ensure that Greece and other European nations would not succumb to the similar status of Europe. However, with the report of Greece’s economic troubles, fear began to escalate in various Eurozone nations that are also in the brink of succumbing into debt. Investors had also found themselves uncertain of staying in Europe, considering that finances of other European nations such as Ireland and Portugal are beginning to diminish. The crisis had also evolved into a political issue as protests, and opposition from the public had caused austerity measures to be thwarted or rejected. The strong economies had also received their share of opposition due to their position as financial backers for bailout funds for other Eurozone nations. The EU’s top policymakers had also been disagreeing as to how anxiety with the European market could be remedied considering the financial and economic impact of bailout measures and austerity.
It is visible that the European economic debt crisis did not just come from the global economic debt crisis as it had also been caused by the governments that had declared bailouts or bankruptcy defaults. At the pinnacle of the current European crisis is Greece, the first nation to file for bailout since the 2007 World and European Debt Crisis had taken shape. According to Nelson, Belkin and Mix (2011), Greece has been recorded to have the highest level of public debt and budget deficit since the time of crisis. Public debt had long been a problem of the Greek government since 1832, the time of its independence from the Ottoman Empire. Since their independence, Greece had maintained inefficient public administration, corruption practices, and even political clientelism. Clientelism is often pointed as the main reason for pervasive tax evasion practices and even for Greece’s complex tax policy that enables exemptions to be given to various occupations. The government had also been reporting only one-third of its actual declared income, thereby causing the international community and the European governments to question Greece’s actual economic status . According to Sklias and Galatsidas (2010), Greece had continued to accumulate various debts from both international and domestic financial institutions to sustain its growing economy. However, by the time they had incorporated the Euro in 1990; the devaluation of Greek currency enticed low and competitive environments for small businesses and accumulated additional debt due to the high rate of the Euro. The government had also failed to manage its yearly budget, adding to the debt crisis it had incurred to the nation .
The Greeks had also failed to identify the signs of their weakening market since the beginning of the debt crisis in 2007, which eventually caused the government to complicate their supposed action to prevent the problem. According to Arghyrou and Tsoukalas (2010), the Greek market had slowly been deteriorating as the market continued to sell Greek bonds to member countries. The 2009 elections had also caused the Greek government to shift its attention away from the economic crisis. After the elections, the Greek market had evolved significantly under the new administration. However, it had failed to enact uniform action over the country’s 2010 budget that had caused the EU to become suspicious over the report. The country also failed in introducing and detailing its actual expenditure and budget allotment, causing more losses and debts for Greece . Boston, Radowitz, and Thomas (2012) had noted that the EU and the IMF had already devised several proposals to issue a bailout fund for Greece worth €145 billion to recover the Greek economy and government bonds. The bailout pack had also ordered that Greece must improve its situation and ensure that it would be able to compete against fellow Eurozone members while trying to sustain its own debt. The government is also tasked to improve its tax management, labor and health sectors which became at risk in the past administrations. Nonetheless, there were still arguments as to how the EU would be able to fair if Greece continued to use the Euro. France had noted that there must be a debt restructuring mechanism that would help Greece settles its private debts. Germany had declared that Greece must be placed under bailout proposals since it would serve as an example for the other Eurozone states to become organized with their budget and growth production.
Aside from Greece, other European nations had also been reported to succumb to the Euro crisis. According to Alessi (2012), Ireland had followed Greece in declaring the need for bailout funds as a bank default crisis was announced in the country. The bank default had been caused by the 2008 housing bubble collapse as housing prices had massively reduced due to the global economic crisis. Ireland had also experienced one of the severe recessions present in the Eurozone as its output had decreased by 10% since 2008. Unemployment rates had also increased to 13% in 2010 due to the crisis. The Irish government had tried to sustain the liabilities caused by the crisis to maintain its economy. According to Munoz (2009), the Irish government announced its $5.58 billion economic plan to cover the losses incurred through the nationalization of Anglo Irish Bank. Brian Lenihan, the country’s financial minister had stressed that capital injection would prevent the bank from becoming the cause of further economic stress for Ireland and protect the economy for possible losses if the bank is shut down. The country’s capital injection plan is considered one of the expensive efforts done by Ireland to sustain its dwindling banking sector. It had also injected funds of up to €3.5 billion to the country’s largest banks, the Allied Irish Banks PLC and the Bank of Ireland Group . By December 2009, the Irish finance minister had announced a budget-reduction plan that would sustain the country’s deficit and to prevent it from reaching critical levels. However, a year later, Ireland had announced that it would require an estimated $112 billion rescue/bailout package from the EU-IMF as the country could no longer sustain its economic problem.
Portugal had also experienced severe economic crisis as its GDP, productivity ratio, and wage increase had remained low for the past decade. The country, like Greece, had depended mostly on foreign debt that had been estimated to be more than the 10% GDP of the country in 200. Eventually, this dependence had caused Portugal to be affected by the European Crisis and additional economic imbalances. Investors had increased their premiums and their payment rates, making it hard for Portugal to pay and finance itself. The crisis had continued on in 2010 and 2011 as the government tried to implement several austerity packages that could have sustained the debts of the country. However, the parliament had not accepted each proposal given the amount it would curtail. In March 2011, Portugal had announced that it needed a bailout fund or rescue loan to increase its credit rating and the recovery of their government bonds. The EU and the IMF settled for a $116 billion package for Portugal in lieu of Portugal’s adherence to austerity that comprises 3.4% of the country’s GDP. Two months later, known credit rating agency Moody’s had issued its report that Portugal may need additional bailout funds as the newly established government may influence austerity measure implementation.
The next country to succumb to the Eurozone crisis is Italy, the Union’s third largest economy after France and Germany, in October 2011. Many investors and shareholders had lost confidence in Prime Minister Silvio Berlusconi’s capacity to implement economic austerity measures to ensure that the ten-year government bonds would not reach 7%. In comparison to the first three nations that had asked for a bailout by the time their government bonds had reached 7%, Italy was unable to do the same option given its public debt of over $2.6 trillion. Like in Greece, Italians had called for the removal of Berlusconi to step aside to allow a temporary government to handle budget reforms, cuts and measures to ensure Italy would not default. In 2012, Prime Minister Mario Monti had managed to raise billions of dollars by enforcing a more growth-oriented approach to implement austerity. However, according to the report of the Associate Press (2012), Italy’s borrowing rates had increased and placed Italy into financial turmoil. Italy had to pay the interest rate of over 3.972% in the recent bond auction so they could borrow an estimated $8.13 billion from financiers. It had been noted by debt expert Nicholas Spiro that the Contagion is back, and now Italy is experiencing its direct consequence. While the deficit of the country had remained at 3.6% of its actual GDP, Italy remains to have a stagnant economy and a high debt of over $2.4 trillion. A possible recovery must entail reform to make the economy more competitive than its European counterparts .
Finally, Spain had also announced that the financial crisis had caused the country to be at risk of Contagion. Like the Irish case, Spain had experienced a severe housing bubble bust in 2007 and now left its banking sectors exposed and bankrupt. Spain had to request bailout packages from the EU and the IMF in the summer of 2012 to sustain its financial sectors. By July 2012, the EU had agreed on lending Spain a bailout fund of over $123 million to revive its banking institutions. However, the government had remained to borrow costs, increasing the risk of full debt bailout . In recent news written by the Associate Press (2012), Spanish banks had suspended home evictions for homeowners unable to pay mortgages due to the continuing economic crisis. There had already been reports of Spanish homeowners committing suicide due to the incapacity of paying their mortgages. The Spanish Banking Association noted that the suspension would last up to two years, covering vulnerable homeowners who could not pay for their fees. Almost 350,000 people had lost their homes due to the unusual mortgage laws of Spain, some losing their jobs and a few experiencing wage cuts due to the debt crisis. The Spanish government, through Economic Minister Luis de Guindos, had announced that the government would try imposing contingency measures that would ensure no one would become homeless as the government tries looking for solutions to the growing crisis .
The current problem in the Eurozone due to the lingering European debt crisis may foster problems for its biggest trading partner, the United States. According to the analysis done by Ahearn, Jackson, Mix and Nelson (2012), both the US and Eurozone economies are the key actors in the world economy and are crucial links to the other's prosperity and strength. If combined, both the US and the Eurozone countries cover up to 40% of the world's GDP, 25% of the world's trade, 60% of world investment, and 60-70% of the world's entire financial system. Both markets also share each of their markets as a means for export and direct investment. Since there is a strong connection between the US and European markets, it is visible that the crisis had affected the United States both financially and economically. With the continuous crisis escalating in the debt-ridden European countries, the US stock prices had drastically decreased into its all-time low since the beginning of the crisis in 2007.
The situation got worst for the US and the Eurozone when Germany's top representative in the European Central Bank, Jurgen Stark, resigned. According to the report of Blackstone (2011), Stark's resignation was mostly for personal reasons considering his tenure as the chief economist in the ECB. However, reports have cited that Stark's early exit was due to the ECB's growing responsibility to sustain debt stricken countries in the Eurozone. Stark's exit also caused warnings to both European and US markets since the stability of the European Central Bank's senior administration may cause more fears to the Greek and European banks that depend on the ECB. The change in the ranks of the ECB also fosters sensitive risks to the two year debt crisis in Europe. Greece, the first nation to call for a bailout from the remaining Eurozone nations is yet again on the brink of further debt. Spain and Italy are also facing some risks since investors are slowly thinking of moving out of the country due to their dwindling economies. ECB had helped these three countries by buying out their government bonds since May 2010, reaching up to 50 billion euros. However, Stark's exit now influences the doubts currently above the European and US markets if there is a possibility for recovery . There is also a recorded 2% drop on the US stock indexes upon the resignation of Stark. In addition to this, the US is also affected with the problems in Greece, Ireland, Italy, Portugal and Spain considering the risks it presents the European banking system – namely the German, French, and British banks that are also connected to the US banks. With the European banks absorbing the losses of bonds in the ailing countries before they succumb to bankruptcy. Since the US allots funds for these European banks, the concern now is the capacity of the European banks to pay the debts they owe the US banks. In addition to this concern, the December 2011 decision of the ECB to provide cheap credit for European banks for the span of three years had ensured the safety of European banks for the next few years.
Trading wise, the Eurozone’s stagnation may cause recession and depreciation of US exports, profit, and investment; especially for U.S multinational companies based in Europe. With the declining rate of the Euro against the Dollar, the US economy may not be able to recover its lost rate. The Dollar-Euro imbalances can also influence the US-Eurozone foreign investment flows. At present, the Eurozone covers 26% of all US direct investments overseas and 44% of the direct investments from foreign investors in the US. With the slow progress of European markets, US investors may shift to other locations that could generate more profits in comparison to the European markets. US parent companies of companies based in the European countries may also find their companies generating slow profit with the reduced rate of the euro in the market. Nonetheless, the cheaper stocks and assets in Europe may also cause US investors invest in Europe and settle in with a lower capital. Economists have also noted that if the Eurozone continues to plunge down or breakup due to the continuing debt crisis, the United States may find its exports and services reduced to half .
In a more recent article written by Von Hoffman (2012), European recession due to the debt crisis now presents more risks to the US as the recession now influences the strong economies like Germany. The European recession is also influencing other countries considering the impact of the recession to the strong European economies of France and Germany. Industrial production had fallen 2.5% in September 2012, and Germany, Europe’s largest financier and economy, had also dropped in sales around Europe. It is seen that Germany may not be able to pull out of the recession that easily as the economy had dropped to -15.7%. For the US, the decreased numbers of production and profit may spell economic slowdown for US companies. There would also be chances of worker lay-offs. While the US has economic partnerships around the globe, the reduction of European consumers to the US products may cause a massive reduction for the country’s profit rate .
At present, it may seem that the continuous European crisis may slowly impact not just the European’s largest partners, but also the rest of the world market if it continues to worsen each quarter. A possible resolution of the problem would also take some time to develop considering the bailout funds required by various European states to recover losses, pay debts and sustain their economies and governments. There is also the complication of the on-going global recession felt not just by the Europeans, but also the entire globe, adding to the fluctuating rate of the Euro and other world currencies. With Greece, Ireland, Italy, Spain and Portugal already under bailout funding and the risk of being bankrupt remains high, it is only a matter of time before the other European nations would follow suit. Unless the European Union, and the heads of the strongest economies of the organization devise workable bailout funds and recalibrate the Euro system to sustain the incurred debts and merge with the situation of each nation a part of the program; it is possible that the crisis would continue on and it is possible that the only resort the Euro members could recover is the removal of currently ailing nations out of the EMU. However, doing so may also affect the rate of the Euro as investors would see the withdrawal of support for in-debt countries as a gesture of the currency’s weakness.
References
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