- By S.D.Srinivasan
European Sovereign debt crisis is different from the US crisis. In United States, it was the crisis of the financial institutions and banks that led to an economic crisis of not only United States but throughout the world. While in the case of US and European banks and financial institutions, the Governments had taken measures to bail out the banks/financial institutions and sometimes taking full or partial control of some of them, in other words, nationalizing them, in the European sovereign debt crisis, it is the crisis of the Governments like Greece, Italy, Ireland, Spain and Portugal. Iceland, the country which experienced the largest financial crisis in 2008/09, when its entire international banking system collapsed, has emerged less affected by the sovereign debt crisis.
The relationship between the two is that the sovereign debt crisis was basically because of the bank bailouts resorted to by the Governments in 2008 and subsequently owing to the fallout of the global banking and financial crisis.
In 1958, an organisation called European Coal and Steel Community was formed. This evolved into the European Union (EU), which was established by Maastricht Treaty in 1993. The EU introduced “Euro” as their currency from 1stJanuary, 1999. On this day, 11 member countries of the EU started using euro as their currency. It benefitted countries such as Portugal, Italy, Ireland, Greece and Spain (PIIGS for short). These countries stood benefited because they could use Euro to borrow money instead of their own currencies, which were less stable.
Since the formation of the EU and signing of the Maastricht Treaty, the member countries have pledged to limit their deficit spending and debt levels. However, a number of EU members including Greece and Italy were able to circumvent these rules and mask their deficit and debt levels through the use of complex currency and credit derivative structures. These structures were designed by prominent US investment banks, who received substantial fees in return for their services. Ironically these investment banks themselves took little credit risk themselves while dealing in derivatives.
The basic reason for the Sovereign debt crisis in Europe is the bank bailouts in the EU zone by countries and the role the credit rating agencies in advising the countries to circumvent the terms and conditions of the Maastricht Treaty have contributed to the disasters of several countries in Europe.
The international US based credit rating agencies like Moody’s, Standard & Poor’s, Fitch etc., have played a central and controversial role in the current European Bond Market Crisis. As with the housing bubble in USA, the rating agencies have been under fire. The agencies have been accused of having overly generous ratings due to conflicts of interest. Rating agencies also have a tendency to act conservatively and to take some time to adjust when a firm or country is in trouble.
The Spanish Prime Minister went on record to state that it is an attempt of undermine Euro so that UK and US can continue to fund their large external deficits, which are matched by large government deficits.
Financial speculators and hedge funds engaged in selling Euros have also been accused for worsening of the crisis. German Chancellor Merkel stated that “institutions bailed out with public funds are exploiting the budget crisis in Greece and elsewhere.” In other words, with the funds given to these financial and hedge funds for bailouts, they have started speculating and even when countries face sovereign crisis, these private hedge funds cared only about their profits and about the collapse of nations. The role of Goldman Sachs in Greek Bond yield increases is also under scrutiny. According to Wall Street Journal, the hedge-fund managers already launched a concerted attack on the Euro early in 2010.
Countries that have been affected in Europe owing to crisis.
Iceland:
In Iceland with its banking collapse not comparable to in the economic history in any country. The depth and effect of the economy including the cost on the economy is still not fathomed, while the analysts state that it is more than 75% of Iceland’s GDP. The Financial Supervisory Authority of the Government had nationalized all the three major banks way back in 2008-09 and there has been strict rules and guidelines to investments and speculations.
Greece:
By the end of 2009, as a result of a combination of international and local factors (respectively, the world financial crisis and uncontrolled government spending), the Greek economy faced its most-severe crisis since the restoration of democracy in 1974 as the Greek government revised its deficit from an estimated 6% to 12.7% of gross domestic product (GDP).
As a result of the on-going economic crisis, industrial production in the country went down by 8% between March 2010 and March 2011. Between 2008 and 2011 unemployment skyrocketed, from a generational low of 7.2% in the second and third quarters of 2008 to a high of 18.4% in August 2011, leaving more than 900,000 without a job. In the final quarter of 2010, youth unemployment reached 36.1%.
The bailout of Greece was around 110 Billion Euros by the European Union.
Ireland:
The Irish crisis was not based on government overspending but from the bailout and guarantee of the Government to six main Irish-based banks during property and housing bubble. The hidden loans of these banks resulted in the loans being devolved on the Government.
The bailout package for Ireland was around 85 billion Euros.
Portugal:
The successive Portuguese republic governments have encouraged over-expenditure and investment bubbles through unclear policies and funding of numerous ineffective unnecessary external consultancy and advisory of committees and firms. Portugal fell victim to successive waves of speculation by pressure from bond traders, rating agencies and speculators.
On 16thMay, 2011, Eurozone leaders officially approved 78 billion Euros as a package for bailing out Portugal.
Other countries: Italy, Spain, Belgium, United Kingdom are other countries that are in the line in the Euro crisis. All the effects are due to the speculations and encouragement to hedge funds and investment banks without proper regulation on the products and markets.
In short, the worst is not over and the experts feel that switching over from Keynesian economic theory without adequate control and protection to non-Keynesian theories have resulted in crisis of the economies throughout the world and the countries are facing the sovereignty crisis as rightly called as European Sovereign Debt crisis.
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