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European Sovereign Debt Crisis

By:Lakshman Singh

Praxis Business School

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Eurozone

In 1992, members of the European Union signed the Maastricht Treaty. To join the currency, member states had to qualify by meeting the stringent economic

requirements, known as “convergence criteria”.

Price Developments: Inflation can only be 1.5% more than the average of the three best-performing member states.

Fiscal Developments: Budget deficits that cannot exceed 3% of GDP and total sovereign debt amounts or public debt cannot exceed 60% of GDP.

Exchange-Rate Developments: A prospective member cannot have devalued its currency relative to any other member state’s currency for the preceding two years.

Eurozone is an economic and monetary union of 17 European Union member states that have adopted the euro as their common currency.

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When does debt become a big problem?

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Eurozone Crisis It is a combined sovereign debt crisis, a banking crisis, a growth and

competitiveness crisis. The Eurozone debt crisis is an economic crisis due to the:-

Collapse of financial institutions High government debt Rapidly rising bond yield spreads in government securities

The European sovereign debt crisis started in 2008, with the collapse of Iceland’s banking system

Three countries significantly affected Greece, Ireland and Portugal during 2009 and collectively accounted for 6% of the Eurozone’s GDP.

This led to a crisis of confidence for European businesses and economies

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CAUSES

Rising household

& government debt levels

Trade imbalances

Structural problem of Eurozone

system

Monetary policy

inflexibility

Loss of confidence

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Ireland The Irish sovereign debt crisis was not based on government over-spending,

but from property bubble burst in 2007 which cause the economy to collapse. Irish banks had lost an estimated 100 billion euros, much of it related to

defaulted loans to:- Property developers Homeowners

Unemployment rose from 4% in 2006 to 14% by 2010 National budget went from a surplus in 2007 to a deficit of 32% GDP in 2010 By April 2011, despite receiving a 67.5 billion euros bailout, the bank debt

downgraded to the junk status.

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Spain Before the Eurozone crisis, Spain had low debt level compare to other

advanced economies Debt to GDP in 2010 was only 60% Spain spent large sums of money on bank bailouts after the property

bubble unacceptably burst. In 2011 the government announced austerity measures

Spending cuts Tax Increases

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Greece In the early mid-2000s, Greece's economy was one of the fastest growing in

the Eurozone When Greece revealed that its budget deficit was 12.7% of gross domestic

product (GDP), more than twice what the country had previously disclosed. In Greece, high public sector wage and pension commitments were

connected to the debt increase Greece receives rescue packages of 110 billion euros in 2010 and than further

130 billion euros in 2012 Ratings agencies Fitch and Standard & Poor’s downgrade Greece’s credit

rating to junk status Greece implements austerity measures to reduce budget deficit

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Portugal

Portugal came into trouble because of decades-long governmental overspending

Portugal requested a 78 billion euros IMF-EU bailout package in a bid to stabilize it’s public finances.

On 16th May 2011, the Eurozone leaders officially approved a 78 billion euros bailout package for Portugal

The average interest rate on the bailout loan is expected to be 5.1%. Portugal became the 3rd Eurozone country, after Ireland and Greece to

receive emergency funds.

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Remedial Measures

Emergency loans have been extended as bailouts mainly by stronger economies like France and Germany, as also by the IMF.

The EU member states have also created the European Financial Stability Facility (EFSF) to provide emergency loans.

Austerity measures have been enforced Brussels has given to authority to serve as finance minister for the

seventeen countries They will be overseeing National Budget and imposing harsh economics

reforms to struggling countries

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Thank You

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