European Sovereign Debt Crisis Economics Essay

European self-reliant Debt Crisis frugals EssayThe topic of the coursework focuses on the European s overeign debt crisis. We mainly explain how the latest European debt crisis emerged and the reasons that rided the military personnels economic carcass to enter into a street corner. An opposite important issue is the imp turning of the crisis on the securities industrys especially on the lodges markets and other such as commodities, equities, Forex and gold. Furtherto a greater extent, we explain the slight(prenominal)ons to the Euroz wholeness from other countries that slighted such as Argentina and Russia. What is more, we try to evaluate the metier of the policies and measures interpreted by the monetary institutions and the policy markets. Finally, we discuss the possible effects of the crisis to the fiscal landscape the lessons to be taken and the tr oddments that whitethorn emerge from this turmoil.European Sovereign Debt Crisis Reasons and CausesThere is a preva lent agreement that the fundamental cause of the European self-directed debt crisis was the junto of a acknowledgment boom and a housing bubble affecting firstly US and consequently the Eurozone. Easy credit conditions during the 2002-2008 period encouraged elevated- risk lending and get practices. This extremely positioning has happened even though in 1992, peniss of the European Union signed the Maastricht accord that guarantee only the public empyrean squirt produce enduring deficits. It as plazaed that fiscal markets would al political science agencys correct their own excesses.Next designing shows how home mortgages had risen during the period 2004 and 2007, collapsing all the banks due to lack of liquidness as people were non able to generate their mortgages back.https//lh3.googleuser message.com/-4rmySpZ3gWs/TXlRlyLCkuI/AAAAAAAAAQU/j9Tafv_Gs_A/us+salient+mortgage+credit+1990-2008.jpgThere argon several important fixingss implies in the European sovereign deb t crisis some countries earn been in trouble to settle the debts that they contrive built up in recent decades. Five of the regions countries Greece, Portugal, Ireland, Italy, and Spain have failed to generate enough economic growth to feign their ability to pay back bondholders the guarantee it was intended to be. Although these five were noticen as being the countries in immediate danger of a possible default, the crisis has consequences that extend beyond their borders to the world as a whole. In fact, the head of the Bank of England referred to it as the almost serious financial crisis at least since the 1930s, if not ever.Moreover, resulted from a combination of multiple factors European sovereign debt crisis have been affected by the world(a) financial crisis in the midst of 2006-2011 inter content trade imbalances which atomic subjugate 18 the difference between the monetary value of exportandimports of out allot in an sparing over a certain period real-state bub blesthat have since burst the global box between 2008-2012 approaches used by nations to guarantee troubled banking industries and private bondholders, presume private debt weight or socializing .In general, the crisis is presented as the result of arrears in debt of some European Union countries. It is alleged that his debts reached a aim that cannot be repaid or refinanced. However, this statement does not hold if we look in detail. Thus, the European Unions debt (about 80% of its GDP) is significantly below in Japan (220%) or the U.S. (100%). US debt increase significantly over the past five years, from less than 60% to over 100%. Still, U.S. is able to finance its debt due to mainland Chinas help.Impacts on the bond markets and other marketsThe European sovereign debt crisis had a great impact on markets and several implications. The impacts of the debt crisis were so deep to the worlds prudence that we can still observe them today especially at the Eurozones countries such as Greece, Spain, Italy, Ireland and Portugal. High volatility of the euro markets has been a significant factor during the crisis period. Those spicy levels of volatility can lead to high engagement rates of acquire for the countries with debts and as a consequence to high bond yield spreads.http//ars.els-cdn.com/content/image/1-s2.0-S0176268010000509-gr1.jpgFig.2.Bond yield spreads for EU-15 central authoritiess, January 1991-whitethorn 2009.As we can see in figure 2 the bond yield spreads for the EU-15 central governances during May 1991 till October 2006 were low, whereas the bond yield spreads during October 2006 and May 2009 were extremely high.Government bonds argon historically considered as the safest investment. after the crisis, investors runnering to lose their confidence in the stock market and as a result they stop invest on it. Consequently, investors turned to government bonds and this led to a rise in the posit of bonds. Therefore, Central Banks tried to inc rease their holding of government bonds. Because of the increased demand, the cost of the bonds has been raised.Source, Bloomberg Euro Index from 2001-2012The above represent shows the historical price graph of the European government bonds 7-10 years of maturity. The graph shows that the price of the government bonds departed real high from 2001 till 2012 and it is still rising.Source, Bloomberg Bond Indices for US government 7-10 year, Bloomberg Finance L.P.The above graph shows the US 7-10 years of maturity price of the government bonds from 2001 till 2012. Again, because of the correlation of the European preservation and the US economy the sovereign debt crisis has led the bond prices to high levels. What is more, if we observe the graph we can clearly notice that during 2008 and 2012 there is high volatility which indicates the high demand for government bonds during that period.The stock market is different to the bond market. During credit unbalance the price of the s hares of the firms pull up stakes reduction. Furthermore, when economies enter into recession the expected profit of the firms is red to be set down thus the firms are release to pay less dividend. Therefore, investors bequeath lose their affair in the truth market and they will eventually turn to other markets such as bond markets. The pastime graphs drawn from Bloomberg are showing the price levels for SP d, EURO STOXX and NIKKEI 225 for the period of 2000 till 2012. As we observe there is high volatility to all three equity markets. Furthermore, the low and high prices of the Euro equity business leader and the Japanese equity index are quite high whereas the prices of the US equity index are low. During January of 2008 the prices fall down for the EURO STOXX and the NIKKEI 225 and the SP 500 experienced great loses during November of 2008. The SP 500s prices went up on March of 2009 whereas the EURO STOXXs and the NIKKEIs 225 prices remained low.Source, Bloomberg EUR O STOXX INDEX from 31/10/2000 29/10/2012Source, Bloomberg SP 500 INDEX from 31/10/2000 29/10/2012Source, Bloomberg NIKKEI 225 from 31/10/2000 29/10/2012During the sovereign debt crisis the worlds economy collapsed. There were many implications in all type of markets such as the derivatives, commodities, foreign exchange market and of course implications in the gold prices and the oil prices. After the housing bubble, the goodness market entered its own bubble. From 2007 till summer of 2008 oil prices went very high and indeed plunged to very low price by the end of 2008. anele though was not the only commodity to experience swings in the prices. dining table 1 illustrates the declines for some of the commodities during 2008 compared to the declines during 1970 2007.Table 1. The commodity bubble, Source World Economic Outlook Crisis and RecoverySovereign Default and lessons from defaulted countriesA sovereign default occurs when a government refuses or fails to repay its fi nancial obligations (debts). Countries that have been sovereign defaulted can escape liability without being legal penalized since they are not subject to loser laws. However, a sovereign default will cause difficulties for the defaulted government to borrow funds again since it will be besides expensive and because of the low credit ability. The main cause of a sovereign default is the inability of a government to repay the loans interest rate. If the national income growth is less than the annual payable interest rate then the probability of default is very high. This situation commonly arises when government outlay such as salaries, pensions, rents, supplies are much higher than the tax revenues time any internal borrowing fails to take place and issuing bills is for miscellaneous reasons impossible.Economic history is full of skids of bankruptcies. From 1824 to 2009 we had at least 286 formal bankruptcies of one hundred ten states. The most recent cases however were the ba nkruptcy of Argentina and Russia. Till 1997 Russia managed to purify its financial stability by reducing the inflation rate to 11% comparing to the enormous rate of inflation the previous years and by depreciating its exchange rate. However, problems emerged because of two major crises. The first was the Asian financial crisis, which started in 1997, and the subsequent slash of demand for oil and metals. What is more, the reduction in demand for goods caused a fall in prices, leading countries who were directly pendent on the export of raw materials to deficits. Oil, natural gas, metals and timber accounted for more than 80% of Russian exports, making Russia highly vulnerable to any changes in external prices. In addition, oil was an important source of tax revenue. Thus, Russian government started to have difficulties with its financial obligations and defaulted in 1998.Source, Bloomberg Russia Real GDP by expendingAs we can see from the graph Russia managed to recover in a de cade. Although Russia defaulted in 1998 the results were not catastrophic for the government. On the contrary, Russias economic growth was firm and oil prices went high leading to high profitability.The most recent bankruptcy though occurred in 2002 in Argentina. The economic crisis in Argentina lasted from 1998 to 2002 with the followers main points there was a strong recession from 1998 to 1999 and the financial system collapsed during 2001 and 2002 which was basically the consequence of the recession. During that period of time Argentinas GDP fell by 21% with disastrous results for the citizens. Furthermore, the percentage of poverty reached 57% while unemployment exceeded 23%.Source, Bloomberg Argentinas Annual Real GDP growthAnother important factor of that led Argentina to bankruptcy was its gold. During 1991 there was high inflation so the government decided to change the currency and linked it to the dollar (actually they adoptive the US dollar instead of their own curren cy) in order to reduce inflation. Although the new currency reduced inflation for a while the consequences were disastrous. The increase prices in the country become more expensive in worldwide markets, which led to the reduction of competitiveness, lower exports and a negative trade balance. Argentinas case is interesting because there are a lot of similarities with the Eurozone countries. The first lesson is that by decreasing the nominal expenditures or by change magnitude taxes during a recession in order to decrease fiscal deficit reductions will make things worse. The second lesson is that deflation is not going to provide positive results in correcting an overvalued currency especially in a country with heavy(p) public sector and powerful unions. What is more, by choosing to link their currency to dollar, problems with balance rags will be significant.Policies and measuresRegarding the measures and policies taken by Financial Institutions and Policy Makers, lets start wi th the ones that have been taken by Financial Institutions we know that our rate of 1 per cent is the lowest since 1999, when the euro began, and this is a result of quickly regressing inflationary pressures since 2008. This measuring follows the primary objective of European Central Bank, which is to keep price stability in the Eurozone in the medium level.In addition to reduce the interest rate, they have taken a fall of measures to aid the perfect theatrical role of the euro bowl interbank market. Those measures have helped the progress credit to enterprises and householdsThose non-standard measures are known as intensify credit support. They mainly focus on commercial banks, because they are the main source of funding for households and businesses in the euro athletic field. To contrast with the US in the euro plain about 70% of the funding of corporations and households comes from banks the equivalent share for the US is around 25%. So a well-functioning money market is ingrained for Europes commercial banks and also for the ECB as the transmission of monetary policy to the economy starts here.Those measures arethe complete accommodation of banks liquid requests at fixed interest ratesthe extend of the maturities of the refinancing operations, up to 1 yearthe provision of liquidity in foreign currenciesOutright leveragings of euro-denominated covered bonds issued in the euro field of battle.This last one has an important function because bond market is traditionally an important way for funding banks in the euro area. This market has been heavily suffered from the financial crisis. They have put an important amount of money 60Billion Euro to support market functioning alone it is not so large to dominate market developments. Still, compared with bond purchase programmes in some other major countries, the amount spent by the European Central Bank in the context of its covered bond programme is fairly modest. However, this is a result that the p rimary role of the ECB is to act as an agent for this market, not as a market maker.To sum up, looking at the effectiveness of measures of improve credit support, we consider a positive impact on money market conditions and over the market. The large injection of liquidity into the money market led to a decrease in money market interest rates at the very short end, to levels close to the ECBs deposit rate of 0.25%.On the other march on if we have a look to Policy makers, those measures have been consisted to support the financial system and measures to reduce the effects of the financial crisis on the rest of the economy. After the collapse of Lehman Brothers in September 2008, most European governments speedily adopted measures to support the financial system in a coordinated action. These include increasing deposit insurance ceilings, guarantees for bank liabilities and bank re outstandingisationsWe believe that the effectiveness of the support measures is positive. The measures were needful for avoiding a further growth of the crisis at the end of 2008. In addition there is an initial evidence that government support measures have been effective in reducing banks default risk, however may be demand more money, especially in Spain and Greece. Here it seems that capital injections have been effective as well as debt guarantees and asset purchases. Overall, the government response has been effective. But it has negatives points as well according to the European Commissions, the euro area deficit will increase to 6.5 percent of GDP in 2010 with the debt increasing to 84 percent of GDP, from 69% in 2008.Financial landscape, lessons and trendsThe last crisis is going to have a major impact on the financial landscape. The lower capital availability will surely change the investors accent mark on private equity and as a consequence the cost of borrowing for companies will be higher. Banks and governments will now have to take at a lower place consideration th e lessons from the crisis in order to improve their regulations and management policies. A number of banks and other financial institutions had to change their structure due to high risk involved and the low liquidity because of the financial crisis. What is more, governments forced to change their regulations concerning banks and other financial institutions and more limits have been imposed. Furthermore, governments now own significant number of stakes of financial institutions due to efforts to control them. Changes in mergers and acquisitions also occurred with an emphasis in leveraged buyouts. As the debt of the consumers became higher and corporate balance shits focused on debt rather than equities. Apart from that investments will decrease because of the high capital be and as a result GDP growth will decrease.We have learnt several lessons that might be taken the future. We summarise them in 5.That the euro area did not create an institutional (lacked) good example to corr ect and identify macroeconomic imbalances. Few countries in euro area have experienced strong nominal divergence mainly caused by unit labour cost increases and extravagant credit growth leading to declining competitiveness. During this time, large current account imbalances reflected a build-up of private and public sector debt, building external vulnerabilities that were exposed when the crisis broke. Establishing a permanent framework for surveillance of such imbalances will be necessary for the future.SGP, Stability and Growth Pact, did not help to fiscal policies consistent with social status of a single currency. In an economic and monetary union, fiscal policies must(prenominal) be consistent with rates of sustainable growth and price stability. Instead, contempt during economic growth, 1999 and 2008, fiscal policies were mostly pro-cyclical Few countries kept a budgetary position in structural balance and many got deficits. A more effective SGP will be required forall e uro area.The absence of tolerate frameworks for policy co-ordination in areas essential for competitiveness and sustainable growth. Lets take this example, a number of euro area countries internalised the fallacy that temporarily elevated national productiveness and inflation rates warranted persistent wages increases out of line with the euro area as a whole. A better policy co-ordination is currently needed to reinforce the euro area in national economic policymakingFinancial supervising in the Europe was lagging behind financial desegregation. The result was that a large build-up of systemic risk in the financial sector went largely unnoticed risk which in many cases was ultimately transferred to the balance sheet of the sovereign. A supervision regime commensurate with the reality of financial integration in the euro area is therefore needed.Sovereign debt challenges in individual euro area countries can undermine the stability of the euro area as a whole. Since member count ries do not control their currency, they are vulnerable to liquidity episodes. Creditors sound judgement can change e.g. by effect of contagion, even when fundamentals would not justify itThat is the meanly reason why, a permanent crisis management framework is necessery for the euro area.There are several trends that might emerge from the European Debt Crisis. head start of all the welfare state has been affected for this turmoil, millions of people have mixed-up their jobs and governments have reduced money in main sectors as education, health care, culture,etc. due to lack of liquidity and in many countries those main factors will never be again free for everybody..