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The commencement of the European sovereign debt crisis is traced by analysts to November 2009. After it Greece disclosed that it had a budget deficit of 12.7 % of the gross domestic product (GDP) (Voss, 2011). This was two times over of what the nation had previously revealed. Nevertheless, according to commentators, the actual origin of the Euro sovereign debt crisis may be linked with the structures governing European institutions. The European sovereign debt crisis includes two crises that instigates in dubious choices of investing and debt financing. They encompass the European sovereign deficits and debt rising to an unsustainable degree and the tendency of European financial institutions to hold huge quantities of the European sovereign debt in addition to large amounts of the Euro in regard with real-estate assets (Voss, 2011; Duthel, 2011). According to analysts, the crisis is brought about by the elevated relationship between the affluence of sovereigns in the Eurozone and their financial institutions in addition to the structure of limited political decision-making that is enforced by the Maastricht Treaty (Voss, 2011). This paper analyzes the origin and significance of the European sovereign debt crisis. In particular, the paper addresses various issues including: have the weakness, corruption and profligacy of Southern Europe caused the crisis as blamed on by the popular press and politicians of Northern Europe? What is the role played by inequalities and imbalances in the Eurozone?  How might the Euro regime exacerbate these and/or bias policy towards austerity and recession? What was a role played by the global “financialisation”?  What are the role and policy preference of Germany in the crisis? In addition, are financial markets responsible for worsening the crisis by panic and speculation as accused by some politicians?

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The Creation of the European Union

In order to understand better the origin and significance of the European sovereign debt crisis, it is imperative to first understand the creation of the European Union. As known, the European Union commenced with the approval of the Maastricht Treaty in 1992. The provisions of the Maastricht Treaty enforced strict economic requirements, referred to as convergence criteria, which member states were necessitated to meet prior to the admission to the Eurozone also known as a common currency zone (Voss, 2011). Some of the convergence criteria encompass:

1) Fiscal developments: the aim of these requirements is to make certain that potential member countries have a strong financial condition. Some obligations include: low budget deficits that do not go beyond three percent of the gross domestic product except for circumstances, whereby a state finds itself in an unexpected and temporary condition (Voss, 2011). Besides, the amount of the total sovereign debt should not surpass 60% of the gross domestic product. Nevertheless, if there is a sufficient proof of considerable and continuous declines, these conditions are ignored (Voss, 2011).

2) Price developments: the aim of these requirements is to make certain that member states have stable and low inflation rates. In order to be admitted to the Eurozone, a state must have 1.5% inflation rate in the previous year that is over the average of the first three best performer member countries (Voss, 2011). In order to determine this, the Eurozone makes use of their inflation indices, which include the Harmonized Index of Consumer Prices and calculates the average of the last one year.

3) Exchange rate developments: before being admitted to the Eurozone, a member state must proof the stability of its currency exchange rate. In particular, a potential state should not have its currency undervalued in comparison with the currency of other member nations in the previous two years. In addition to this, a currency should be traded at plus or minus 2.25% around currencies of other member states (Voss, 20110).

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Countries that were admitted to the Eurozone benefited greatly as they were able to borrow funds from strong member states. Besides, the common currency offered a guarantee as member countries were prevented from undervaluing their currencies, and this forced all members of the Eurozone to compete on what can be termed as a level field (Duthel, 2011).  Even though the European economy was characterized by a common currency, it nevertheless did not include a centralized fiscal policy. This allowed individual member states to control their trade balance proactively, for fear that such balances could lead to an excess debt. Therefore, the combination of remarkable economic rewards for admission to the European Union without any enforcement system for countries, which failed to meet the convergence principle, generated an incentive rich milieu for countries to overstrain themselves with many debts with no fear of retaliation (Duthel, 2011).

The Popular Press and Politicians of the Northern Europe Have Tended To Blame the Entire Mess on the Weakness, Corruption, and Profligacy of Southern Europe

The European Sovereign Debt Crisis has been blamed on various entities. For instance, the popular press and politicians of Northern Europe have tended to blame the entire mess on the weakness, corruption and profligacy of Southern Europe. To some extent, it is credible to do so. For instance, such countries as Greece, Portugal, Spain, Italy and France, being all in Southern Europe, have been named as states with a high-anticipated debt to the gross domestic product growth for 2006 to 2012. According to the studies, Greece was capable of lying its admission into the Euro Zone (Nicolas and Firzli, 2010). A report by the Eurostat in 2004 regarding the Revision of the Greek Government Deficit and Debt Figure revealed this. According to the Eurostat, the country’s budget deficit in 2003 was in fact 4.6% of the gross domestic product, but not the prior reported 1.7% of the gross domestic product (Voss, 2011).  In addition to this, the nation’s 2000-2002 budget deficits were amended upward by over two percent as previously reported. This is very questionable regarding the trustworthiness of the statistics of Greece on public finances.

Some Southern European nations, including Greece, operated on high debt to the gross domestic product ratio even before being admitted to the European Union. For instance, in 2001, the Greek government debt was 104% of the gross domestic product (Nicolas and Firzli, 2010). This mirrored great deficit, which provided comparatively low living standards, militant and powerful trade unions. The debt to the gross domestic product ratio remained very high in Southern Europe instead of converging on the reduced debt ratio that examined in Northern Europe.

According to the studies, Greece has accumulated so much debt because of various reasons all linked with corruption and profligacy in the country. For instance, financial indiscipline and the fraudulent government are one of the major reasons towards the accumulation of high debts that have pioneered the European sovereign debt crisis (Vyas, par. 9). The country accumulated debts above the levels that it could manage to pay. Besides, the Greek Government set up various welfare schemes, which could not entirely be covered by taxation revenues and as a result, the government secretly borrowed from different foreign and private investors in order to fund the schemes (Vyas, par. 9). The government continued with its fraudulent measures, cooking up financial accounts in order to continue borrowing and at the same time, devalue the currency in order to keep the debt value low (Vyas, par. 9). Through these actions, the debt to the gross domestic product ratio continued increasing and it greatly contributed to the European sovereign debt. Besides, this action resulted in high rates of interests, inefficient administration and misguided policies. Moreover, the government did not invest in education or infrastructure.

In addition to this, there was tax evasion. The judicial system did not have any responsibility for tax evasion (Vyas, par. 5). Certainly, tax evasion contributed greatly to both the economy and the government revenue. In Greece; it is evidenced to have contributed to 14.6 percent and 36.6 percent respectively (Vyas, par. 5).

The graph below shows the percentage of the Greece debt between 1999 and 2010 as matched up to the average of the European Union (see Greece Debt Percentage Graph).

Greece Debt Percentage Graph

According to the International Monetary Fund (IMF) projections, the total debt in the European Union between 2006 and 2012 would amplify from €5,870 billion to €8,714 billion, a boost of €2,844 billion (International Monetary Fund). On the other hand, the gross domestic product would grow from €8,568 billion to the projected €9,687 billion in the same period, a rise of €1,119 billion (International Monetary Fund). This according to the estimated figures implies that the total debt level in the European Union would grow 2.5 times more rapidly than the gross domestic product. It is evident from the table below that the debt has been increasing at a much faster rate as compared to the gross domestic product for all southern member countries.

The estimated Debt to Gross Domestic Product Growth Rates 2006-2012 for southern European countries (see Table 1) (International Monetary Fund).

Table 1

Debt Ratio

 

Debt CAGR 2006-2012

GDP CAGR 2006-2012

Debt/GDP CAGR 2006-2012

Debt to GDP

France

6.9%

1.9%

3.71

89.4%

Greece

9.0%

0.4%

23.36

189.1%          

Italy

3.1%

1.3%

2.51

121.4%

Portugal

9.3%

0.9%

10.48

111.8%

Spain

10.5%

1.8%

5.80

70.2%

The Role Played By Inequalities and Imbalances in the Euro Zone

The current European sovereign debt crisis, which is considered as a Euro zone crisis, has encouraged rising awareness of inequalities in competitive positions and the economic condition of the European Union nations (Sifakis, 2007). Such inequalities are mirrored in the growth of imbalances to the disadvantage of Southern European countries, with a tendency of the European Union splitting into the South and the Sorth. These inequalities generally underscore rivalry and oppositions among member states and European institutions, and in particular the Commission and European Council (CEC) and besides, give rise to queries regarding the feasibility of the European Monetary Union (EMU) (Sifakis, 2007). According to Sifakis (2007), a tremendously ambitious past experience of the European Economic and Monetary Union offered a large number of nations encompassed in the procedure in addition to development gaps and structural imbalances between these nations.

The establishment of the imbalance model recognizes the European Monetary Unification (EMU) plan as a self-sufficient procedure with a federal foundation. It perceives the procedure of European Integration to encompass various successive stages: a single market, a common market, a single currency and the European financial area among others. It is apparent that the accomplishment of these stages signifies considerable modification of the European Economies.

According to Sifakis (2007), operation costs of the European Union are caused by the union of a region that is characterized by considerable cyclical and structural gaps and differentiation in development examination. European area structural differentiation worsening as a result of successive extension of the European Union involves inequalities in inflation rates, product systems, price competitiveness and disparities in real and financial structures. Structural and cyclical inequalities, which characterize the Monetary Union of the Eurozone, result in differentiation in the impacts of a single monetary policy on the European Union countries.  Besides, these countries may suffer from impacts of such incoherence.

The costs linked with the running of the European Union result in the build-up of inequity at the expense of less developed European countries. Such costs are associated with the increasing indebtedness of private and public agents, the enlargement of trade deficit balance and the balance of current accounts. According to Sifakis (2007), this in turn results in surpluses in the “middle” countries. The studies have revealed that there is significant weakening in Southern European nation’s current account balances (see Table 2) (Sifakis, 2007).

Table 2

Current Account Balances for 1993 and 2008

Country

1993 (account balance in million)

2008 (account balance in million)

Portugal

224

20.163

Spain

4.861

104.413 

Italy

8.152

53.593

Negative impacts generated by increasing inequalities and linked with the operation of the European Union make it important to move towards a much more incorporated European policy mix (Sifakis, 2007). Nevertheless, the amplified incorporation of the European policy union is faced by numerous economic impediments in addition to political and social hindrances, which make its accomplishment very difficult.  

How Might the Euro Regime Exacerbate These and/or Bias Policy towards Austerity and Recession?

Most individuals across Europe, particularly policymakers, have blamed governments of various countries, including Ireland, Greece, Spain and Portugal, putting forth that the reasons behind the European sovereign debt crisis are a result of overspending (Lapavitsas et al, 2011). A number of countries reacted quickly with the policy intended to pledge budgetary discipline and that is the major reason for the recent problems. The only solution to ensure no more Euro Zone crisis is to apply strict measures, which should be compulsory for that government that is not willing or not capable to cope with hurting measures. The first option is to take up strictness by cutting earnings, minimizing raising taxes and public expenditures, looking forward to minimize public borrowing necessities. Strict measures are most likely to be followed by association loans or agreements by interior countries to overthrow profitable borrowing rates. A structural reform is also opted to be adopted as well as more labour market elasticity, very tough income conditions, privacy are to remain as public enterprises, privacy to education among others (Lapavitsas et al, 2011). The main objective is most likely to raise labour output; as a result, competitiveness will have been improved. Minor countries might possibly find themselves stuck in an imbalanced spirited effort against Germany, where workers go on to be harshly squeezed.

 

The Role Played By Global Financialisation

Financialisation is an aspect that delineates an economic system or a procedure that attempts to lessen the entire value, which is exchanged into a financial instrument. The purpose of financialisation is to be capable of reducing any service or a work product into an exchangeable financial instrument, such as a currency, thus making it easier for individuals to trade such financial instruments.

The public debt crisis in the European Union signifies the second stage of an upheaval that began in 2007, and may be referred to as a crisis of financialisation (Lapavitsas et al., 2011).  According to the studies, some economies have turned out to be financialised for the past three decades and this has led to the increased weight of finances in comparison with production (Treeck, 2009). The majority of big multinationals have become highly involved in financial markets, whereas relying less on banks. Besides, households have turned out to be highly engaged in financial systems. According to Lapavitsas et al (2011), banks have been modified and they seek profits via own trading, commissions and fees, whilst at the same time, rebalancing their operations towards households instead of conglomerates.

According to Lapavitsas et al (2011), financialisation has spread to various directions across mature nations, encompassing the European Union countries. Nevertheless, Germany prevented the outburst of the household debt that occurred in peripheral and mature Euro Zone nations. Certainly, the impact on the European Union countries was critical. Financialisation in peripheral countries persisted in the structure of the Monetary Union. These nations obtained severe current account deficits. Some Eurozone countries acquired growth through the increase in consumption financed by the household debt or from investment bubbles characterized by the speculation of the real estate (Treeck, 2009). In general, there has been an increase in indebtedness, both for corporations or households. In European countries, especially in Germany, various policies have been implemented, including those concerning workers’ salaries as a measure of easing the crisis. The incorporation of peripheral nations in the European Union became uncertain and resulted in the European sovereign debt crisis.  

What Are the Role and Policy Preferences of Germany in the Crisis?

Through its influence, political clout, and sheer size Germany can circulate money to end the crisis (Beckworth, 2011). Germany delighted in its influence in the Eurozone, when the period was favouring, surpluses were vast, and it was giving out money to the periphery. Now it wants to pretend it have not intended to have its dominant position. At least, it seems enthusiastic to utilize the crisis and its influence to compel much regulation on others as much as possible in a manner that's evidently risky for the worldwide fiscal organization (Beckworth, 2011). Germany can bring the crisis to a stop; nevertheless, it does not recognise its political and economic role in the European Union. The excessive influence of Germany on the European Union has greatly been felt, and according to analysts, the country’s influence tends to favour it instead of the entire Euro Zone. For instance, the monetary policy is evidenced to be efficient in stabilizing German tendency of nominal spending rather than serving the entire European Union (Beckworth, 2011). Apparently, the Eurzone policy is highly shaped by preferences of Germany. This dominant role of Germany implies that the present sovereign debt crisis and bank capitalization predicaments are hard to be solved. This is clearly shown in the graph below (Beckworth, 2011).

Debt Crisis Graph

Are Financial Markets Responsible for Worsening the Crisis By Panic and Speculation as Accused By Some Politicians?

As it has been discussed above, the Euro Zone crisis is not just simply a debt crisis. According to the Professor of Economics at University College, Wendy Carlin, the crisis puts the inflection and not the debit as such on the functions of banks in the pre-crisis European and worldwide financial systems and on governments’ feedbacks concerning the weakness of their banking. She continues to say that the lack of willingness of those making policies to realize the role of the banking sector involved in the crisis and the advantages of the pan-European resolution makes matters worse in both the politics and the economics (USD vs. EUR, 2011). The on-going sovereign debt is a symptom of the weakness of the European banking organization. In addition, this weakness is caused by a change in functions of those institutions involved in finances, a process known as financialisation. This debt crisis also happened because of uncertain integration of minor countries in the Eurozone. Tentative credit lending by European money-lending institutions and trading of consequential derivative securities by global banks formed an immense bubble, which in turn led to recession and crisis. Banks were rescued by the state condition of liquidity and assets, while the state outflow barred a deterioration of the decline. This was what led to the crisis in sovereign debt, exacerbated by the structural disadvantage of fiscal amalgamation.

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