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					The Euro and the crisis in Europe

Presentation at Korea University in
Seoul, 14th of September 2011

Prof. Dr. Peter Mayer                 1
    The European Union – a grand
 political, economic and social project

The objectives of European integration are important
  to keep in mind:
• Political goals
• Social goals
• Economic goals

The two important dimensions of integration widening
  and deepening always challenged European
  societies
                                                       2
 Monetary cooperation – a challenges
            for decades

• European cooperation in monetary policy since the
  beginning of the 70s

• The dominating view in the 80s was the “crowning
  theory”: Monetary union only after full integration

• Beginning of the nineties: A full monetary integration
  by forming a monetary union was agreed upon.

                                                        3
               Crisis of the Euro
• Euro was ten years old in 2009 – and was widely seen
  as a success

• The aftermath of the financial crisis in 2008 led to a
  new challenge: is this the final and last crisis or just a
  phase of catharsis.




                                                               4
    Various and different challenges have
            caused the Euro-crisis
• It is of utmost importance to clearly identify the
  nature of the problem. Solutions must address the
  nature of the problem




                                                       5
   Economic and political problems in
               Greece
• Greece joined the Eurozone late, but did not fulfill
  the Maastricht-criteria at that time. The decision to
  have Greece as a member was based on political
  reasoning
• Greece showed reasonable growth rates in the last
  ten years. However, wages increased, public debt
  rose, and so did the negative trade balance. Greece
  lost international competitiveness. The rising Euro
  contributed to it.


                                                          6
   Economic and political problems in
               Greece
• Greece is characterized by weak political leadership and
  weak administrative capabilities. Greece even supplied
  the EU with falsified statistical figures.
• The financial crisis with the accompanying fiscal deficits
  led to an increase of public debt beyond manageable
  levels. Interest rate hikes add to this problem. Interest
  rate for new loans now at 14%.
• Between 2008 and 2011, the debt-to-GDP-ratio went up
  from 105% to around 160%.
• Summary: the key problem is lack of competitiveness and
  public mismanagement
                                                           7
             Challenges in Ireland
• Ireland was known in the 90s as the „Celtic tiger“: high
  growth rates, high per-capita income, high exports, high
  attractiveness for international investment, low taxes,
  small government
• Ireland‘s financial system collapsed during the financial
  crisis: weak banking supervision did not stop speculation
  and high-risk-strategies of banks
• The government bailed out the banks, which led to an
  explosion of public debt.
• Key problem: lack of banking supervision and bailing-out
                                                        8
Ireland‘s Debt-to-GDP-ratio




                              9
                Crisis in Spain
• Spain‘s growth was reasonable during the last 15 years.
  Public debt was low.
• Unemployment continues to be a problem in Spain.
• The most serious problem in Spain was the real estate
  bubble. The overheating was not stopped.
• Nervous markets can lead to a sharp increase of public
  debt, especially given the term structure of public
  debt. Spain needs more than 100 billion Euro fresh
  bonds next year, and would be seriously affected by
  interest rates hikes
                                                      10
    Weakness of the financial system
             architecture
• Banking supervision not ready to deal with challenges of
  globalization of finance
• Cushion against risks of banks(equity capital) too small to
  deal with substantial write-offs
• Banks do not need equity when investing in public bonds
• High-risk strategies of banks, expectation of high returns,
  lack of knowledge, moral hazard because “too big to fail”
• Rating agencies strength and weaknesses
• Power of large funds based in the US                    11
      European Central Bank has
     difficulties to deal with crisis
• The European Central Bank is in a difficult position:
   – Differentiation between real crisis or crisis of confidence
     due to herd behavior and panic difficult

   – indefinite buying of government bonds problematic

   – Buying bonds of low quality is even more controversial

   – Public controversy inside ECB



                                                                   12
        What are the results of it
• Serious doubts whether Europe or the Eurozone
  respectively is able to tackle the problems.
• There is speculation whether a debt rescheduling for
  Greek government debt will come.
• Bailout funds by the EU and support from the IMF did
  not cool down markets
• Interest rates for government bonds from Greece,
  Ireland, Spain, Portugal, Italy etc reached high levels,
  making debt burdens even more burdensome
• There is almost panic in the financial market and
  doubts about a good future for the Euro.
                                                         13
• .
    Solutions must be based on the
     problem analysis - Summary
– Eurozone is not an optimum currency area
– High public debt not properly addressed over years.
– Public debt increased due to financial crisis
– High risk strategies of banks and low capitalization
– Volatility of financial flows and speculation
– Unreliability and dependence on ratings
– Coordination of policies within Europe and Eurozone
  not developed
– National sovereignty still in the way of solutions
– Lack of understanding of the logic of the other realm14
     Solutions – the overall thrust
• Optimum currency area – If a country stays in the
  Eurozone, it must accept the rules of the game.
  • A loss of competitiveness cannot be compensated by
    devaluation. This has serious implications for wage
    policies, tax policies etc. And it will mean - in future - more
    cooperation, more transparency, more control, more
    coordination.
  • If such discipline is not possible, it is better a country does
    not join the monetary union (or leaves it). This discipline is
    the sine qua non of a monetary union.


                                                                  15
                 Solutions I
– A support mechanism for help by stronger EU-
  countries: The European Financial Stability Facility is
  meant to discourage speculation
– Reduction of debt of highly indebted Greece necessary
– The introduction of Eurobonds could reduce the burden
  for the ailing economies and reduce speculation
– Innovative forms of stabilizing markets
– Some transfer of resources to weak countries inevitable
– Reduction of public debt in the medium term is
  absolutely necessary, and it is possible! Political will
  necessary.
                                                       16
Good and bad examples of responsible
           public policy
The development in the US          The development in Denmark
120

100

 80

 60
                     US-debt-to-
 40                  GDP
 20

  0




                                                            17
                Solutions II
– Financial sectors needs clearer and better rules. This
  is the responsibility of government(s)
– Higher capitalization of banks
– How to deal with discrepancy between individual
  and collective rationality – collective action clauses
– Reduce role and power of speculative money
– Reduce dependence on rating assessments
– The international financial architecture must be
  reformed

                                                     18
               Solutions III
– Coordination of policies within Europe and Eurozone
  must be improved
– Avoidance of future crises requires that national
  sovereignty has to be given up and power shifted to
  the European level – strict mechanisms to stop risky
  or irresponsible policies to be implemented
– Better understanding of the logic of the other realm
  necessary (speed of decision, communication ..)



                                                  19
       Asian crisis and Euro crisis
               compared
Similarities
• mix of real problems and financial exposure
• shock because storm developed all of a sudden
• Lack of supervision over accumulated problems in
  private sector
• Difficulty to solve coordination problem because of
  numerous players involved



                                                        20
       Asian crisis and Euro crisis
               compared
Differences
- Korea had to coordinate response nationally, Europe
  needs coordination in the Eurozone
- Political leadership in Korea better than in Greece or
  in the Eurozone
- Basic competitiveness not a problem in Korea, but a
  real problem in Greece
- Initial problem in Korea started in the private sector.
  Initial problem in Greece started with the public
  sector, and in Ireland with the financial sector
- Amounts of money involved completely different. 21
 Appendix I- interest rates on
government bonds in Sept 2011




                                 22
Appendix II: Increase of public debt
       from 2007 to 2010




                                   23
  Appendix III: Purchase of
government bonds by the ECB




                              24
Appendix IV: Public debt in % of
        GDP in 2011




                                   25
26
Appendix IV: Exposure to sovereign debt –
 as a share of tier 1 capital, March 2010




                                        27
    Rating of European countries
• AAA-rating: France, Germany, Austria,
  Netherlands, Finland, Luxembourg
• AA+: Spain
• AA-: Italy
• BBB+: Ireland
• BBB-: Portugal
• Greece: CCC

                                          28

				
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posted:9/25/2012
language:English
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