Greece Crisis: Analysis, Learnings and Takeaways Essay

Greek Crisis BackgroundThrough this write up, we atomic number 18 trying to explain the constituent which light-emitting diode to the sovereign debt crisis in Greece. European Union was established in the year 1992 through the Maastricht treaty. The purpose of formation was to create something powerful on the lines of the USA, The united States of Europe. Also, the idea was to establish and maintain peace in the turbulent regions. In the year 1999, Euro zone was formed and a common currency, Euro, came into being. Countries set aside the currencies they for each one were using previously and instead dealt themselves Euros. Greece undertook the same opeproportionn. It relinquished its drachmas and received an equivalent amount of Euros. Henceforth Greek firms and Greek citizens could buy goods and services anywhere in the Euro zone with their Euros.Greece has always been an over consumption economy. Its a leisure driven economy where the organization always tends to spend more th an its means. This trend went to a new take aim when the Greek judicature got access to cheap and easier financing. Due to the introduction of the common currency, they could borrow as easily as a strongly backed Germany. The government previously used to monetise its shortfall by printing currency. Since the choice of printing currency was no longer available due to the introduction of the fiscal union, the government now resorted to espousal lavishly to meet its deficit. The debt to GDP ratio also increase during the period.During 2004-2009, output in the Greek economy increased in titular terms by 40%, while central government primary expenditures increased by 87% against an increase of only 31% in tax revenues. Public sector wages rose by over 50% between 1999 and 2007. Greece lived under the helm of a welfare state, with excessive spending on wages and early retirement benefits.Greek Crisis Consequences of sub-primeTourism and shipping are the two biggest revenue generators for the Greek economy. Both the sectors were badly hit when the sub-prime crisis wrack global economy. There was a signifi backt drop in the government revenue due to the shrinking of earnings from these sectors. Also, tax evasion, which was always an area of caution for the field, took full shape during this period. This led to high fiscal deficit and even higher levels of debt. In October 2009, Fitch downgraded the sovereign debt of Greece to BBB+. This lead to widening of bond generate spreads and CDS spreads. In April 2010, Greek debt was further downgraded to junk status, which effectively closed the availability of capital market financing to the country.This all was a part of a heroic vicious cycle. Poor ratings and excessive debt led to higher yields. Tax revenues fall due to tax evasion and GDP shrinkage. This led to higher deficit which warranted borrowing more to pay the deficit, which led to even higher cost of debt. Greek Crisis Troika steps in The European Commi ssion, The European central Bank and IMF are called the troika, the three pillars on which the Greek and Euro zone hopes are resting. Amidst concerns that Greece will default on its payments and might exit the Euro zone, the troika steeped in to bail out the country. Phases of bailouts were given, ground on the following measuresAusterity measures to restore fiscal balancePrivatisation of government assets worth 50bn by the end of 2015 Structural reforms to improve growth prospectsAlso, debt restructuring was carried out in Greece as part of the second bailout plan. Under this, private creditors h gray-haireding Greek govt. bonds were to accept lower interest rates and a 53.5% face value loss. This led to a fall in the forecasted Debt t o GDP ratio of 198% in 2012 to around 160% in the same period. The aim is to issue the ratio to 120% by 2020. From 2012-14, troika is to cover all Greek financial needs through restructuring and bailout packages. From 2015-20, financial needs are to be met partly by capital markets and partly by privatization of govt. Assets. In May 2012, a 2 year extension was demanded till 2017 to return to self financed situation. 2 key bills were passed in the Greek Parliament pertaining to this in the last week Labour market reform and Midterm fiscal plan 2013-16.Should Greece leave the Euro range?Is a fiscally-challenged country likely to want to leave the Euro line of business? The brief answer is no quite the contrary a fiscally weak country is better finish off in the Euro Area than outside it. The only argument for leaving the Euro Area is that the introduction of a new national currency (New Drachma, say) would lead to an immediate laconic nominal and real depreciation of the new currency and a gain in competitiveness, which would be most welcome. It also would not last. The key rigidities in delicate open economies like Greece are real rigidities, not persistent Keynesian nominal rigidities, which are necessary for a depre ciation or devaluation of the nominal step in rate to gravel a material and durable impact on real competitiveness. Unless the balance of economic and political power is changed fundamentally, a depreciation of the nominal exchange rate would soon lead to adjustments of domestic costs and prices that would restore the old uncompetitive real equilibrium. All some another(prenominal) arguments either favour staying in for a fiscally weak country or are neutral. As regards the existing stock of sovereign debt, in or out makes no difference.Re-denominating the old euro-denominated debt in New Drachma would be an act of default. A country might as well stay in the Euro Area and default on the euro-denominated debt. As regards new government borrowing, issuing New Drachma denominated debt would be more costly (because an exchange fortune premium would be added to the sovereign risk premium) than new borrowing using euro-denominated debt as part of the Euro Area. There would be massiv e balance sheet disruption for banks, other financial institutions and other collective with large balance sheets, as the existing stock of assets and liabilities would remain euro denominated but there would no longer be a euro lender of last resort. It may be possible for contract and securities internal to Greece, that is entered into or issued under Greek jurisdiction alone, to be redenominated in New Drachma, but cross-border contracts and securities issued in other jurisdictions could not be redenominated that way without this constituting an act of default.There would be no fiscal-financial support from other Euro Area member states should a country leave the Euro Area. Leaving the Euro Area means leaving the EU. There is no such thing as a former Euro Area member that continues as an EU member. A received EA member wishing to leave the EA but continue as an EU member would have to leave both the Euro Area and the EU and then re-apply for EU membership. Under the Lisbon Tr eaty, there now is a procedure for leaving the EU. A country cannot be expelled from the Euro Area, or from the EU.The only real threat of the Euro Area breaking up comes from the possibility that one or more of the fiscally strongest and more competitive members (Germany) could decide to leave the Euro Area (and the EU), because of a fear of decent the bailer-out of first resort for all would-be fiscally-insolvent Euro Area member states. The changing of the generations in Germany from Kohl to Schrder and then to Merkel has weakened the traditional umbilical link of Germany, and e limitedly Germanys political class, to the EU and the Euro Area, but not (yet) to the point that one can reasonably envisage Germany leaving the Euro Area and the EU. Alternatives* Wage increase, higher inflation in GermanyWage increase in Germany would fuel inflation in Germany that will lead to increase in cost of goods sold in the economy. This would accelerate effort expansion to other territories e specially like Greece, Spain. Since Greeces main economy driver has been the tourism industry and that is also seasonal.* Common EurobondsInstead of having separate government bonds, common Euro bonds should be issued. This would never lead to the chain reaction that was led by the Greek government bonds.* Greece or other weaker nations leaving Euro zoneGreece and other weaker nations should leave Euro Zone and back to their respective currencies. This would assistant adjust their fiscal policy with their fiscal policy.* Fiscal Integration i of the major development areas is increased European integration giving a central body increased control over the budgets of member statesKey Learnings* LESSON 1 Financial markets are accustomed to exaggerations, which amplify further the pro-cyclicality inherent in asset valuations In times of recession, when the degree of risk aversion increases and GDP growth contracts, asset prices tend to decomposition and risk spreads rise. Also during this period, the standard pattern of pro-cyclicality may be amplified by market exaggerations investors tend to over-price certain types of risk and thus under-price the respective financial assets. hyperbolise pro-cyclicality of this type has hit the sovereign bond market during the crisis. Furthermore, in particular through the use of sovereign bonds as collateral, it has exerted adverse effects on other segments of financial markets, such as the funding markets for financial institutions. There are many ways to mitigate this pro-cyclicality of government bond markets. One way is to reduce the reliance of the financial, regulatory and supervisory framework on credit ratings* LESSON 2 Fiscal Policy Union along with Monetary Policy Union is all-important(prenominal) in order to keep countries with common currency on the same page Since Euro was a common currency, Euro Currency Board took charge of the common monetary policy for the nations, but the fiscal policies differed in eac h country, leading to a widening gap between each countrys financial statuses. One way to curb this problem is to facilitate fiscal integration of the organizations. This would ensure that no country is not overspending and will have limited budget to workout.* LESSON 3 Welfare of the masses is not in Transfer Payments but in Investment and employment creation in the country Austerity measures would only help in curtailing the massive expenditures done on Social welfare schemes such unemployment allowances. Nations should focus on increasing the investment in the nation and looking for opportunities, where it can generate employment for its masses. This would lead to long-term economic stability in the nation.Takeaways for India* While the Indian economy needs fund flows from different sources, it should exercise special caution while depending on the overseas debt India must not allow its public debt to increase any further, especially from the external sources which may play havo c with the countrys debt situation amidst increasing volatility rupees foreign exchange rate* India must focus on curtailing its fiscal deficit and should be very cautious in opening up its market and allowing foreigners to invest in government securities Per capita public debt is higher than the growth in per capita income, implying that the world borrowings are increasing at a much faster pace than their earnings. Hence population is being burdened with higher amounts of public debt. Per capita income and per capita debt both have increased over the years. While per-capita income increased from Rs. 26,015 in 2005-06 to Rs. 38,005 in 2011-12 the per capita debt increased from Rs. 13,276.87 in 2005-06 to Rs. 27,044.22 in 2011-12* Interest Payments are absorbing about one-third of Central Governments revenue, leading to increase in non-plan expenditure. Interest payments is the fact that not only are interest payment a large ratifier to the non-plan expenditure but a large part of t he total revenue receipts of the Central Government are also being used to finance them and raising funds from overseas as debt at present times poses several risks, the main problem being extra burden on repurchase because of lowering of the rupee value.