Causes of Euro debt crisis
1. Profligacy of the European Government & Unsustainable Fiscal Policy
Countries including Greece, Portugal, Ireland, Spain and Italy in Europe are now paying a heavy price on their profligate way of spending, as reflected by the Euro debt crisis starting from late 2009. Fiscal policy is the use of government expenses and taxation income so as to influence the economy, while the average fiscal deficits had grown from 0.6% in 2007 to 7% at the beginning of the debt crisis across the Europe (Économistes Atterrés, 2010). Therefore, more and more debts were being issued by the above governments so as to support their national expenses, leading to an ...view middle of the document...
3% in 2012 (Graph 3). Yet, the Greece Government was running out of money and had to default their debts eventually, reaching the highest amount of debts in modern history on 2009 with 300 billion euros (BBC Business NEWS, 2012b). Greece debt holders, mainly governments from the euro zone have to write off the debts then, leading to a loss of capital and affecting their ability to repay their own government debts. As a result, domino effect has raised, where it is a chain reaction that the government in Europe were unable to get pay from the debts they hold and thus have to default their issued debts ultimately.
Figure 1 Government Debt to GDP ratio from countries across Europe
Figure 2 Greece Government Budget (1995 – current)
Figure 3Greece Government Debt to GDP (1995-current)
2.1 Monetary policy inflexibility
Monetary policies are rulings by the government authorities so as to achieve a target interest rate and keeping inflation under control by controlling the supply of money (Friedman, 2002). However, there is only one single monetary policy being established within the Euro zone. And thus, none of the individual member is able to implement any independent monetary policy that is suitable for their own countries during debt crisis (Cox, 2012). Throughout the outbreak of Euro debt crisis, loosing monetary policy such as increasing the money supply would be helpful to alleviate the crisis. Printing money from the respective reserve bank could devalue a country’s currency and thus being able to repay debt holders and easing the risk of default. On top of that, increase in money supply could be beneficial in terms of making its exports more attractive to foreigners at a cheaper price. An increase on tax revenue based on an increased GDP can then be expected. Hence, this may help to relieve the fiscal deficit by regaining competitiveness even there is a need to pursue deflationary policies (Pettinger, 2011). Yet, it is prohibited for the countries within the euro union to do so.
2.2 Prohibition of devaluating EURO currency
Euro was officially comes into existence on 1 January 1999(BBC News, 2012). While the European Union consists of 27 sovereign member states, and all of these countries used the same currency, “EURO” except Britain. Thus none of its member could adjust EURO based on its own economic conditions. For most countries, the government would devaluate its currency when they face financial downturn. As the lower exchange rate for its currency...