European Financial Crisis-2013

8/9/2019 European Financial Crisis-2013

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European Financial CrisisSai Kumar Swamy

Course Director, T.I.M.E.

PGPM IIM Bangalore


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GenesisEU Economic & Political Union of 27 member states

500 Mn citizens

GDP - $18Tn and 20% of total world output

Free movement of people, goods, services & capital

Schengen – Free movement – Abolition of passport controls

Treaty of Maastricht – 1st Nov 1993

Salient Features

Common Currency - Euro

EMU

SGP - Stability & Growth Pact Convergence Criteria – Article 121

Inflation; Deficit & Debt; Interest rates

Fiscal Monitoring of members

Article 122

EC can take measures to help an ailing country


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Sub-Prime Crisis

Sub-Prime loansHousing Bubble Fuelled by Low interest rates Supply Glut Foreclosures

MBSCDSFailure of Banks Credit Crunch Reduced Output – Unemployment

Government Bail-outs Stimulus Packages Fannie Mae and Freddie Mac

Keynesian model adopted – Deficit Spending

Contagion effect – Global linkages


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European Financial Crisis


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Principal Actors - Iceland

Pre 1990sNatural resources

Tourism – Fiords, Glaciers and Geysers

Fishing – Salted Cod

David OddssonMayor of Reykjavik

Prime Minister in 1991

Promised to end the boom and bust cycles based on Fish catch

Privatization - $2Bn

Privatized banking industry

Thrust on

Biotechnology

Software


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Principal Actors - IcelandBanking

Tapped Overseas markets Landbanski – ‘Icesave’ Scheme

High interest rates

Banking accounted for 75% of stock market

Kaupthing Bank

Assets –

208Bn Krn in 2000 6600Bn Krn in 2008 Loans & Assets were 10 times Iceland GDP

High inflows Strong kronor

Consumption led economy

Global Financial Crisis – large scale outflow of funds

Central bank had €2Bn – Loans were €70Bn Defaults by Glitner bank – €600Mn

Govt. bailout for Glitner – Landsbanski – Kaupthing

Misuse of banks by promoters

Too big to fail hypothesis negated by Iceland


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Principal Actors - Ireland

Economic Transformation in the 90’s Low Taxes – Educated workforce – Entry of MNCs

Bridge between US and Europe

GDP Growth rate of 6.5%

Celtic Tiger

Housing BoomCheap Loans – Tax Incentives House prices increased 3 fold in a decade

40% of houses built in 1996-2006

Housing Bubble Over Supply

Speculative nature of demand

‘Sub-prime echoes of the US

Multi unit loans to property developers with ‘sub-prime’ characteristics


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Principal Actors - Greece

Cause

Economic downturn post 2008 Tourism & Shipping badly hit

Govt. revenues decreased significantly

Govt. expenditure increased – worsened debt situation

Huge spending – Deficit Budgets

Cheap lending

Lack of financial reform

Government cooking the accounts

Effect €300 billion Debt

Budget Deficit – 12.7% Violation of Growth & Stability Pact

Accumulated debt – Estd. at 160% in 2011

Credit Rating downgraded

Bond Yield – 34%


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Principal Actors - Greece

Bailouts

45Bn (2010)

130Bn (2011)Troika – EC, ECB, IMFSteps Taken Debt Restructuring

Cut in spending Austerity measures

Increase in Taxes Better Tax collection

Public Sector Pay cuts Inc in retirement age by 2 yrs – Later by 4

Denationalization to raise money

Fears

Civil Unrest Anti austerity parties winning 2012 elections - GREXIT

Sovereign Debt default Orderly Default – Debt write off - 50%

Euro under pressure

Light at the end of the tunnel – Bond yields below 10%


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Principal Actors - Spain

GDP contracted in 2008 Construction Sector – 10% of GDP

Housing Bubble Price increases of more than 200%

Bubble started in 1995 and sustained till 2007

28% of houses vacant Fuelled by tax incentives similar to India

High indebtedness

High Inflation High Oil prices

High Interest Rates pricks the bubble Large scale unemployment ~ 25-30%

Severe pressure on Banking system

Bond Yield – 5%


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Principal Actors - Portugal

GDP – $220Bn Tourism, Cork, Fishing, Wine

High Debt to GDP Ratio – 113%

Mostly external debt

Socialist Govt. with excess spendingVery low GDP growth rates

Debt Servicing Issues Unable to generate new loans

Required a bailout from EU

Bond Yield – 12-15%

Severe unemployment – 12.4% in 2011

Emigration

Austerity measures Social Unrest


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Italy 7th largest economy

GDP - $2 Tn

Manufacturing & Services led economy Big brands – Quality products

Current Issue Huge Debt to GDP ratio – roughly 120% in 2010

Similar to Greece Key difference is that most of it is internal

Recession

Contraction of almost 7% in GDP

Political Weakness

High Govt. Spending – Profligacy Black market economy

Organized crime – 7% of GDP

Protection money

Bond Yield – 5-6%


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Current Status

Greece Austerity measures

Looking for a bail-out

Germany against such a bailout – France in favour

Portugal

Govt. trying to raise money to prop up banking system

Failed Bond Auction to raise €500Mn

Bailout required

Spain & Ireland

Reduce fiscal deficit

Rollback Keynesian debt fuelled monetary policies


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Future ScenarioSovereign Debt Crisis loomsEuro under threat The concept of ‘United States of Europe’ in grave danger

Political Union of Europe unlikely

Issues of Solidarity & ResponsibilityReturn to ‘Non-Keynesian’ policies can further deflatethe economiesDouble Dip recession possible

Common Fiscal Policy for the EU Two Solutions EMF – Fund for Bailouts - EFSF

European Treasury – Single authority for Tax policy

Govt. Spending


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Annexures


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Long Term Interest Rates


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Deficit & Public Debt - 2009


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Deficit & Public Debt - 2012


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Debt of Eurozone Countries


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Public Debt and Debt as % of GDP


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Public Debt as % of GDP - World


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S&P Ratings


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Belief in God


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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Cartoons


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PIIGS


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Foreclosures

S b P i Vi i C l


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Sub-Prime Vicious Cycle


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Geyser Economy


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Greek Debt vs. Eurozone average


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US vs. the Eurozone


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Housing Prices - Ireland

100% Loans


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100% Loans


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Portugal – Sick Man of Europe

Documents

European Financial Crisis-2013