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The fear is that the Eurozone crisis will have a contagion effect on other developed countries like the U.S. and Japan which in turn will have an impact on the rest of the world.
worrying policymakers in all parts of the world. The fear is that the Eurozone crisis will have a contagion effect on other developed countries like the U.S. and Japan which in turn will have an impact on the rest of the world. Thus there have been numerous high level summits to deliberate on the issue with the latest being the G-20 meeting of Finance Ministers and Central Bank Governors in Paris.

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Genesis of Crisis
The Eurozone itself comprises member countries of the European Union that agreed in 1993 under the Maastricht Treaty to enter into the European Monetary Union that became the basis for creation of a new currency, the Euro. The launch

.1

of the Euro in 1999 was hailed with the enthusiasm of those advocating a brave new world as it was widely expected that this would be the first step to unseating the dollar from its throne as the world's reserve currency. Unfortunately, the Euro was not able to live up to the expectations of Europe and the world. Every country, barring Germany perhaps had teething problems in settling down with the Euro. One of the major problems was that no country which had accepted the Euro could carry out any devaluation or have any flexibility to deal with the new currency in a way that would benefit itself in a crisis. Any policy changes had to be carried out by the European

Central Bank. Even before entering the prized Eurozone, every country had to achieve certain fiscal and monetary targets. Though these may have been achieved by some countries with difficulty, the problem arose after entering what was considered a premium segment of world economy. It was then realised that such fiscal discipline was difficult to maintain unless it was a highly developed and affluent economy like Germany. This is the genesis of the current Eurozone crisis. But till recently there had been no major crisis facing the Euro which had in the last few years strengthened its claim to becoming the next reserve currency thereby easing out the

been e asked austeri

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Cover Story

The fear is that the Eurozone crisis will have a contagion effect on other developed countries like the U.S. and Japan which in turn will have an impact on the rest of the world.
worrying policymakers in all parts of the world. The fear is that the Eurozone crisis will have a contagion effect on other developed countries like the u.s. and Japan which in turn will have an impact on the rest of the world. Thus there have been numerous high level summits to deliberate on the issue with the latest being the G-20 meeting of Finance Ministers and Central Bank Governors in Paris.

Genesis of Crisis
.

The Eurozone itself comprises member countries of the European Union that agreed in 1993 under the Maastricht Treaty to enter into the European Monetary Union that became the basis for creation of a new currency, the Euro. The launch

of the Euro in 1999 was hailed with the enthusiasm of those advocating a brave new world as it was widely expected that this would be the first step to unseating the dollar from its throne as the world's reserve currency. Unfortunately, the Euro was not able to live up to the expectations of Europe and the world. Every country, barring Germany perhaps had teething problems in settling down with the Euro. One of the major problems was that no country which had accepted the Euro could carry out any devaluation or have any flexibility to deal with the new currency in a way that would benefit itselfin a crisis. Any policy changes had to be carried out by the European

Central Bank. Even before entering the prized Eurozone, every country had to achieve certain fiscal and monetary targets. Though these may have been achieved by some countries with difficulty, the problem arose after entering what was considered a premium segment of world economy. It was then realised that such fiscal discipline was difficult to maintain unless it was a highly developed and affluent economy like Germany. This is the genesis ofthe current Eurozone crisis. But till recently there had been no major crisis facing the Euro which had in tne last few years 'S\reng\hene\1t", i claim to becoming the next reserve currency thereby easing out the

Business & Management

Chronicle

I December

2011

Cover

Story

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Though Greece represents only 2.5 per cent of the Eurozone economy, the fear is that a sovereign default by it will lead to lack of confidence in other countries under stress, like Ireland and Portugal.
Germany, however, have to take a decision to underwrite the banks for the orderly default to take place. Though Greece represents only 2.5 per cent of the Eurozone economy, the fear is that a sovereign default by it will lead to lack of confidence in other countries under stress, like Ireland and Portugal. ~~.j) Besides that, it is expected to create a financial crisis that may be as big as the one that erupted after the failure of Lehman Brothers in 2008. Speaking at the G-20 meeting, the UK Chancellor said that the epicentre of the world's current problems is in the Eurozone. During the meeting, great pressure was exerted by finance ministers on France and Germany to take a speedy decision on finalizing the bailout plan and also

Greece
One of the proposals now being mooted is that Greece should be allowed to have an orderly default. In other words, it should withdraw from the Eurozone and introduce its own currency, the drachma, at a debased rate. Currently because Greece is a member of the Eurozone economy, it cannot stimulate the economy by monetary policies. Unlike th,eu.s. Federal Reserve, which had expanded its balance by 1.3 trillion dollars - essentially printing money-since the recession began and pumped in into the economy. Many analysts are stressing that delay in taking this decision for Greece will hurt , the Eurozone more '
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to recapitalize affected banks. The G-20 also held out the prospect of wider international support if European leaders deliver on their promises. If the European plan meets international approval, the G-20 hinted at the prospect of International Monetary Fund support at the Heads of Government Summit at Cannes on November 4. At the same time, there is pressure on the key players France and Germany - to take decisive action to commit Euro-

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pean resources especially though the European Financial Stability Fund to deal with the crisis. There is little support for a new IMP facility for the Eurozone, but the possibility of intervention to support Eurozone's own efforts has been kept open. Leading economists like Joseph Stiglitz have criticised the role of European financial institutions in the crisis. In an interview to Czech newspapers, he has said the main player in the fight against the debt crisis in the Eurozone, the ECB is grounded in a philosophy that has

failed. He criticised the ideological independence of central banks which have mastered the fina.v.cial crisis much less successfully than banks led by governments. "For instead of being answerable to the citizens, they answered to the markets", he said. The ECB should now focus not solely on inflations but also on policies for employment, growth and financial stability. He does not foresee economic recovery in the coming years as it is being undermined by among other things, the austerity plans drawn up to control European states sovereign debts. What has to be built now is" an institutional framework that will create stability and responsibility". In fact, the Nobel Prize winner has said Europe can learn from India where the central bank is independent and professional but at the same time accountable to the government. As for the way forward, it is clear that the solution lies squarely in the hands of the two main players, France and Germany. France is content to follow

Germany's lead primarily because it deflects attention away from its own deficit and weakening economy. Germany, on its part, is not in favour of any default by Greece as it could have an impact on the euro. It is also urged for stronger austerity measures by the Greek government as a quid pro quo for the bailout package. In any case, it is clear that unless the Eurozone countries are prepared to _riskthe contagion spreading to other countries in Europe and then onto the global economy, they will have to take swift and decisive action to resolve the Greek crisis. A series of high level meetings'have been planned for this month and the next while the world is watching with bated breath for a final resolution of this issue. In case the situation is not resolved quickly, all the signs point to the start of yet another recession hitting the global economy.

..

Ms.Ramachandran

is a corporate Chief of

analyst and the former

Bureau of The Hindu. Sushma.ramachandran@gmaiLcom

December 2011

I Business &Management Chronicle..

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the road they lost control of their finances. To pull them out, other Europeancountries had to bail them out--tothe tune of billions of euros. Greecewas the first countryto accept abailout in May 2010, followed by Ireland and Portugal. But these bailouts were not costless. Before approving loans, the debtor countries had to agree to adopt 'austerity measures' to show they were serious about controlling their spending.This was not acceptableto the people of these countries who cameout to the streets to participate in mass public protests. In Greece, there is continuing street violence witha large number of people demonstrating against more job losses and tax rises. Other countries are concerned because if Greece is unable to keep repaying what it owes to them, these countries could gD bankrupt. This could also have a

knock-out effect on other Euro-zone countries. It could damage their credit rating, meaning their Governments would have to pay more to borrow money - and might have to introduce their own austerity measures.

G20 Fails to Solve Crisis

Not only the European countries but other countries ofthe world, including India, have been using all forums--from G4 to G7 to G20-to disciplineGreece and other countries responsible for creating the crisis, to save the world from the serious outfall of the crisis. The G-20 Finance Ministers' meetings held in Paris on Oct 15 had long discussions on solving the Euro-zone debt crisis but failed to reach to any solution. There has

also been a suggestion that the International Monetary Fund should increase in size as part of a broader global response to the situation. However the idea has been met with some resistance by the US. A proposal to inject $350bn into the IMF had been backed by some emerging market policymakers. However, the United States does not agree and its Treasury Secretary Timothy Geithner believes that both the IMF and EU already have sufficient funds. It also maintains that Europe as a whole has sufficient resources to ~deal with this financial crisis. The European countries do not agree that the US suggestion is practical. The two crises--US and European financial crises-are different, therefore, what solved the US crisis may not help Europe. Since the Euro-crisis is the outcome of

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reckless financial spending, a 'Euro Tarp' will not solve the Eurocrisis, because it will not restore confidence in government debt. In fact, the "excessive rescue funds" may cause a "fire channel," drawing them into a "morass of debt." Tarp scheme. It wants the crisis to be taken care of otherwise a major European default will severely impact on US banks and financial houses that hold credit default swaps on European debt. This has intensified the inherent conflicts among them. French President Nicolas Sarkozy and German Chancellor Angela Merkel announced they had come to an agreement to bailout and "recapitalize" European banks but France is sceptical about financial stabilitybecausea direct intervention by the national government would lower France's credit rating. Germany has demandedthat the firstport of call should be private markets, with national governments stepping in only if that approach fails. The problem now facing Europe is that of conflict of interest between the corporate world, banks and selfish politicians.The crisisis intensifying and as it aggravates oftcauses
. ... dIVlSlOns among t he major powers internationally. Nevertheless, the crisis is destabilising the entire European Union even threatening a breakdown of the European financial system.

The US Worry
In his talks with German Chancellor Angela Merkel, the US President Barak Obama warned of the risks posed to the US economy. Canada and the UK are supporting the US. France is also resisting because its banks would be adversely affected under conditions where they are being downgraded by credit rating agencies. The US is only interested in protecting the interests of American banks, which would suffermajor losses in the eventof any default.The United States is suggesting that Europe should plan a massive bailout package along the lines of the US

Germany and many other European countriesare eager to savethe euro at any cost by offsetting the financial crisisthrough bailout packages. Today the feeling is that it may turn into a global financial crisis and may not be over soon. It is also causing tensions between the US and Europe and the US and China. The Europe and the world economies as a consequence, seem to be in Catch-22 situation. It will cause serious damage to growth in India, Brazil and China if the problem is not solved. And the bailout if agreed and if implel11entedmay not bring about an economic revival. Rather it may cause deepening sufferings to the people, the weak, and the poor
across Europe as a whole.

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