Euro under PIGS threat

Anil Kumar Satapathy “Can a common currency work in Asia? Yes,” read an article in an Indian daily carried in 2006. Four years later, anything suggested remotely would have been scoffed off. The reason: the Eurozone’s mounting economic problems. The crisis in Portugal, Ireland, Greece and Spain, which are also known as PIGS, is now threatening the economic stability of the entire Europe. Lurking dangers Greece is known for its liberal spending and borrowing. Coupled with unrestrained lending, this has taken a toll on Greece’s finances. Things got out of control when the financial crisis deepened last year. According to an estimate, Greece’s national debt has touched USD 413.6 billion, which is bigger than the country`s economy. It is likely to reach 120 percent of the country’s gross domestic product (GDP) in 2010. The country`s fiscal deficit is estimated at 12.7 percent – highest in the EU. Notably, Greece has concealed its dodgy finances, allegedly with the help of Goldman Sachs, which had precipitated the situation. The debt crisis sent the stock markets across Europe into a tizzy. Fearing that Athen’s trouble would jeopardize the fragile recovery of the global economy, cautious investors started pulling out of equity markets. “If Greece became insolvent and the value of its bonds collapsed, European banks that own those bonds would have to take massive write-offs. That would affect lending, still crimped by the worldwide financial crisis and recession,” Reuters reported recently, underlining the interconnection between different countries. The crisis could push Europe, including the UK, into a "double dip" recession, the Independent of UK has warned. Similarly, Portugal, Ireland, and Spain too are giving the Eurozone countries much consternation. Portugal, which has a population of 10 million, has an unemployment rate of 10 percent - highest in a quarter century. Ireland`s has a hefty deficit of USD 30 billion, representing 12.5 percent of its GDP, second only to Greece in the 16-nation Eurozone. The Irish republic also has an unemployment rate of 12.6 percent. The global crisis hit Spain harder than most other Western countries. Spain’s economy is the fourth largest in the Eurozone -- five times the size of Greece`s and almost twice the size of Greece, Ireland and Portugal combined. Worryingly, like Greece, it has high fiscal deficit at 11.4 percent coupled with 19 percent unemployment rate - twice the European Union average. Moreover, Spain is the only major industrialised country not expected to rise out of recession before 2011. Even Italy, the world’s third-biggest sovereign debtor, is a headache for the Euro Zone countries. So is the Euro doomed? Not long ago, when the US was struggling with the recessionary effects and the dollar was free-falling against other currencies, there was a heightened demand for a new global currency. The 1992 Maastricht Treaty, which led to the formation of the European Union, obliges most EU member countries to adopt the Euro upon meeting certain monetary and budgetary requirements. However, not all states have done so. Sweden said no to the common currency in a 2003 referendum while the UK and Denmark negotiated exemptions. The Euro, which was introduced to world financial markets as an accounting currency on 1 January 1999, is now the official currency of European Union and is currently being used by the 16 states. It is the second largest reserve currency and the second most traded currency in the world after the Dollar. The rise of Euro prompted many economic thinkers to predict an early end of dolla’s domination in global economy. However, the global economic scene has changed radically in the past two years. Euro has lost about 10 percent of its value against the dollar since the Greek debt crisis erupted in December 2009. This led people like billionaire investor George Soros to question the currency’s future. "A makeshift assistance should be enough for Greece, but that leaves Spain, Italy, Portugal and Ireland. Together they constitute too large of a portion of the Euroland to he helped in this way…The survival of Greece would still leave the future of the Euro in question," Soros told the Financial Times. Many economists have also derided the formation of the Eurozone as a flawed one. Some pointed out the fact that the Eurozone was created as a ‘monetary entity’ and not a ‘political one’, where each country has the right to tax their citizens in their own way while having a common monetary authority in the form of European Central Bank (ECB). “The construction is patently flawed. A fully fledged currency requires both a central bank and a Treasury. The Treasury need not be used to tax citizens on an everyday basis, but it needs to be available in times of crisis. When the financial system is in danger of collapsing, the central bank can provide liquidity, but only a Treasury can deal with problems of solvency. This is a well-known fact that should have been clear to everyone involved in the creation of the Euro,” Soros says. However, there are detractors of this theory too. Former US Federal Reserve chairman Paul Volcker dismissed speculation that the Euro is doomed. “I’m still a believer in the Euro,” he reportedly told European authorities. Conclusion Though, “all is not well” at the moment for the EU member states, not everything is bad either. An analysis showed how Germany is quietly gaining from the Eurozone crisis. “The crisis, triggered by market concerns about Greece`s ability to fund its fiscal largesse, gives Berlin more leverage to press for public finance discipline across the Eurozone. Greece`s problems have also bolstered demand for German bonds and thereby lowered Berlin`s borrowing costs, while weighing on the euro to the profit of German exporters,” a news agency reported. Euro was created to increase the economic interdependency and to ease trade between the EU members that have adopted the currency. This would have eased the free movement of persons, goods and capital. Some analysts have also hoped that this would contain the inflation in the member countries by equalising prices across the Euro area and increasing competition between companies. Every crisis has its lessons, which highlight the loopholes of existing economic policies. It is apt to remember that there was not a single biggest crisis since 1930s Great Depression till 2008 because the authorities acted on the loopholes. The policies were later weakened by the US authorities that resulted in the 2008 financial crisis. The Euro for the time being is stable, but its future will depend on how member countries learn from the PIGS conundrum. And those lessons will hold a model for South Asia as well.