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Center for American Awesomeness

Protecting the Eurozone


Ramya Gurunathan April 9th, 2013
In the first two weeks of March 2013, every bank in Cyprus was completely closed down. The entire economic fate of the nation was on the line. Cyprus was at risk of losing the euro and having to rebuild its economic system from nothing. Although a bailout plan has been agreed on, businesses continue to fail, and jobs continue to be lost. With a population of just over one million, the economic decline of this small nation has shaken the entire Eurozone and by extension, the entire global economy. With recent bailouts in the Eurozone, it has become the duty of wealthy nations to rescue those in crisis. But is it really the responsibility of growing, economically-stable countries to support those that are in recession? The Eurozone features some of the biggest threats to the global economy including Greece and Cyprus who are finding themselves in their fifth or sixth year of recession. For the past couple of years, the European Union (EU) has entertained the idea of removing Greece or Cyprus from the Eurozone because of the virulent effects they are having on the European economy. If the EU steps in to provide aid to these nations, it will cost them. But, if they reject the requests for aid, it could end up costing them even more. We exist in a global economy, so no nations economic woes are entirely isolated. It is everyones responsibility to prevent total economic catastrophe in any region of the world. Therefore, as a Greek exit from the Euro becomes increasingly probable, it is important for the rest of the world to assure that economic stability is maintained. Nations with failing economies such as Greece and Cyprus should continue to be on the euro because citizens across Europe continue to support the euro, dissolving the euro in parts of the continent would cause widespread economic collapse, and keeping the euro as a unifying, peace-making force in Europe is important during volatile economic times. However, the EU should have the power to review and approve budget plans of its member states to avoid having to bailout nations that are characterized by imprudent economic practices and corrupt financial institutions.

Background
Only months ago, the European Union (EU) received the Nobel Peace Prize primarily for pioneering the integration of Europes currency via the euro and the European Central Bank (ECB)1. After enduring deleterious wars and deep ideological divisions, the continent has achieved a great peacemaking success with the development of the European Union.

Now, however, countries like Greece and Cyprus have fallen into deep economic recessions with no sign of improvement in the near future. The economic volatility of these nations poses a challenge to the EU, but the longer the ECB waivers in its decisions, the more catastrophic the situation becomes. For the first time in 2010, the no-bail out clause delineated in the EU treaties had been overhauled to avoid the economic collapse of Greek banks2. Now, this clause was once again violated to protect Cyprus from bankruptcy. Cyprus economy is characterized mainly by its bloated, over-extended banking sector. Many wealthy Russians choose to keep deposits in Cypriot banks because of the deregulation policies instituted by the country. However, in recent years, risky investments and growing debts have caused leading banks to fail and as a result Cyprus has entered a crippling recession. The EU forced the nation to downsize its swollen banking sector by imposing forced losses on deposits of over $100,000. Additionally, Cypruss largest bank, Laiki Bank, will be forced to close down. However, even with these mandates, Cyprus will require a giant bailout from the EU in order to reach economic stability. The first bailout payment of 10 billion euros will be issued in early May3. These bailouts have drawn the ire of several European institutions. Members of German Chancellor Angela Merkels council have encouraged the removal of nations with failing economies like Greece and Cyprus from the Euro. In fact, the possibility that Greece will be removed from the Euro-zone is so foreboding that it has been given the catchphrase The Grexit. Others, like the new Eurosceptic Party in Germany, have called to dissolve the euro altogether. However, at this point in time, only about 25% of the German population is unsupportive of the euro4. The general conclusion is that dissolving the euro brings an uncertainty that is less favorable than the present-day economic crisis.

Public Opinion of the Euro


History tells us that public opinion is an important factor in economic matters. Policy-makers must avoid having a panicked or fearful public as this often results in bank runs or a decrease in spending. Residents of the EU have maintained a generally lukewarm attitude towards the European Central Bank (ECB). Although the majority of citizens in prosperous countries such as Germany, France, and Italy deride the EU for the many bailouts, in general citizens seem to want to stay with the common currency and linked banking system. In fact, a growing number of German citizens continue to be optimistic about their economic futures despite the Eurozone crisis. In 2010, 29% of Germans felt that their living standards were improving which is up from 22% the previous year5. Additionally, across the entire EU, member states continue to support the euro even in the spring of 2012 when the continent was well into its fifth year of financial crisis. Even the three most robust member states, which have been forced to support countries in crisis, show a strong majority in favor of the euro. Figure 1 depicts the net support for the euro in the three leading economies (Germany, France, and Italy) over a 22 year span6. The poll offered three different responses for the euro, against the euro, and I dont know. Net support is defined as the percentage of for responses minus the percentage of against responses. The three most economically stable member states show a general 2040% net support for the euro. Additionally, the countries in crisis (Figure 2) which are taken to be the other nine Eurozone nations with an emphasis on Greece show overwhelming support for the euro ranging from about 33-54% net support7.

FIGURE 1: Net support of the euro for the three leading Eurozone economies: Germany, France, and Italy

FIGURE 2: Net support for the euro from the EA-8 (Austria, Belgium, Finland, Ireland, Luxembourg, the Netherlands, Portugal and Spain) as well as Greece

It is difficult to gauge as to whether Eurozone residents truly approve of the shared banking system or whether the prospect of dissolving the euro is just to frightening to conceive. As for nations outside of the Eurozone, support for the ECB has fallen dramatically. In the UK especially, support for the euro has fallen a full 65% since the fall of 2011. Greece with 53% and Slovakia with 54% were the only two member states where a majority of those polled felt that the euro was beneficial to the economy8. The rest of the Eurozone finds itself stuck between a rock and a hard place, the future of the euro may seem dismal but without the euro their situation would become apocalyptic.

Economic Consequences of a Greek/ Cypriot Exit


Impact on Exiting Countries In the advent of the infamous Grexit, Greece would be plunged further into economic recession. Economists predict a severe decline in the value of the new Greek currency that would have to be instated, which would be accompanied by rising unemployment. In response to this, the country would have to weather the deleterious effects of bank runs and a dramatic reduction in consumption. Without the support of the ECB and the availability of bailout payments, Greeces sovereign debt would quickly overwhelm the country. Economists predict that the losses incurred by Greece would net to 14,300 per capita9. Widespread Impact In comparison to the larger markets of Germany and Italy, Greece plays a minor role in the ECB. Regardless, speculation from to economic analysts suggests that a Grexit could cause a catastrophic domino effect that would eventually impact the entire global economy. The downward spiral that would ensue is seen as comparable to the Lehman Brothers bank failure of 2008 which caused world markets to fall and caused the value of the dollar to flounder10. Figure 3 depicts the MSCI World Stock Market Index during the Lehman Collapse which many economists use as an analogy to a Greek or Cypriot exit from the Eurozone11.

Figure 3: Global Stock Market Crash as a result of Lehman bankruptcy on September 15, 2008

A Grexit would likely cause investors in Spain, Portugal, and Italy to lose confidence in their financial institutions which may result in bank runs and bankruptcies in these member states. Interest rates would then escalate and this lasting result would impede not only other countries in Europe but also the U.S., China, India, Brazil and other major, developing economies who are major exporters to the Eurozone12. The next logical step would be for countries like Spain, Italy, and Portugal to secede from Eurozone which would only magnify losses. In the wake of such

secessions, economic analysts from Citigroup suggest that the value of the euro could reduce to just $1.0113. History indicates that when a society is plunged into economic ruin, societal and political divisions quickly ensue. As harrowing as the statistics may be, the most disturbing impacts of a Grexit may not even be quantifiable.

Socio-Political Consequences of a Greek/ Cypriot Exit


Now in its fifth year of recession, Greeces public debts have risen to 160% of its GDP and unemployment has risen to 27%14. Without work and without hope for the near future, many Greek citizens are desperately seeking a favorable alternative to their rather dismal reality. As a result, the population has fallen prey to the demagoguery of extremist parties. The radical leftist and anarchist party, the Syriza Coalition, has in the past few years become the second largest party in Greece holding 27% of the vote15. Although most of the Syriza officials have been accused of colluding with violent anarchists and although the party promises to enact radical changes such as income redistribution and a refusal to accept bailout payments, its promise of change continues to attract praise from the general population. Another newer threat to the political climate of Greece is the Golden Dawn, an extreme, nationalist, Neo-Nazi party. The partys approval has risen from 6.9% to 11.5% since it entered Parliament last June16. The spike is associated with the harsh economic times being endured by the country. The party has been made infamous to the global eye by its fierce Anti-Semitism (Figure 5) and refusal to serve anyone who is not ethnically Greek17. In the recent past, it has derided the Greek government for holding a Holocaust Remembrance Day, arguing that the government is wrongfully colluding with American and Israeli Jews rather than serving the needs of the public18. For the Greek youth especially, who have only known volatile, unfavorable times in Greece, the fierce nationalism of the Golden Dawn Party is a warm alternative to the general pessimism and cynicism that characterizes the population. Figure 3 depicts youth unemployment rates from 1990- 2012 in various Eurozone member states19. Since the Lehman Collapse of 2008, youth unemployment has skyrocketed to well over 50% of the population in Greece. Without work or a clear handle on their future, the Greek youth is vulnerable to extremist claims.

Through Figure 4: Under-25 youth unemployment rates across various Eurozone member states as well as the Eurozone as a whole from January 1990 to January 2012

Through national awakening sessions that focus on Greek mythology, Greek history, and Christianity, the Golden Dawn brings citizens back to a time in which Greece was home to the greatest civilization on Earth20. A Grexit would only make the harrowing economic situation worse. Additionally, the citizens of Greece would likely feel betrayed by the European Union which was supposed to be a unifying force in Europe. The illwill harbored by Greek citizens would make them even more inclined to join in these nationalistic albeit racist and violent causes. If the Golden Dawn Figure 5: Depiction of the Golden Dawn flag which has a stark resemblance to the swastika adopted by the Nazi Party or the Syriza Coalition were to rise to power, Greece would quickly be alienated by the rest of the developing world and deep political rifts in Europe would ensue. Cyprus also suffers a wavering socio-political fabric. Recently, Cyprus spent a week uncertain of its fate. If a bailout program was not agreed upon, Cyprus would likely be forced to secede from the Eurozone, and would have to construct a new economy out of nothing. When the banks were closed just weeks ago, Cypriots lamented the closed restaurants, cafes, and markets which lined streets. Defeated citizens, like photographer Patrick Baz, were only left with defeated remarks such as It may not be war, but you can put a country down without firing a single bullet.21 Even the former finance minister, Takis Klerides, had this to say of the EU We found out the hard way that its not a family [] Its becoming a dictatorship.22 Evidently, forcing member-states to leave the euro would harbor distrust of the EU as well as tarnish the morale and the way of life of the entire population. To avoid rehashing political schisms that the EU was put in place to mend, it is essential that all precautions are taken to avoid having to remove countries in crisis from the Eurozone.

Regulating the Member States


The Eurozone strives to achieve a very delicate balance involving a partially combined banking system that continues to preserve to sovereignty of each member states economy. This balance is almost impossible to strike as we have seen in the recent past. Certain nations which can not properly regulate their financial institutions incur large debts and the economic instability that follows develops into a contagion that eventually infects the entire region. It will be impossible in the future for member states to be completely autonomous if they choose to be part of this larger union. For these reasons, the ECB should step in as a supervisor and should be given the right to monitor budget plans of its member states as well as oversee the operations of any bank within the Eurozone. As European Commission President, Jose Manuel Barroso, states The crisis has shown that while banks became transnational, rules and oversight remained national.23 The banks of the Eurozone have far-reaching impacts because of the shared currency; however, the banks are subjected to variable degrees of regulation depending on whose borders they lie within. Achieving peace and stability in the Eurozone will require a more general standard for regulation of banks within the Eurozone. Therefore, giving the ECB the power to

oversee banks within the Eurozone could ward off financial indiscretions that go on to negatively impact the entire continent. The Stability and Growth Pact signed in 1998 strove to achieve this degree of regulation by surveying the fiscal state of each member state annually and preventing any nation from incurring a deficit that exceeds 3% of the GDP24. The pact was spearheaded by Germany who feared inflation after the creation of the euro. However, the agreement quickly lost clout when Germany itself, as well as France, entered a recession and developed a deficit of over 3% of their respective GDPs25. This demonstrates that a Eurozone regulatory commission should be unaffiliated with any particular nation. Instead, it should deal directly with the financial institutions that comprise the Eurozone area. A far superior plan is that outlined by the European Stability Mechanism which has recently become a new agency in the European Union. Under this program, the ECB will issue loans and bailouts directly to financial institutions in the Eurozone. This is a much more directed approach as it essentially allows the ECB to circumvent national borders and supply aid directly to the banks rather than the governments. A central fund of money will allow the ECB to provide about 500 billion in loans26. Unfortunately, the needs of certain nations like Greece and Spain exceed this value. However, taking these measures to secure the fate of countries in recession and their failing banks will help to prevent financial contagion which could infect the entire Eurozone and in turn, the entire world economy.

Conclusion
Stuck between a rock and a hard place, Europe desperately awaits the panacea to its fiscal problems. Nations like Greece, Cyprus, Portugal, and Spain are entering their fifth or sixth year of debilitating recession, and many are beginning to feel that the creation of the Eurozone has done more harm than good. Although the deficits of Greece and Cyprus have been skyrocketing in the past few years, events from our past tell us that a Greek or Cypriot exit from the euro would have unprecedented, virulent effects. Even though the recent bailouts of Cyprus have angered many other member states, it is not the time to make drastic changes to the euro. The public is not ready to handle more stressors to its economic system. Instead, by joining the Eurozone together even more with a single regulatory commission, it is possible to make the Eurozone more of a union and less of a system in which wealthy nations simply bailout struggling nations. It is important to remember the significance of establishing the euro in the first place. It was the very first time in history that a group of nations united in such a drastic way. To hastily repeal this symbol of collaboration and peace in a continent that spent much of the last century torn apart by war would be crushing to the morale and economic stability of Europe. Protecting the Eurozone is about protecting the financial, social, and political fabric of Europe.

Andrew Higgins, European Officials Accept Unions Nobel Peace Prize, The New York Times, December 10, 2012 (http://www.nytimes.com/2012/12/11/world/europe/european-union-officials-accept-nobel-peace-prize.html)
2

Silent No More, The Economist, March 23, 2013 (http://www.economist.com/news/europe/21574036-newpolitical-party-first-call-openly-scrapping-euro-silent-no-more)


3

Liz Alderman, Andrew Higgins, and James Kanter, E.U. Officials Agree to a Deal Rescuing Cyprus, The New York Times, March 24, 2013 (http://www.nytimes.com/2013/03/25/business/global/cyprus-and-europe-officialsagree-on-outlines-of-a-bailout.html?pagewanted=1&_r=0)
4

The Economist, March 23, 2013.

Anna Manchin, Europeans Gain Optimism About Their Financial Situations, Gallup, Inc., http://www.gallup.com/poll/145421/Europeans-Gain-Optimism-Financial-Situations.aspx (March 27, 2013)
6

Felix Roth, Lars Jonung, Felicitas Nowak-Lehman, Crisis and Public Support for the Euro, Vox, November 5, 2012 (http://www.voxeu.org/article/crisis-and-public-support-euro)
7

ibid

Public Discontent: Europeans think Euro is Bad News, RT, http://rt.com/business/euro-zone-poll-researchunhappy-067/ (March 27, 2013)
9

Thomas Fischer and Thieb Petersen, Domino Effect of Grexit Could Cause Global Wildfire, Public Service Europe, http://www.publicserviceeurope.com/article/2646/domino-effect-of-grexit-could-cause-global-wildfire (March 24, 2013)
10

Landon Thomas Jr., Examining the Ripple Effect of the Lehman Bankruptcy, The New York Times (http://www.nytimes.com/2008/09/15/business/worldbusiness/15iht-lehman.4.16176487.html)
11

Mark J. Perry, World Stock Markets Rally to Pre-Lehman Levels, Carpe Diem, http://mjperry.blogspot.com/2010/12/world-stock-market-rally-to-pre-lehman.html (April 6, 2013)
12

Grexit Could Have Lehman Effect, RT, http://rt.com/business/greece-euro-exit-effects-467/ (March 24, 2013)

13

Katie Martin and Laura Clarke, Economists React: What Happens If Greece Leaves the Euro Zone? Wall Street Journal, March 22, 2012 (http://blogs.wsj.com/economics/2012/05/22/economists-react-what-happens-if-greeceleaves-euro-zone/)
14

An Economy Crumbles, The Economist, January 28, 2013 (http://www.economist.com/node/21543522)

15

Profile: Syriza- Greeces Radical Coalition on the Left, BBC Monitoring, May 7, 2012 (http://www.bbc.co.uk/news/world-europe-17980954)
16

K.H., Golden Dawns National Awakening Sessions, The Economist, March 4, 2013 (http://www.economist.com/blogs/charlemagne/2013/03/greek-politics)
17

Helena Smith, Greece Election: Rise of the Far Right, The Guardian, May 1, 2012 (http://www.guardian.co.uk/world/2012/may/01/greece-election-rise-far-right)
18

The Economist, March 4, 2013

19

Becket Adams, Disturbing Development: Greek Neo-Nazi Party Surges to Popularity, The Blaze, September 20, 2012 (http://www.theblaze.com/stories/2012/09/20/disturbing-development-greek-neo-nazi-party-surges-inpopularity/#)
20

The Economist, March 4, 2013

21

Tara Maclsaac, Life in Cyprus Amid Financial Turmoil, The Epoch Times, March 27, 2013 (http://www.theepochtimes.com/n3/4107-life-in-cyprus-amid-financial-turmoil/)
22

Joshua Chaffin, Cyprus Laments End of Way of Life, FT, http://www.ft.com/intl/cms/s/0/f3d20432-931d-11e29593-00144feabdc0.html#axzz2OnnzXdJK (April 3, 2013)
23

Barroso: ECB Should Monitor All Euro Zone Banks, RT, http://rt.com/business/ecb-banking-union-euro-zonebarroso-958/ (April 5, 2013)
24

Stability and Growth Pact, European Commission: Economical and Financial Affairs, http://ec.europa.eu/economy_finance/economic_governance/sgp/index_en.htm (April 3, 2013)
25

What is the Stability and Groeth Pact? The Guardian, November 27, 2003 (http://www.guardian.co.uk/world/2003/nov/27/qanda.business)
26

Andrew Walker, Q&A: European Stability Mechanism, BBC News: Business, October 8, 2012 (http://www.bbc.co.uk/news/business-19870747)

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