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European Sovereign-debt Crisis - Research Paper Example

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Attempts by international monetary fund (IMF) to avail 750 billion Euros to financially support countries with high debt situation did not mitigate the situation. The paper will, therefore, explore on the causes and evolution of the debt crisis, its impact on the US market, and some interventions undertaken by the US to mitigate the impact. Causes of the Crisis Many factors can be attributed to the crisis that has seen the credit ratings of countries decline and caused shock in the global financial markets. The European Union has been accused of failing to take timely actions and of lingering until the situation ran out of hand. The crisis resulted from a mixture of several complex factors like the globalization of finance, international imbalances in trade, housing bubbles, ease credit conditions between 2002 and 2008 that resulted into high risk lending, and the slow economic growth in the year 2008 (Frangakis, 2006). The factors are elaborated below. a) Increased debt level EU members signed a Maastricht treaty in 1992 where members promised to limit their deficit spending and debt amounts. However, the member countries like Greece and Italy failed to adhere to the agreements of the treaty and instead used complex currency and credit derivatives to increase their debt levels. From the data, the debt levels rose because of the large bailout given to financial sector in the late 2000s and the 2008 economic recession. In 2007, the percentage of fiscal deficit was 0.6 before it rose to 7% during the crisis (Frangakis, 2006). The government debt simultaneously rose to 84% from 66% of the GDP. The crisis can thus be attributed to the inappropriate fiscal policy choices and the actions by the governments to bail out troubled banks. The variations in how different countries used borrowed funds resulted in different effects. Ireland banks, for example, increased their lending to property developers, which later led to the housing bubble. Greece, on the other hand, increased its pledge to the government workers of salary increment and pension rise. These actions increased the government level of debt, which later made it difficult for the states to meet their obligations as they became due. b) Trade imbalances The crisis grew because of the increasing trade imbalances. An increase in the amounts of trade deficits increases the levels of debt hence increasing the debt crisis. Before the commencement of the debt crisis, the trade deficit of Italy, France, and Greece increased, while that of Germany recorded trade surplus. However, Greece position has improved because of the decline in the imports and increment for exports. c) Loss of confidence Immediately after the crisis developed, it became clear that the bonds of weaker economies like Greece were risky. Because of this loss of confidence, sovereign CDS prices rose to match the market expectation of the increased debt. Investors also doubted the ability of the countries to contain the crisis because EU countries have few monetary policy choices. d) Monetary Policy Inflexibility Monetary policy inflexibility of all member states of EU established a common monetary policy and used one currency. Countries were, therefore, unable to print money in order to devalue their currency to stimulate exports and reduce the debt level through trade surpluses. Greece and other member states, therefore, lacked ...Show more
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European Sovereign Debt Crisis Date Introduction The European sovereign debt crisis is the financial crisis that made it difficult for countries in Europe to repay their debt obligations without seeking help from third parties…
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