What big emerging markets did the euro crisis hit

hardest?
27/11/2012 | Emerging Markets The crisis dealt a double blow of deleveraging and falling trade to small eastern European economies, but big countries also suffered

The Paris-based OECD said the eurozone debt risis remained the biggest threat to the g!oba! re o"er#$ %o!!o&ed b# the '( )%is a! o% gro&th.mong the !arge emerging markets that the OECD %o!!o&s$ (outh .%ri a &as the most a%%e ted b# the eurozone risis$ /udging b# a! u!ations o% the hanges in 0DP gro&th ontribution due to dire t e%%e ts o% hanges in e1+ort gro&th to the euro area in the %irst ha!% o% 2012 om+ared to %irst ha!% o% 20112n (outh .%ri a$ this OECD indi ator %e!! b# 0-3 +er entage +oints in the %irst ha!% o% 2012 %rom the %irst ha!% o% the +re"ious #ear- 2t &as %o!!o&ed b# 4ussia$ &here the ontribution %e!! b# 0-7 +er entage +oints$ then b# China and 2ndia$ &ith 0-5 +er entage +oints ea h2ndonesia,s trade s+i!!o"er e%%e t &as a! u!ated at 0-6 +er entage +oints &hereas %or 7razi!$ it &as 0-2 +er entage +oints!i%%*$ geo+o!iti a! risk to oi! +ri es$ high unem+!o#ment undermining on%iden e and emerging markets, transition to domesti sour es

The a! u!ations took into a ount on!# the trade s+i!!o"er e%%e ts- Man# ana!#sts ha"e argued that the e%%e ts &ere mu h dee+er$ as the risis a!so made 8estern Euro+ean banks +u!! mone# out o% ertain regions$ es+e ia!!# eastern Euro+e$ 4ussia and the C2(HESITANT E!"#E $

0ro&th has begun to +i k u+ in emerging markets but the g!oba! e onom#,s re o"er# &i!! be )hesitant and une"en* o"er the ne1t 2 #ears$ the OECD said in its out!ook +ub!ished on Tuesda#)The &or!d e onom# is %ar %rom being out o% the &oods$* OECD (e retar# 0enera! .nge! 0urria said in a statement-

Europe Crisis Threatens Emerging Markets, World Bank Says

7# (andrine 4aste!!o on 9une 12$ 2012 T&eet :a ebook ;inked2n 0oog!e P!us

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C- E"erett @oo+ and the Troub!e &ith the (enate Con%irmation Pro ess

The euro regions debt crisis has increased risks for emerging markets from Thailand to Turkey that also face domestic constraints, according to the World Bank, which cut its outlook for 2013 global growth to 3 percent The Washington!based lender predicts the worlds economy will e"pand 2 # percent this year, the same as a $anuary forecast, after gains earlier this year were sapped by renewed market %olatility o%er &reece and 'pain (e"t years prediction is down 0 1 percentage point from $anuary )*n the immediate term, tensions emanating from the euro area are the most serious potential risk for de%eloping countries,+ the World Bank said in its twice!yearly report *n the 1,!country euro region, )bond yields on the debt of se%eral countries ha%e reached le%els that, in the past, ha%e been associated with+ international rescue packages 'pain last week became the fourth nation sharing the euro to seek a bailout since the start of the debt crisis more than two years ago, prompting a decline in *talian bonds and e-uities yesterday on concern the nation may be the ne"t to succumb (o region in the world would be spared if the situation in .urope were to sharply deteriorate, according to the World Bank, which urged emerging markets to build cushions for tougher times

Capital Flows
)The de%eloping countries in the case of a financial crisis will need all the ammunition that they ha%e a%ailable to address that,+ /ans Timmer, the director of the 0e%elopment 1rospects &roup at the bank, told reporters )2ne

of our concerns is that, at the moment, there are much fewer buffers, smaller buffers in de%eloping countries than in 200, + They already feel the pain, according to the report, which says gross capital flows to de%eloping countries shrank 33 percent in 4ay from the month before The -uantity of syndicated bank loans to 5ussia organi6ed and led by .uropean banks fell by #0 percent in the si" months through 4arch 2012, the World Bank said *ndia last week outlined pro7ects including new ports and road to support an economy e"panding at the weakest pace in nearly a decade 8hina un%eiled its first reduction in borrowing costs in more than three years 8apital outflows and increased risk a%ersion ha%e also led to currency depreciation in many emerging markets and a drop in commodity prices, according to the report

Remain Volatile
).%en if the current phase of tensions passes, the e"ternal en%ironment for de%eloping countries is likely to remain %olatile and challenging,+ the World Bank said )9oose monetary policies, and, as yet, unresol%ed fiscal and banking! sector problems in high!income countries are likely to keep international capital flows and business confidence %olatile + The euro area is pro7ected to contract 0 3 percent this year, unchanged from the World Banks $anuary forecast The euro area ne"t year may grow 0 , percent from a pre%ious estimate of 1 1 percent 0e%eloping economies are also facing domestic difficulties :fter leading the world out of recession o%er the past two years, about ;0 percent of them are operating close or abo%e their economic potential, Timmer said

That )suggests that they will not be able to pro%ide as much an impetus to global growth as before,+ the bank said *nflation is abo%e long!term a%erage in nations from :rgentina to Thailand and monetary policy remains )%ery loose+ in countries including 8hina and *ndonesia, according to the report <or a lot of emerging countries, the focus should be on increasing their producti%ity and their financial strength to face potential hardship, Timmer said

Production Potential
)*f you look at where de%eloping countries are now relati%e to their production potential, theres no need for short!term stimulus,+ he said in an inter%iew The World Bank e"pects growth in de%eloping economies to reach # 3 percent in 2012 and # = percent ne"t year, cutting forecasts by 0 1 percentage point for both years That compares with an unchanged 1 3 percent this year in ad%anced counterparts, as well as 1 = percent ne"t year, less than the 2 percent predicted in $anuary The > ' is seen growing 2 1 percent this year, from 2 2 percent in $anuary, and 2 3 percent ne"t year 8hina may grow ? 2 percent this year and ? ; percent ne"t year, compared with $anuary estimates of ? 3 percent and ? 3 percent *ndias e"pected e"pansion of ; ; percent this year is more than the ; # percent e"pected fi%e months ago, though the bank now sees growth of ; = percent ne"t year compared with , , percent in $anuary

The Bank also updated a study on the impact on the rest of the world of a more se%ere .uropean crisis *t estimates that world growth would be 3 # percent lower than currently e"pected ne"t year if two large countries, accounting for 30 percent of the euro regions economy, faced a credit free6e To contact the reporter on this story@ 'andrine 5astello in Washington at srastelloAbloomberg net To contact the editor responsible for this story@ 8hris Wellis6 at cwellis6Abloomberg net

Dominique Moisi

Dominique Moisi is Senior Adviser at IFRI (The French Institute for International Affairs) and a professor at L'Institut d !tudes politiques de "aris (Sciences "o)# $e is the author of The %eopo& Full profile Su'scri'e to ne( articles ') Dominique Moisi *un# +,- +.,+ /mail 0 "rint /n1lish Ara'ic 2hinese %erman "ortu1uese Spanish /mer1in1 Mar3ets /urope "ro'lem +4 4 5 55 2omments 6ie(72reate comment on this para1raph "ARIS 8 From $on1 9on1 to S:o "aulo- and all points 'et(een- one (ord dominates all others amon1 'i1 investors; %reece# <ill the %ree3s remain in the euro =one> <hat (ill happen to the /uropean ?nion and the 1lo'al econom) if the) do not> Illustration ') "aul Lachine 2omments6ie(72reate comment on this para1raph ?ntil recentl)- /urope (as a sort of mirror that confirmed for the ma@or emer1in1 economies the spectacular nature of their o(n success# The) could contrast their hi1h 1ro(th rates (ith /urope s hi1h levels of de't# The) could oppose their Apositive ener1)B (ith the pessimism dominatin1 /uropean minds# The) (ere onl) too (illin1 to advise /urope to (or3 harder and spend less- as le1itimate pride min1led (ith an understanda'le desire to

settle historical scores and attenuate their le1acies of colonial su'mission and humiliation# 2omments6ie(72reate comment on this para1raphCut- toda)- emer1in1 countries are 1ro(in1 ver) concerned (ith (hat the) ri1htl) perceive as the serious ris3s to their o(n economies implied ') eDcessive (ea3ness in /urope- (hich remains the (orld s trade leader# Moreover- /urope s malaise threatens man) of these countries political sta'ilit) as (ell- 1iven the close connection 8 especiall) in 2hina 8 'et(een the le1itimac) of eDistin1 arran1ements and the continuation of rapid economic 1ro(th# 2omments6ie(72reate comment on this para1raphIf the crisis in /urope (ere to cause annual %D" 1ro(th to fall 'elo( EF in 2hina- GF in India- and HF in Cra=ilthese countries most vulnera'le citi=ens (ould 'e hardest hit# The) (ere never part of the Aculture of hope-B 'ased lar1el) on material success- that pla)ed a 3e) role in these countries success# If social inequalities (ere to reach ne( hei1hts- their frustration and resentment could manifest itself full)# 2omments6ie(72reate comment on this para1raphIn that case- /urope could suddenl) 'ecome a ver) different mirror for emer1in1 countries- revealin1- if not accentuatin1- their o(n structural (ea3nesses# And that is (h)- @ust as /urope must save the %ree3 econom) or Spain s 'an3s at all costs- emer1in1 countries must do (hatever the) can to contri'ute to the rescue of the /uropean econom)# As /urope has learned- the lon1er one (aits- the hi1her the cost 8 and the lo(er the chance of success# 2omments 6ie(72reate comment on this para1raph?nfortunatel)- a 1roup of countries that are united a'ove all ') a common denial of their 1lo'al responsi'ilities is unli3el) to reach such a conclusion# Indeed- most emer1in1 countries (ould 'al3 at the idea of comin1 to /urope s financial rescue for several reasons# 2omments6ie(72reate comment on this para1raphFirst- there is no such thin1 as a 'loc of emer1in1 countries# The) are not united ') a common vision of their future- or ') a common political ideal- such as democrac) in the <estern (orld# <hatever the limits or contradictions of shared values- it (ould 'e naive to dismiss their

importance# /urope and the ?nited States (ill remain allies even if Carac3 I'amali3e Jicolas Sar3o=) in France- turns out to 'e a oneKterm president# 2omments6ie(72reate comment on this para1raphSecond- emer1in1 countries are more /urope s rivals than its partners# The) are united onl) ') their shared suspicion of 2hina# In such a conteDt- a common lon1Kterm strate1) is eDtremel) difficult to conceive# 2omments 6ie(72reate comment on this para1raphThe 2hinese ma) proclaim that the) tend to thin3 over a Alon1erB term than Americans- (ho thin3 more A'roadl)-B and /uropeans- (ho thin3 more Adeepl)-B as a (ellK3no(n 2hinese international relations eDpert has put it# Cut- (hen it comes to the /uropean financial crisis2hina s 'ehavior seems to 'e determined ') purel) shortKterm tactical considerationseven as 2hinese investments in /urope tripled in +.,,# To 'u) half of the "iraeus har'or at a 3noc3do(n price ma) seem more advanta1eous than investin1 in the lon1K term consolidation of the %ree3 econom) and its finances- 'ut is that reall) the case> 2omments6ie(72reate comment on this para1raphThird- emer1in1 countries shortK term opportunism is 'ased on a dou'le distrust; to(ards /urope- of course- 'ut alsoparadoDicall)- to(ards themselves# That is- the) lac3 confidence in their a'ilit) to do their part to save the sic3 man of the 1lo'al econom) that /urope has 'ecome# 2omments6ie(72reate comment on this para1raphTo 'e sure- this runs counter to the triumphalism emanatin1 from Asia- in particular# 9ishore Mah'u'ani- a leadin1 forei1nKpolic) thin3er from Sin1apore- recentl) proclaimed in 6ienna- at a conference or1ani=ed ') m) institute- that the neDt millennium (ould 'e Asian# And )et one senses amon1 elites from emer1in1 countries somethin1 a3in to eDistential dou't(hich the /uropean crisis has served to reinforce# This insecurit) manifests itself in man) (a)s; from the accumulation of liquid (ealth as insurance a1ainst forei1n and domestic uncertainties to the choice of man)- if not most- to educate their children a'road# 2omments6ie(72reate comment on this para1raphIn fact- the sic3 man 8 undenia'l) /uropean- if not <estern 8 could reveal himself to 'e more resilient- o(in1 to the

stren1th of his o(n natural defenses; democrac) and the rule of la(# That is (h) the current /uropean crisis ma) (ell prove to 'e a crucial test for emer1in1 countries that are more d)namic than /urope economicall)- 'ut ultimatel) more fra1ile politicall)# Read more at http;77(((#pro@ectKs)ndicate#or17commentar)7emer1in1Kmar3etsKK

europeKpro'lemLTIMC?l4DN?CM=*aE#OO

The Euro Crisis: A summary

NOTE* If you are using Google Chrome you can install Google Dictionary in the 'herramientas-extensiones' to look up words very simply. By now, its highly unlikely that you have not heard something of the European debt crisis. For most people it may be difficult to comprehend exactly what is going on, when it started, who could be to blame and what, if anything, can be done? Here, well try to answer those questions in laymans terms(non-technical terms). -Highly unlikely,muy improbable- -debt crisis, crisis de deuda - -to blame, culpableThe Euro Zone On January 1, 1999, the euro was introduced as the new currency for use in the European Union. To join the currency, member states had to qualify by meeting the terms of the treaty in terms of budget deficits, inflation, interest rates and other

monetary requirements. Of the 27 member states of the EU, currently the euro is a shared currency used by 17 of them. These 17 countries are referred to as the euro zone. In early stages, the euro was used only in the stock markets, for financial transactions between banks and for cashless shopping (using checks or credit cards). The euro notes and coins were introduced in January of 2002. -qualify, clasificar-budget deficits, dficit presupuestario- a shared currency, moneda comunitario- the stock markets, mercado burstil/accionarioBenefits of a shared currency The collective thinking between euro zone governments was that a shared currency would be beneficial for trade ties and to strengthen the economies of euro zone members. Specifically, the euro zone would make it easier for small economies to borrow money from international financial markets and investors at a much lower rate than had been possible for them in the past. Initial guidelines restriced governments from borrowing more than 3% of their economies output annually in an effort to prevent euro zone members from accumulating too much debt, and based on the assumption that all members were capable of repaying such debt. strengthen, fortalecer-borrow, tomar prestamo -guidelines, pautas-input/output, aportacin/ producinSo, what happened? First of all, many euro zone members did not adhere/stick to the guidelines for borrowing which were in place. Italy and Germany were the first to break the 3% borrowing rule, with France not far behind. Of the largest economies in the euro zone, only Spain kept to the guidelines until the financial crisis of 2008. And what about Greece? Greece Greece has been to the forefront of the headlines of late. Not only did Greece never stick to the 3% borrowing limit, but they also adjusted their economic data, which enabled them to get into euro zone in the first place. With access to borrowed money at low interest rates, it is said that Greece went too far spending money on such major projects as the 2004 Olympic games in Athens. When the financial crisis hit in 2008, Greeces high rate of unemployment resulted in lost tax revenues and increased public spending on benefits. By 2009, Greece admitted that their debt amounted to 113% of their GDP, which is almost double the euro zone limit of 60%. -headlines, los titulares -tax revenues, ingresos de impuestosBailouts By 2010, the euro zone members and the International Monetary Fund agreed to a 100 billion euro bailout package to help Greece. In return for this, the Greek government planned tax increases and deep cuts in pensions and public service pay. It is reported that Greece has not implemented the planned changes. Therefore, the need for obligatory terms is under greater demand.

Because of the falling euro and as a result of the financial crisis, other weak members of the euro zone have been faced with the inability to repay their debts. In November of 2010, the EU and IMF agreed to an 85 billion euro bailout package to the Republic of Ireland, followed by a May 2011 bailout of 78 billion to Portugal. In July of 2011, a second bailout package of 109 billion euros was agreed to for Greece. Due to increased fear that any of these countries could default on their public debts, Portugal, Ireland, Italy, Greece and Spain have been given the unfortunate acronym of PIIGS. -bailout package, rescate financerio Spain and Italy Since the economies of Spain and Italy are considerably larger than that of Ireland and Greece, bailing them out would present such an impossibility that the entire future of the euro zone is at stake. In these countries in particular, government borrowing is not even the main cause of their debt crises. Both Spain and Italy had large debts before the crisis of 2008, and it was due to borrowing by the private sector (mortgage borrowers and companies) rather than by the government. So what does this mean? Well, it means that even if the governments of Spain and Italy dont break the 3% borrowing rule in the future, there is still the possibility that they will be faced with the same crisis again. - at stake, en juego-mortgage, hipotecaFear of default Should any of these key members of the euro zone default on their loans, the global economy would be in real trouble. Banks and other financial institutions worldwide have invested in the debt of these countries and default would amount to significant financial losses, which could trigger a global domino effect producing the equivalent of a financial tsunami. Already, some private banks holding Greek debt have had to accept losses of up to 70%. Default by the larger economic members of the euro zone would be devastating. - default, impagos-, en juego-trigger, provocarNo Simple Solutions Reintroduction of national currency Although extremely difficult to implement due to restrictions imposed by the original terms of EU membership, it has been suggested that some nations return to their original currency. This could be one of the only solutions for the most heavily indebted members. However, this could cause significant problems for the European economy and could quite possibly lead to the collapse of the euro altogether. Further spending cuts Should Spain and Italy further cut spending, the European recession would likely worsen, resulting in increased unemployment and lower wages. With lower wages, the people will likely cut their own spending and be unable to pay off their own debts. Ensuing unrest would increase timidity in the financial markets.

No spending cuts On the other hand, if Italy and Spain do not increase their spending cuts, the amount they need to borrow will continue to explode. Their economies will be too weak to support their debt and because of the size of the debt, other governments will be unable to bail them out. Complete financial collapse could be the result. spending cuts, recortes de gastos Germany to the rescue As the key player in the euro zone, other members look to Germany for help. While Germany does support the continuation of the euro, they do not want to use their own capital to bail out the euro zones weakest members. Germany has suggested imposing a hard cap limit restricting the amount an EU nation would be able to borrow. This idea has come under substantial criticism. The European Stability Mechanism Currently, the most promising solution appears to be the European Stability Mechanism (ESM). Created in February of 2011, the ESM is a bailout fund created by euro zone finance ministers. It will hold 500 billion euros, and euro zone members who cant get investors to buy its debt can apply for loans. Nearly half the money in the ESM comes from Germany and France. A second version of the treaty establishing the ESM was signed on February 2, 2012, and pending full agreement from all euro zone members, this fund is expected to be running by July of 2012. While the financial crisis in the euro zone continues to unfold, the world should continue to keep its collective eye on Spain and Italy, as well as the route that Greece will take to resolve its own economic catastrophe. The ripple effect of a major economic collapse in the euro zone will be far reaching. Hopefully, this makes the complexities of the crisis a little more understandable

.uropean 0ebt 8risis

Aanne!ore :oerster/7!oomberg ?e&s

Developments Feb. 14 .uropean economiesshrank in the fourth -uarter at their fastest rate since the depth of the financial crisis in 200=, new data showed, with both strong and weak countries falling short of e"pectations >nemployment in &reece hit a record high of 2, percent Jan. 10 The .uropean 8entral Bank and the Bank of .ngland both left their interest rates at record lows, as officials said the euro6one economy remains weak but may be stabili6ing Jan. 8 >nemployment in the euro 6one rose to a new high in (o%ember, according to data that also showed that the troubles in the 1,!nation currency bloc were straining its strongest member,&ermany Dec. 13 <inance ministers agreed to place banks in the euro area under a single super%isor, ending months of wrangling The deal would put more than 100 large banks in .urope under the direct super%ision of the central bank. :lso, the release of B;# billion in more aid for &reece was appro%ed

Dec. 12 :fter a frantic two days of ca7oling and arm!twisting, &reece finally persuaded local banks and foreign in%estors to sell back about 32 billion euros worth of discounted bonds, a step that could erase 20 billion euros of debt from the countrys disastrous balance sheet and clear the way for a new installment of aid Crisis at a Glance *n the wake of the global economic meltdown of 200?, the .uropean >nion has been struggling with a slow!mo%ing but unshakable crisis that has underscored the flaws behind the common currency, the euro The turmoil has toppled go%ernments, pushed a number of countries into a second recession and e"posed deep rifts between regions :s the crisis headed toward its third year, it remained unclear whether it would end up unra%eling or accelerating the continents ;0 years of progress toward gradual unification, as .urope teetered between a breakup of the euro and stronger measures that would create tighter fiscal and political bonds <or most of the first two years of the crisis, the proponents of austerity, led by &ermanys :ngela 4erkel, largely pre%ailed@ troubled countries were gi%en bailout funds to stay afloat but re-uired to make deep spending cuts But as unemployment rose to nearly 2# percent in &reece and 'pain and much of the continent fell back into recession, pressure emerged for measures to promote growth With 4rs 4erkel on the defensi%e, the key figure in 2012 appeared to be 4ario 0raghi, the new president of the .uropean 8entral Bank /e opened the banks coffers on easy terms to the continents banks, gi%ing them breathing roomC lowered the interest rate his inflation!hawk predecessor had raised and con%inced .uropes leaders to back an e%entual mo%e to a continent!wide system of deposit insurance and bank o%ersight to help pre%ent bank runs *n 4r 0raghis boldest mo%e, in 'eptember the bank outlined a framework for unlimited purchases of the bonds of troubled euro!6one countries to stabili6e the interest rates threatening the sol%ency of 'pain and *taly, effecti%ely putting itself in the position of lender of last resort long played by the <ederal 5eser%e That would in effect make the euro6one as a whole responsible for some indi%idual countries debts, an idea &ermany had long resisted :t the same time, 4r 0raghi made clear that the short!term loans would come with tough fiscal conditions D meaning the borrowing countries would hand o%er a significant chunk of so%ereignty to a central authority :s a result, leaders in both 'pain and *taly appeared reluctant to take the bank up on its offer 4r 0raghis plan for o%erhauling bank regulation ran into widespread opposition, despite ha%ing been agreed to in principle months before, potentially calling the bond!buying plan into -uestion

But markets appeared to belie%e that it would go into effect if needed, and that 'pain in particular would sooner or later re-uest some sort of aid These factors produced a rare calm spell that in 2ctober ga%e .uropean leaders some breathing room to consider their ne"t steps toward integration without being dri%en by fear of impending calamity *n (o%ember, new conflict arose when the *nternational 4onetary <und demanded that rich .uropean nations ease &reeces massi%e debt burden :fter weeks of wrangling, finance ministers agreed on a complicated set of measures meant to pro%ide some relief without ha%ing to actually write off loans These included pro%iding money for &reece to buy back some debt at a discount, longer maturities for &reeces bailout loans and lower interest rates on those loans :nd central banks in countries that use the euro would agree to return to &reece any profits made on &reek bonds purchased by the.uropean 8entral Bank Overview The crisis began in late 200= when a new go%ernment in &reece re%ealed that its predecessors had concealed enormous deficits By the spring of 2010, &reece was unable to borrow on the open markets at an affordable interest rate, and a series of bailout package totalling 110 billion euros was de%ised by the .uropean >nion, the *nternational 4onetary <und and the .uropean 8entral Bank, the so!called troika *n return, &reece was re-uired to slash public spending deeply *n 4ay, leaders appro%ed a contingency fund of #00 billions euro Eabout B;?0 billionF for the union at large *n (o%ember 2010, *reland, wracked by a banking crisis that followed the collapse of a housing bubble, recei%ed a ;, billion euro bailoutC 1ortugal, a longtime economic laggard, recei%ed ,? billion euros in 4ay 2011 *n both countries, the go%ernments soon fell *n the summer of 2011, worries arose about two %astly larger economies@ *taly, still struggling with debts built up before it 7oined the euro, and 'pain, where the collapse of a housing bubble had sent the unemployment rate o%er 20 percent 2%er the rest of the year, .uropean go%ernments struggled to increase the si6e of the )firewallG offered by bailout funds *n 0ecember, &ermanys chancellor, :ngela 4erkel, whose push for austerity in return for aid had dominated the response to the crisis, won package of a pact calling for tighter fiscal integration and greater penalties for bid deficits But what appeared to be an imminent crisis was a%erted only when the .uropean 8entral Bank, under a new chairman, 4ario 0raghi, flooded banks with cheap loans that many used to prop up their go%ernments But meanwhile, the continent tipped toward a second recession, with the hardest hit countries, like &reece and 'pain D unable to de%alue their currency D seeing unemployment soar while deficits remained stubbornly large &o%ernments fell from the (etherlands to &reece to 'lo%akia *n 4arch

2012, the troika engineered a default by &reece on most of its pri%ate debt and a second bailout package, of 130 billion euros, in e"change for new rounds of budget!cutting and pri%ati6ation But by that time a wa%e of anger was building against austerity *n 4ay 2012, <rance elected a 'ocialist, <ranHois /ollande, to replace (icolas 'arko6y, 4rs 4erkels closest ally, as president on a platform that called for an emphasis on growth *n &reece, the two traditional parties, both of which had supported the bailout deal, were roundly repudiated, while a left!wing party that demanded the repudiation of the deal mo%ed to the fore (o party pro%ed able to form a go%ernment, and talk about &reeces e"it from the euro, once unthinkable, became common <ear of a )&re"itG and the possibility of it happening elsewhere increased strains on weak banks, particularly in 'pain, where in 4ay the countrys largest mortgage lender sought a B23 billion bailout *n $une, leaders began speaking of common measures to contain the crisis The leader of the .uropean 8entral Bank called for continent!wide deposit insurance and bank regulation, while &ermany suggested it would support pooling much of the continents bad debtinto a single fund, to be paid off o%er 2# years :lso in $une, 'pain became the fourth country in .urope to accept a bailout for its cash!star%ed banks as .uropean finance ministers offered an aid package of up to B12# billion But the urgency of that mission was dri%en by e%ents in a country at the other edge of the euro 6one@ &reece The 'panish rescue was well within the means of a .uropean emergency fund already established for 7ust such purposes <ar harder to calculate are the costs if, after &reek elections in mid!$une 2012, the new go%ernment there reneges on the terms of the bailout :thens negotiated with its .uropean lenders only a few months ago That could lead to an unprecedented withdrawal from the euro 6one, threatening the structural integrity of a currency union that has largely benefited more prosperous members like &ermany The big fear in .urope is contagion D an infection of financial panic that could spread far beyond &reece *ndeed, 'panish leaders ha%e long said that &reek problems were contributors to the general market uncertainties that helped undermine 'panish banks 2n $une 1,, &reek %oters ga%e a narrow %ictory in parliamentary elections to the conser%ati%e (ew 0emocracy party, which had supported a bailout for the countrys failed economy The %ote was widely seen as a last chance for &reece to remain in the euro 6one, and the results had an early rallying effect on world markets But strong doubts remained as to whether any new leadership in :thens would be able to fulfill those obligations : lot of pri%ate money has already fled &reece, while its deeply depressed economy and dwindling ta" re%enues threaten to put the country e%er deeper in the hole Worried an!s "#s$in% &or Financial 'nion

The seemingly endless series of euro 6one crises has .uropean officials pushing for a banking union that would watch o%er and bind together the currency groups faltering financial institutions But on the ground in the euro 6one, there seems little appetite for such a compact right now *n fact, banks and their national regulators, an"ious about the &reek elections and 'pains hastily arranged bailout, are beha%ing more parochially than e%er That poses a threat to the interbank lending across borders that is crucial to maintaining li-uidity D the free flow of money that is the lifeblood of the global financial system <rench and &erman banks ha%e clamped off much of the lending to their counterparts in *taly and 'pain, which in turn are mainly gi%ing loans only to their own debt!strapped go%ernments With interbank cooperation at perhaps its lowest le%el since the creation of the euro currency union, .uropean officials say they are mo%ing toward a broader solution ."perts warn, though, that what is needed now is not another working paper proposing new le%els of euro bureaucracy, but a clear action plan that addresses the root issue@ 4arkets and in%estors ha%e lost faith in .uropes ability to regulate its banks 1otentially important first steps were taken at a summit meeting in Brussels in late $une .uropean officials decided that the bailout fund could pro%ide money directly to the 'panish banks in need of rescue than re-uiring it to go through the 'panish go%ernment, which feared the effect of adding another B100 billion or so to its debt burden :nd the leaders agreed to work to establish a common banking super%isor for euro 6one countries 2fficials en%isioned the role being played by the .uropean 8entral Bank, the only institution with the firepower to credibly rescue a wobbly financial sector *n the short term, a signal of tighter regulation in the future D along with bailouts for troubled banks D is needed to stem the flight of capital from countries with banking problems, which threatened to spread to financial institutions throughout .urope *n the longer term, by agreeing to cede power o%er banks, .uropean countries hope &ermany will trust them more and e%entually stand ready to share euro 6one debt, which could help them ease austerity measures and adopt pro!growth plans to re%i%e their struggling economies But while there was agreement in principle, in 'eptember financial regulators from &ermany, 'weden and other ma7or countries made clear that they were opposed to simply handing bank regulation o%er to the . 8 B &erman officials ha%e warned that the proposals as currently drafted would strain the central banks resources and could create regulatory black holes

ac!%ro#nd The debt crisis first surfaced in &reece in 2ctober 200=, when the newly elected 'ocialist go%ernment of 1rime 4inister &eorge : 1apandreou announced that his predecessor had disguised the si6e of the countrys ballooning deficit But its roots of the crisis go back further, beginning with a strong euro and the rock!bottom interest rates that pre%ailed for much of the pre%ious decade &reece took ad%antage of this easy money to dri%e up borrowing by the countrys consumers and its go%ernment, which built up B300 billion in debt *n 'pain and *reland, go%ernment spending was kept under control, but easy money helped turn real! estate booms there into bubbles D a process helped in *relands case by the aggressi%e deregulation of its banks that helped draw in%estment from around the world :fter the bubble burst, the *rish go%ernment made the banks problems its own by guaranteeing all their liabilities :fter the e"tent of &reek debt was re%ealed, markets reacted by sending interest rates up not only for its debt, but also for borrowing by 'pain, 1ortugal and *reland *n early 2010, the .uropean >nion and the *nternational 4onetary <und put together a series of bailout packages for &reece that totalled 110 billion euros EB1;3 billionF in a process that critics said ended up costing more because .uropean leaders failed to get ahead of the cur%e *n 4ay, leaders appro%ed a contingency fund of #00 billions euro Eabout B;?0 billionF for the union at large The hope was that the fund would ne%er ha%e to be tapped, as its e"istence would calm in%estors But in the fall of 2010 interest rates began creeping up again, as countries that reduced spending to meet tough deficit targets found themsel%es falling farther behind, as their economies slowed and re%enues declined *n (o%ember, .uropean officials arranged a bailout of ?# billion euros Eroughly B112 billionF for *reland, after o%ercoming the resistance of *rish officials to the mo%e, which they saw an attack on so%ereignty E*n fact, news of the deal led 1rime 4inister Brian 8owen to announce that he would step down after passing a new round of budget cuts, and his party was ousted at the ne"t electionF *n the spring of 2010, after much hesitation, the .uropean >nion and the *nternational 4onetary <und combined first to offer &reece a bailout package of 110 billion euros EB1;3 billionF, followed by a broader contingency fund of #00 billions euro Eabout B;?0 billionF The hope was that this show of financial force would reassure markets about the sol%ency of euro countries But the new loans, combined with the effect of the austerity measures demanded of &reece, *reland and 1ortugal, dro%e them into recession and did little to ease their debt burden ImdashC &reeces debt load e%en increased :s the debt crisis renewed o%er the winter of 2010 and spring of 2011 it led to the fall of go%ernments in *reland and 1ortugal, and saw unrest rise in 'pain, where unemployment remained close to 20 percent

Conta%ion Fears (et#rn By the summer of 2011, it was clear that &reece would need a second big bailout package, and worries rose again about contagion, as *taly and 'pain saw the interest rates charged on its borrowing rise steeply The .uropean 8entral Bank responded by buying large amounts of *talian and 'panish bonds, as leaders put together a plan that would increase the powers of the .uropean <inancial 'tability <acility to head off a )runG on go%ernments seen as in danger of default By 'eptember, with growth slowing, stalled or in re%erse across the continent, .uropean leaders were increasingly discussing the creation of a central financial authority D with powers in areas like ta"ation, bond issuance and budget appro%al D that could e%entually turn the euro 6one into something resembling a >nited 'tates of .urope But talk of long!term solutions did little to calm markets worried about the weakness of banks in <rance and elsewhere that held large amounts of debt from &reece and other shaky go%ernments :nd theresignation of $Jrgen 'tark, a top &erman official at the .uropean 8entral Bank, highlighted the depth of policy discord among senior policymakers 4r 'tark, like many &erman officials, had opposed the banks large!scale purchases of go%ernment debt :nother potential crisis bubbled up in 'eptember, as .uropean officials angrily warned &reece that the ne"t installment of its bailout funding would be withheld in 2ctober ImdashC a step that would lead to certain bankruptcy ImdashC unless further radical cuts in go%ernment spending were pushed through .arlier that summer, &reece, which had started the crisis, faced its more dire fiscal emergency, as it stood to run out of cash in :ugust without a new installment of money from the first bailout .uropean leaders refused to release the funds until a second, more drastic round of austerity measures were adopted, including the sale of B,2 billion in state assets The go%ernment of 1rime 4inister &eorge 1apandreou teetered, but the measure was pushed through after days of giant street protests The basic conflict o%er the shape of a new bailout plan was between &ermanys chancellor, :ngela 4erkel, who insisted that pri%ate banks pay part of the cost by taking losses on &reek bonds, and the .uropean 8entral Bank, who opposed e%en a %oluntary )haircutG for banks, saying it would be seen as a default J#l) *%reement Falls e$ind t$e C#rve

The deal reached in late $uly included B1#, billion in new funds for &reece and a modest reduction of its debt burdenC pri%ate lenders saw their bonds rolled o%er into longer maturities but also had them guaranteed :nd the .uropean <inancial 'tability <acility, the euro6one rescue fund, saw its contingency fund grow to 330 billion euros, or B;32 billion, and was gi%en new, amplified powers and the ability to use the money to bail out 1ortugal and *reland if necessary

The response to the package was not what leaders hoped@ in%estors began dri%ing up interest rates in *taly and 'pain, economies too large to be bailed out by the new arrangements :t the same time, the fall in confidence threatened to undermine the big banks in those countries, whose large holdings of go%ernment bonds began to lose %alue 2n :ug ,, 2011, the .uropean 8entral Bank said it would )acti%ely implement+ its bond!buying program to address )dysfunctional market segments,+ a statement interpreted as a sign that it will inter%ene to pre%ent borrowing costs for *taly and 'pain from becoming unsustainable +owin% Closer "at$s To address the growing debt crisis, 8hancellor :ngela 4erkel of &ermany and 1resident (icolas 'arko6y of <rance met on :ug 1;, 2011 at the KlysLe 1alace in 1aris The leaders promised to take concrete steps toward a closer political and economic union of the 1, countries that use the euro They called for each nation in the euro 6one to enshrine a )golden rule+ into their national constitutions to work toward balanced budgets and debt reduction, a le%el of discipline well beyond the current, oft!broken commitment They also pledged to push for a new ta" on financial transactions, and for regular summit meetings of the 6ones members Both leaders ruled out issuing collecti%e bonds, known as eurobonds, to share responsibility for go%ernment debt across member states, and they opposed a further increase in a bailout fund that will not be put into place until late 'eptember 2011 at the earliest 4rs 4erkel said there was )no magic wand+ to sol%e all the problems of the euro, arguing that they must be met o%er time with impro%ed fiscal discipline, competiti%eness and economic growth among weaker states But a growing number of leaders in 'eptember began -uietly discussing a broader plan for greater fiscal integration ImdashC since the alternati%es could include the collapse of the euro or increasing conflict o%er bailouts 2fficials said a ma7or o%erhaul of the way .urope conducts fiscal policy was likely to take a long time and re-uire changes in the treaties go%erning the euro But they pointed to the smaller changes that were already taking place as e%idence that euro area financial ministries see that they ha%e little choice but to mo%e together if they want to a%oid a catastrophic breakdown ,ncreasin% Distress The talks took place against a background of increasing continent!wide distress 2fficial figures released in :ugust 2011 showed that -uarterly growth in the euro 6one fell to its lowest rate in two years &ermany D the 8ontinents powerhouse D slowed almost to a standstill 4ost of .uropes main stock inde"es lost ground after the data suggested that the debt and economic problems in countries like &reece and *taly were infecting the rest of the 1,!country euro 6one

4eanwhile, leaders groped for a way to e"pand the effecti%e firepower of the bailout fund, the .uropean <inancial 'tability <acility, amid a general agreement that the boost agreed to in $uly was no longer ade-uate to calm the markets fears about big economies like 'pain and *taly 2ne suggestion, pushed by the 2bama administration, was to use the facilitys funds to guarantee loans from the .uropean 8entral Bank rather than to make loans directly :lso in 'eptember, &reece pushed through a hugely unpopular property ta" increase as part of a new austerity package needed to keep installments of the first bailout package flowing :nd the euro6ones members crept through the process of signing off on the $uly agreement, with crucial %otes in fa%or coming from &ermany and <inland, which had threatened to block it unless it got higher le%els of collateral on its contribution >nder the fretful ga6e of in%estors, the meandering appro%al process has re%ealed e%er more fissures, layers of decision making and comple"ity in .urope that adds up to a worrisome inability to react -uickly and decisi%ely to uphea%al in fast!mo%ing financial markets Fall o& 2011- Fears Grow *n the fall of 2011, e%en as .uropean leaders struggled to come up with a new bailout plan for &reece, much larger fears loomed *nterest rates soared for *taly, the continents third largest economy, and rose for <rance, whose banks hold large amounts of *talian go%ernment bonds, and where go%ernment finances are strained The continents economy was teetering on the brink of a second recession : growing number of economists called for the .uropean 8entral Bank to step forward as a lender of last resort, as the <ederal 5eser%e has done, to stop the contagion But the bank, whose mandate is focused solely on pre%enting inflation, has resisted, saying a political solution is re-uired :s the crisis deepened, banks in .urope began to hoard capital, straining the finances of their counterparts and hurting companies across the globe that depend on them for loans *n 0ecember, leaders of the countries that use the euro agreed to an intergo%ernmental pact adopting tighter fiscal controls :ll 1, of the countries that use the euro agreed to 7oin, as did si" others But Britain refused, raising -uestions about its future in which it has become increasingly isolated The agreement, which can be adopted more -uickly than a change to the .uropean >nion treaty ImdashC and without Britains consent ImdashC would reassert rules limiting deficits to 3 percent of gross domestic product and total debt to ;0 percent Miolators would be hit with sanctions unless a ma7ority of other countries agreed :fter the summit, the familiar pattern of market relief followed by new market worries was repeated But on 0ec 21, banks borrowed more than B;00 billion from the .uropean 8entral Bank at the

e"traordinarily easy terms of 1 percent interest for a three!year loan :nalysts suggested that the Bank had hit upon an indirect method of stopping the market spiral threatening *taly, 'pain and other go%ernments, by flooding banks with money they could use to lock in guaranteed profits by buying so%ereign debt Greece Dod%es De&a#lt Wit$ a .econd ailo#t

By early 2012, the sense of crisis had returned, as the leaders of <rance and &ermany threatened to withhold the second aid package without further cuts and promises of structural economic changes :t the same time, &reece plunged into meetings with banks and hedge funds about deeper writedowns on its debt D up to as much as ,0 percent The proposed austerity package included 20!percent cuts to base pay for workers in pri%ate companies and a loosening of public sector 7ob protections With elections looming as soon as :pril, the three parties that make up 4r 1apademoss coalition feared that they were essentially being told to commit political suicide to sa%e the country The .uropean >nions plan of ta" increases, spending cuts and now wage cuts has pushed the country into a deep recessionC the economy shrunk by almost 12 percent between 200= and 2011 and is e"pected to shrink by up to ; percent in 2012 The crisis also stripped &reeces political center, weak to begin with, of its last shreds of political legitimacy With unemployment at 21 percent, businesses closing, credit scarce and the proposed new wage cuts e"pected to further decimate the shrinking middle class, the hard left and e"treme right are rising *n early <ebruary, 4r 1apademos reached a deal to support the new austerity measures with two of his coalition members, the 'ocialists and (ew 0emocracy, a center right party The right!wing party, 1opular 2rthodo" 5ally, balked, but is too small to block the deal, which includes a 22 percent cut in the benchmark minimum wage and cuts of 1#0,000 public sector layoffs &reek workers responded by walking off the 7ob for the second general strike in a week 'treet demonstrations in :thens turned %iolent, and ?0,000 people marched in protest the day before 1arliament appro%ed the packageon <eb 13 2nce the deal was finali6ed and the measures appro%ed by the &reek 1arliament, lenders were e"pected to begin releasing to &reece the aid it needs to pre%ent a default when its ne"t debt payment comes due on 4arch 20, 2012 2n <eb 21, after more than 13 hours of talks in Brussels, .uropean finance ministers appro%ed a new bailout of 130 billion euros, or B1,2 billion, sub7ect to &reece taking immediate steps to put the deep structural changes that they agreed to into effect

&reece must persuade, if not actually force, its pri%ate sector bond holders to accept a higher than e"pected loss of more than ,0 percent on their holdings to reduce &reeces debt stock by the targeted amount of N100 billion The agreement included a reduction in interest rates on loans from &reeces first rescue in 2010, and .uropean central banks foregoing profit on their &reek bond holdings, that allowed the deal to satisfy a mandate set by the *nternational 4onetary <und that &reeces debt come down to 120 # percent of gross domestic product by 2020 Though &reece may ha%e dodged a default with its last!minute bailout deal, longer!term doubts o%er its ability to repay its staggering debts remained, raising -uestions about whether e%en more rescue money will e%entually be needed *t is uncertain if another round of austerity can bring &reece to a point whereby it generates enough re%enue to pay off its obligations D e%en if the pri%ate sector debt deal goes through D and return to the market on its own /$e Debt Deal :fter months of hardball, high!wire negotiations, &reece announced on 4arch =, 2012, that it had clinched a landmark debt restructuring deal with its pri%ate sector lenders The deal clears the way for the release of bailout funds from .urope and the *nternational 4onetary <und that will sa%e the country from imminent default The &reek finance ministry said that ?# ? percent of pri%ate creditors holding 1,, billion euros in &reek bonds participated in the bond swap :fter in%oking collecti%e action clauses, pro%isions that will force the holdouts to accept the offer, the participation rate would rise to =# percent and meet the target set by .urope and the * 4 < for the release of crucial rescue funds The ministry also said that ;= percent of in%estors holding a category of &reek bonds issued under laws other than &reek law had agreed to the e"change D or about N20 billion worth This figure was much higher than anticipated because many of these in%estors were e"pected to either challenge &reece in court or hold out for better terms <or &reece, the better than e"pected numbers highlights the success of the aggressi%e legal strategy to force bond holders to take up the e"change e%en though they would accept a big loss in the process 'een at first as a risky gambit that could end up badly, the take!it!or!lea%e!it approach D mi"ed in with tough rhetoric from public officials in &reece and .urope D pro%ed to be highly effecti%e as it forced e%en the most reluctant in%estors to tender their bonds The %alue of &reek 10!year bonds had shortly before hit a record low of 1; cents on the euro

Down%radin% France0s Credit (atin% 2n $an 13, 2012, 'tandard I 1oors stripped <rance of its sterling credit rating, downgrading it one notch from ::: to ::O The ratings agency also cut 1ortugals credit to 7unk status and downgraded *talys debt by two steps in a wide!ranging re%ision of .uropean countries caught in the euro crisis The actions, which lowered the ratings of nine countries, would be the strongest signal yet that .uropes so%ereign debt woes were far from o%er and would pose fresh political challenges for politicians as they try to stabili6e the problem on the 8ontinent : downgrade by a single ratings agency like 'tandard I 1oors could ha%e an immediate, though not de%astating, impact on the countries ability to borrow money ' I 1 warned in 0ecember 2011 that the agency was re%iewing the credit ratings of 1# .uropean >nion countries because of the crisis &ermany and the (etherlands, which were on the original list, did not recei%e a downgrade *n addition to *taly and 1ortugal, two nations D 'pain and 8yprus D had their ratings cut by two notches :ustria, 4alta, 'lo%enia and 'lo%akia, along with <rance, were lowered by one grade The ratings of the other countries in the re%iew D Belgium, .stonia, *reland and 9u"embourg D were unchanged The ratings re%isions came at the end of a week in which 4r 'arko6y and 1rime 4inister 4ario 4onti of *taly warned that the crisis could deepen if steps were not taken to stoke growth Both deli%ered their messages to 8hancellor :ngela 4erkel in her offices in Berlin, prompting the &erman leader to admit for the first time that the harsh program of austerity she has been pushing on the euro 6one was not a cure! all for the crisis *n 1scalatin% .piral o& Debt2 :s difficult as the last two years ha%e been for .urope, 2012 could be e%en tougher .ach week, countries will need to sell billions of dollars of bonds D a staggering B1 trillion in total D to replace e"isting debt and co%er their current budget deficits :t any point, should banks, pensions and other big in%estors balk, an"iety could course through the markets, making go%ernment officials feel like they are stuck in a scary financial remake of )&roundhog 0ay + .%en if go%ernments attract in%estors at reasonable interest rates one month, they will ha%e to repeat the process again the ne"t month D and signs of skittish buyers could make each sale harder to manage than the pre%ious one

The challenge for .urope is to keep *taly and 'pain from ending up like &reece and 1ortugal, whose borrowing costs rose so high in 2011 that it signaled real likelihood of default, making it impossible for the go%ernments to find buyers for their debt 'ince then, &reece and 1ortugal ha%e been reliant on the financial backing of the.uropean >nion and the *nternational 4onetary <und The intense focus on the so%ereign debt auctions D and their importance to the broader economy D starkly underscores the difference between .uropean and :merican responses to their crises 'ince 200?, there has been almost no pri%ate sector interest to buy new >nited 'tates residential mortgage loans, the financial asset at the root of the countrys crisis To make up for that lack of in%estor demand, the federal go%ernment has bought and guaranteed hundreds of billions of dollars of new mortgages But the crisis response in the >nited 'tates did not depend solely on go%ernment!backed entities like the <ederal 5eser%e to buy housing loans Banks and in%estors also took large losses on e"isting housing debt While painful, the mortgage debt pro%ed less of a drag on the financial system 'o far, .urope has been a%erse to taking permanent losses on go%ernment bonds ."cept in the case of &reek debt, .uropean policy makers ha%e shied away from any plan that could mean pri%ate holders of go%ernment debt get hurt 'uch haircuts might seem like the recipe for more instability But if .urope struggles to find buyers for its debt, more radical options are likely to be considered .uropes debt problem is huge, and the e"perience in the >nited 'tates suggests dealing with it may take se%eral, more drastic approaches *n <ebruary 2012, .urostat, the unions statistical agency, said the debt ratios of the 1, euro 6one countries as a whole rose to ?, 3 percent of & 0 1 from ?3 2 percent a year earlier <or all of the 2, .uropean >nion nations, the debt ratio rose to ?2 2 percent from ,? # percent Those a%erages remain below the roughly 100 percent for the >nited 'tates and 200 percent for $apan :mong the most indebted euro members, *talys debt ratio rose 0 # point to 11= ; percent in the third -uarter from a year earlier, though it did show progress in sha%ing 1 ; points from the second -uarter of 2011 1ortugals debt ratio rose 1? = points from a year earlier, to 110 1 percent, while *relands rose more than 1; points, to 103 = percent ac!las$ *%ainst *#sterit) *n :pril 2012 there was a growing sense of resistance to the &erman prescription of budget cuts as the prescription for all <rom trading floors to polling stations to the streets of cities across .urope, the

message appeared increasingly to be that countries cannot cut their way to fiscal health, but need growth, too *n 4ay, %oters in <rance and &reece punished politicians associated with austerityC <rance ousted conser%ati%e 1resident (icolas 'arko6y in fa%or of <rancois /ollande, a socialist and &reek %oters cut the share of %otes for its two traditionally dominant parties in half, while far right and far left parties gained 0espite the rising criticism, Berlin did not seem ready to concede defeat 8hancellor :ngela 4erkel reacted to the election results by insisting that the tough fiscal pact agreed to in late 2011 was not negotiable, although she said she was willing to discuss measures to promote growth But while there was a growing consensus on the need for new growth policies, it was far from ob%ious what those policies should be, particularly for the hea%ily indebted countries already ha%ing trouble selling go%ernment debt .pain *ccepts ailo#t &or *ilin% an!s

*n $une 2012, responding to increasingly urgent calls from across .urope and the >nited 'tates, 'pain agreed to accept a bailout for its cash!star%ed banks as .uropean finance ministers offered an aid package of up to B12# billion The decision made 'pain the fourth and largest .uropean country to agree to accept emergency assistance as part of the continuing debt crisis The aid offered by countries that use the euro was nearly three times the B3; billion in e"tra capital the *nternational 4onetary <und said was the minimum that the wobbly 'panish banking sector needed to guard against a deepening of the countrys economic crisis The announcement of a deal came amid growing fears that instability in 'pain could drag down an already sputtering world economy The decision was the culmination of weeks of a contentious back! and!forth between 'pain and its would!be creditors in which it was hard to tell how much of 'pains resistance to financial help was tactical maneu%ering for a better deal and how much a refusal to admit the depth of the banking sectors troubles .uropean officials ha%e said they wanted their offer to go well beyond 'pains immediate needs to shield the country from any destabili6ing effect from the &reek parliamentary elections on $une 1, 'panish officials denied that their country was in the same position as &reece, 1ortugal and *reland, which ha%e all recei%ed bailouts that demanded they slash spending 'pains prime minister, 4ariano 5a7oy, re7ected suggestions that 'pain had been pushed to re-uest help ahead of new &reek elections that could precipitate &reeces withdrawal from .uropean monetary union

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*n $uly 2012, 4r 0raghi said that the .uropean 8entral Bank would take steps to ensure the future of the euro, including buying bonds to stabili6e what he described as unwarranted high interest rates The announcement came without details, but was enough to keep markets calm through the rest of the summer *n 'eptember, the bank outlined a framework for action 8alled 2utright 4onetary Transactions, the program will focus on purchasing go%ernment bonds with maturities from one to three years The . 8 B will not set a limit on how much it buys and will not insist on senior creditor status, which means being paid ahead of others in the e%ent of a restructuring 'uch status worries other in%estors who fear they would face disproportionate losses But countries wanting help will ha%e to ask for it and will then need to meet strict conditions That presents a crucial problem for 'pain, which is at the heart of the crisis and whose go%ernment worries that such a formal re-uest would constitute a political humiliation While the . 8 B s announcement has undoubtedly bought time for the single currency area, analysts said it needed to use that time to build more credible structures in order to restore market confidence, including ambitious plans to construct a banking union The e"perience of the euro 6one crisis so far is that, whene%er pressure from the financial markets is reduced, politicians postpone difficult decisions 1arado"ically, that could mean that the . 8 B s inter%ention will make agreement on crucial changes seem less urgent The continents bailout fund, the .uropean 'tability 4echanism, will make bond purchases in the primary market, that is, directly from go%ernments The bank will make its purchases in the open, or secondary, market *t will )sterili6eG its purchases by selling an e-ual amount of other bond holdings, a step meant to ease inflation fears by keeping the si6e of the money supply stable 4r 0raghi 7ustified the program on the grounds that high interest rates based on market fears of a financial crisis rather than on economic fundamentals interfered with the banks ability to use monetary policy to keep prices stable But his critics, most notably the head of &ermanys powerful central bank, said the plan amounted to printing money to support go%ernment spending, something they said the bank was forbidden from doing by its charter

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The Euro Crisis

Author : Edmond Alphandry : Chairman of the Board of CNP Insurance Former Minister of Economy SUMMARY: THE EURO ZONE STATES ARE EXPERIENCING AN ECONOMIC CRISIS THAT RAISES CERTAIN QUESTIONS. FIRSTLY THE AUTHOR REMINDS US OF THE REASONS FOR THE INTRODUCTION OF THE SINGLE CURRENCY AND THE INSTITUTIONAL STRUCTURE OF THE EURO ZONE BEFORE THE START OF THE DEBT CRISIS. HE THEN PRESENTS THE ECONOMIC RESULTS OF THE FIRST TEN YEARS OF THE EURO, MARKED BY GOOD RESULTS AS FAR AS GROWTH AND INTERNATIONAL CREDIBILITY ARE CONCERNED; HE THEN ILLUSTRATES THAT THERE IS ALSO AN INCREASING DIFFERENCE IN COMPETITIVENESS BETWEEN THE NORTH AND THE SOUTH, WHICH DOES NOT SEEM DIRECTLY DUE TO THE SINGLE CURRENCY PER SE BUT WHICH DOES CALL FOR COMMON BUDGETARY DISCIPLINE RULES. FINALLY THE AUTHOR PRESENTS THE FEATURES OF THE SOVEREIGN DEBT CRISIS, ITS EFFECTS ON THE FINANCIAL SECTOR AND ON THE REAL ECONOMY, AS WELL AS THE MEASURES TAKEN TO SETTLE IT. Introduction: As a Minister for the Economy in France in the 90 s I ha!e "een in!ol!ed in the march to#ards the euro$ %hen the euro #as launched in &999' I created the Euro(0 )roup "ecause #ith other European personalities I considered at that time that the creation of the European currency #as an unfinished "usiness' and that loo*in) ahead #e mi)ht hardly a!oid tra!ellin) on "umpy roads$ +his is precisely #hat happened ten years later$ I ha!e to add that in my capacity of Chairman of CNP Assurances' the leadin) French life insurance company' I am no# follo#in) the current euro crisis from the !ie#point of a pri!ate in!estor$ ,oo*ed from a"road' the euro-one is too often descri"ed as "ein) on the !er)e of collapse$ +his is certainly an outra)eous picture$ %e all *no# that if there #ere a "rea*do#n of the euro' then no country in the #orld #ould "e spared$ Conse.uences #ould "e tra)ic e!ery#here$ I do not thin* there is any pro"a"ility at all of a "lo# out of the euro-one$ +here are certainly pro"lems #hich I #ill e/amine #ith you today$ But one has to *eep in mind that the European economy remains stron)$ Its industry' its financial sector and its commercial net#or* remain in )ood health and competiti!e$ As far as the outloo* of the euro crisis is concerned' euro-one )ross domestic product contracted 00$12 in the last .uarter of 30&&$ And it is mo!in) closer to a recession 4defined as t#o successi!e .uarters of ne)ati!e )ro#th5$ But one can remain confident$ +here are si)ns 4#hich I #ill descri"e later5 that the situation has si)nificantly impro!ed since the "e)innin) of this year$ +he ne# stance of ECB monetary policy' the 6fiscal compact6 in preparation in the +reaty' the "uildin) of a si)nificant fire#all' the last "ail0out a)reement on 7reece of Fe"ruary 3&st' are creatin) a momentum #hich may herald a return to a more sta"le and rosier en!ironment$ ,et me today raise for you three fundamental .uestions #hich #ill help me to )i!e you an o!erall !ie# of the current euro crisis 8&9: &$ %hy ha!e European so!erei)n states' each of them #ith different economies and policies' decided to adopt a common currency: 3$ ;o# did the euro perform durin) its &0 first years' from &999 to 3009: 1$ And a"out the euro crisis itself: #hy this crisis: ;o# did it e!ol!e: And ho# did #e face it:

1. ORIGIN OF THE EURO <n the first .uestion 4Why h !" #$%%"&"'( E)&*+" ' ,*)'(&$"- "./ &0"# $'(* (h" #*+($*' *% (h" 1"'2(hy '# ,*.+1$, ("# +&*,"-- *% ,&" ($'2 )'$3)" ,)&&"',y4 5' let me "riefly recall some historical facts: 0 In &9(=' the so0called si/ founders countries 4France' 7ermany' Italy and the Benelu/5 decided to put in place a common mar*et amon) them "y the si)nature of the +reaty of >ome' #hich e/panded in &9?= to form the European Community@ then in &993' the Maastricht treaty )a!e rise to the European Anion$ +his common mar*et #hich later #as )i!en the .ualification of a 6-$'21" . &0"(6 "oosted commercial and economic acti!ities amon) its Mem"er Btates' and as such it played as #as intended' the role of a stron) catalyst for )ro#th and therefore prosperity for all the mem"ers countries$ 0 In this Anion' #e definitely made a choice' since its creation' of a re)ime of fi/ed e/chan)e rates "et#een the domestic currencies' "ecause #e thou)ht that this system #ould foster e/chan)es inside this common mar*et$ After the demise of the Breton %oods system in &9=& and the )enerali-ation of floatin) e/chan)e rates' #e therefore put in place some *ind of more or less fi/ed rates "et#een our currencies: the 6E)&*+" ' M*'"( &y -y-(".6 4EMB5$ 0 After a len)thy process and many de"ates in!ol!in) political and doctrinal ar)uments' #e ended up in the Maastricht +reaty in &993 to creatin) a step "y step uni.ue currency #hich #as Custified on three main )rounds: D Economically' mainstream thin*in) #as that ha!in) a uni.ue currency #ould enhance trade and foster economic )ro#th$ %hich it did indeedE D +echnically' the EMB pro!ed to "e insta"le and difficult to handle$ It pushed Mem"er countries into fre.uent painful currency adCustments$ After the full li"eralisation of capital in the early 90s' the EMB fell under the la# of the so0called 6M)'#"115- $.+*--$/1" (&$'$(y6' i$e$ #e could not simultaneously ha!e fi/ed e/chan)e rates' free capital mo!ements and independent monetary policies$ In this respect the F0Mar* #as the anchor of the EMB and it #as ha-ardous for any Central Ban* of other Mem"er countries to stray off the monetary policy stance adopted "y the Bundes"an*$ D Politically' the European Central Ban* #as desi)ned as a 6federal6 institution$ +he European currency #as therefore a decisi!e step to#ards inte)ration of European states$ Gou ha!e to *eep in mind that in the Maastricht +reaty all European countries #ere supposed to adopt the European currency' t#o countries 4the AH and Fenmar*5 ha!in) ne)otiated an 6optin) out6$ +he frame#or* #hich has "een desi)ned in the Maastricht +reaty under the acronym of EMA 4Economic and Monetary Anion5 #as founded on t#o pillars: a monetary pillar #hich #as !ery stron) and solid 4and still is5' and an economic one #hich ha!in) "een ill0concei!ed has "een #ea* since its inception$ +he monetary side of EMA #hich #as emulated on the model of the 7erman Bundes"an* rests on three main tenets: &$ +he independence of the ECB: in its conduct of monetary policy for the euro-one' the European Central Ban* is not allo#ed to recei!e any commitment or order from any political "ody #hatsoe!er$ In this respect' the ECB is pro"a"ly amon) the most independent Central Ban*s in the #orld$ 3$ +he mandate of the ECB is strictly confined to the maintenance of price sta"ility: contrary to the FEF for e/ample' the ECB is not committed to support )ro#th or employment$ 1$ +he ECB is prohi"ited of any monetary financin) in fa!our of Anion s institutions' central or local )o!ernments$ In other #ords' the ECB is not allo#ed to "uy pu"lic "onds issued "y Mem"er Btates on the primary mar*et$ In sharp contrast #ith this hefty monetary pillar' the economic side of EMA has remained seriously #antin): it did not fully dra# the conse.uences of the economic di!ersity of the !arious Mem"er Btates and also of the decentrali-ed decision0ma*in) in the euro-one$ %hereas monetary policy had "ecome a federal competence' economic and fiscal policies #ere fully remainin) in the hands of Mem"er Btates$

Enshrined in the Maastricht +reaty and later detailed 4in &99=5 in the so0called 6 S( /$1$(y '# G&*6(h P ,(6 #ere the t#o ceilin)s of 12 of fiscal pu"lic deficit to 7FP and ?02 of pu"lic de"t to 7FP ratios' #hich each Mem"er Btate #as re.uired to a"ide "y$ But due to poor enforcement procedures' these rules ha!e "een !iolated' e!en "y 7ermany and France$ %orse' durin) the #orld financial crisis in 300=03009' in order to a!oid the #orld economy to fall into a depression' )o!ernments #ere incited "y international "odies 4the IMF or the 7305' in the pure Heynesian tradition' to e/pand pu"lic e/penditures and accept' at least temporarily' hi)her "ud)et deficits$ No #onder that in Europe' as you see in the )raph' there is an up#ard mo!e in the rate of pu"lic de"t increase after 300=$ It is tellin) that this acceleration is more pronounced in the peripheric countries #hich later on ha!e "een hit "y the euro crisis$

,et us no# ha!e a loo* at the performance of the euro since its inception in &999$ +#o periods need to "e considered: from &999 to 3009' the euro performed remar*a"ly #ell' #hereas since early 30&0 the euro-one entered into a crisis #hich is less a"out the euro itself than a"out the pu"lic inde"tedness of some of its Mem"er Btates$ 2) THE SUCCESSFUL EARS: 1!!!"2##!

&$ Furin) its first decade of e/istence' the European currency fared remar*a"ly #ell: its inception #hich #as a perilous e/ercise too* place #ithout any hitch$ Furin) all this period' the price le!el remained sta"le@ the !alue of the euro on the forei)n e/chan)e remained stron)$ In terms of economic )ro#th' the euro-one economy compared fa!oura"ly #ith the other <ECF countries$

3$ No# if you loo* inside the euro-one' you #ill o"ser!e interestin) disparities$ First' in terms of "alance of payments' there is a clear di!ide "et#een countries of the north of the euro area 47ermany' Austria' +he Netherlands' Bel)ium and Finland5 #hich post a 4risin)5 current account surplus and countries of the 6Bouth plus Ireland6 4France' Italy' Bpain' 7reece' Portu)al' Ireland5 #hich ha!e a current account deficit$

Clearly' countries in the south ha!e "een li!in) "eyond their means$ By spendin) more than they produced' they )a!e "irth to a fundamental dise.uili"rium inside the euro-one #hich is at the core of the current crisis$ +#o e/planations to this phenomenon can "e dra#n from "oth sides of the macroeconomic e.uili"rium: D <n the demand side' from the "irth of euro up to the financial crisis 4300I5' in!estors ha!e "een under0pricin) the ris*: default ris* on 7o!ernment "onds #ere "ein) considered as practically non e/istent in all Mem"er Btates: therefore the spreads !is0J0!is the 7erman "unds remained near -ero$ +here #as therefore a stron) incenti!e to spend 4pu"lic and pri!ate5 and in!est in housin): hence housin) "u""les in Ireland and Bpain$ <!erspendin) #as the conse.uence of too lo# interest rates #hich #ere a conse.uence of the mispricin) of ris* "y the mar*ets$ D But there #as also another ori)in #hich can "e found on the supply side: these current account disparities reflect also discrepancies in competiti!eness$ Gou can see on the )raph that #a)es ha!e risen much faster in countries from the 6Bouth plus Ireland6 than in 7ermany$

+o #hat e/tent is the euro to "lame for this di!ide: +his .uestion )oes to the heart of the de"ate on the sin)le European currency$ For my part' I "elie!e that one of the main inno!ations the euro has introduced has "een the elimination of the e/ternal constraint for the Euro-one Btates$ <n the face of it' they no lon)er had to #orry a"out the conse.uences of a current account deficit$ Ander the pre0euro European monetary system' the e/chan)e rate acted as a )uard rail: #hene!er a country strayed from the path of discipline needed to *eep its currency sta"le' it e/perienced a forei)n e/chan)e crisis #hich forced it to restore order to its finances and economy$ By eliminatin) this e/ternal constraint' the introduction of the euro allo#ed some countries to persistently consume more than they produced$ +hey #ere a"le to continue )ro#in) their economies for a #hile "y accumulatin) de"t$ But #hen the le!el of de"t K "oth pu"lic and pri!ate K )ot too hi)h' the party #as o!er and the pro"lems "e)an$ Bo #hat #as the euro s role in all that: It s #orth remem"erin) that 7ermany #as one of the countries that Coined the euro #ith a current account deficit and therefore a lac* of competiti!eness$ ;o#e!er' "y focusin) on impro!in) its competiti!eness o!er the lon) term' in particular throu)h a policy of #a)e restraint' and "y )i!in) priority to structural reform' 7ermany ended up reapin) the "enefits of its supply0dri!en strate)y$ +hose countries that chose to follo# a demand0dri!en strate)y "y promotin) consumer spendin) and also home "uildin)' continued to flourish for a time due to their mem"ership of the Euro-one$ But they #ere "uildin) up serious pro"lems for themsel!es in the future' as #e can see today$ +he crisis has tau)ht us that #e ha!e under0estimated the effect of the remo!al of the e/ternal constraint$ It tau)ht us that the discipline resultin) from the e/ternal constraint needs to "e replaced "y discipline imposed #ithin the Euro-one #hich must )o much further than the Bta"ility and 7ro#th Pact$ It has to co!er each Euro-one Btate s economic policy and credit terms' in order to ensure that they don t li!e "eyond their means$ It tau)ht us that a 6one0si-e fits all6 monetary policy must "e supplemented "y special re.uirements for each Mem"er Btate #hich could ta*e the form of specific re.uired capital ratios or re.uired reser!es ratios applied to their domestic "an*s$ $) THE EURO%ONE CRISIS: 2#1#"2#12 +he crisis started its course in the so!erei)n de"t mar*ets in the peripheric countries$ It has reflected on the European financial sector and ended up on the real economy of the euro-one #hich has "een teeterin) on the !er)e of a recession since the fall of last year$ ,et me "riefly comment on each of these three aspects of the crisis: the so!erei)n de"t crisis' the financial

sector' the real economy$ $.1 The so&erei'n de(t crisis Euro-one Mem"er Btates #hich posted hi)h fiscal deficits and hi)h or increasin) le!els of pu"lic de"t started to raise serious concerns a"out sustaina"ility of their pu"lic finance 4see )raphs5$ 7reece #as the first country #hich durin) the sprin) of 30&0 forced the European Anion to put in place an assistance mechanism$ +he .uestion that needs to "e addressed is to e/plain #hy countries of the euro area #hich fi)ures accordin) to international standards #ere no #orse than in other countries outside the euro-one 4the AB' the AH5 suffered lar)e sales of treasury "onds #hich enlar)ed the spreads of their interest rates' and forced the European Anion to inter!ene either in the frame#or* of the European assistance mechanism 4EFBF5 47reece' Ireland' Portu)al5 or throu)h the purchase of so!erei)n "onds "y the ECB on the secondary mar*et 4Bpain' Italy5$

In an insi)htful paper 839' Paul de 7rau#e and Guemi Li point out that the countries #hich suffered a sur)e of their spreads #ere precisely those #here durin) the first decade of the euro the so!erei)n ris* had "een under0priced$ Mar*ets o!erreacted to this ris*' leadin) to #hat Paul de 7rau#e and Guemei Li call a 6"ad6 e.uili"rium: compared to a 6)ood6 e.uili"rium #here an increase in interest rates is a disciplinary incenti!e for the country to )o "ac* to its 6fundamentals6 4throu)h reduction of its pu"lic and pri!ate e/penditures5' in a "ad e.uili"rium' this rise leads a country li*e 7reece in a self fulfillin) process a#ay from its 6fundamentals6' due to an increase in pu"lic deficit caused "y a "uilt0in sur)e in interests payments and a fall in ta/es induced "y the contraction of economic acti!ity$ +here are !arious e/planations to this ris* o!erpricin): D First' it does not seem a"normal that after a lon) period of ris* under0pricin)' the mar*et starts to o!erreact in the opposite direction #hen fi)ures start to "e #orrisome$ D Becond' contrary to stand alone countries 4the AH' the ABA5' the a"sence of a Central Ban* as a potential lender of last resort on so!erei)n "onds enhances the ris* of default$ +his phenomenon appears clearly #hen #e compare the situation in Bpain and in the AH 4see )raphs5 as Paul de 7rau#e ri)htly points out$

;ence the necessity 0 in order to fi)ht conta)ion in the euro-one 4presently to Italy and Bpain50 to "uild fire#alls of a si)nificant si-e$ +he European Anion is presently tryin) to "e capa"le to mo"ili-e up to & trillion M not only throu)h the current European Financial Bta"ility Facility 4EFBF5 and the ne# European Bta"ility mechanism 4EBM5 "ut also than*s to international lenders li*e the IMF$ +here is a de"ate "et#een 7ermany and all other Mem"er Btates 4includin) other AAA countries5 a"out the si-e of this fire#all$ But anyho#' there is a consensus

that this is a maCor tool a)ainst the crisis$ Ne!ertheless the "est strate)y to fi)ht this sur)e in the spreads is to incite countries to put their house in order$ Bi)nificant pro)ress has "een made in this respect in the euro area$ In all the countries hit "y the crisis 4Ireland' 7reece' Portu)al' Bpain and Italy5' )o!ernments committed to fiscal rectitude ha!e recently "een put in place$ +heir endea!our is already "earin) fruit: self fulfillin) mo!ements play on "oth sides$ %hen mar*ets thin* the )o!ernment to "e more sol!ent' "orro#in) costs fall 4see )raph5 "ecause it is unli*ely to )et "an*rupt$ In Italy the technocratic )o!ernment led "y Mario Monti has "een a"le in a matter of a fe# #ee*s to o!erhaul the pension system' li"erali-e a raft of monopolistic industries and crac* do#n on ta/ e!asion$ As you see' this country ten year "ond yield #hich #as a"o!e =2 in the end of 30&& has dropped in a matter of #ee*s to ($(2$ +here is also relief in Bpain #hich has seen a sharp drop in its 30year treasury "ond' #hereas Portu)al is continuin) to suffer despite its endea!our to reduce its fiscal deficit' to mo!e decisi!ely on its pri!ati-ation pro)ram and to en)a)e in s#eepin) social reforms$ Ireland is the "est pupil in class$ Its a"ility to meet deficit reduction tar)ets and its return to economic )ro#th dri!en "y its e/ports ha!e impressed the mar*ets$ And it is already preparin) for an e/it from the EA0IMF assistance pro)ram at the end of 30&1$ +he yield on ( year Irish "onds fell from &I2 4Luly 30&&5 to I2 4Fe"ruary 30&35$

7reece #hich accounts for no more than 12 of the euro area 7FP remains the #ea* spot of this o!erall comfortin) picture$ In spite of si)nificant impro!ements #hich you can see on the 1 )raphs #hich ha!e "een )i!en to me "y the 7ree* Prime Minister' ,ucas Papademos' #hom I !isited in Athens on Fe"ruary 3nd' confidence is still lac*in)$ Fespite a ne# austerity pro)ram comprisin) a cut of 332 in the minimum #a)e' a reduction of )o!ernment Co"s' a free-e of all salaries' there still remains a dou"t on the commitment of the 7ree* political class to fiscal rectitude and structural reforms$

<n the pu"lic side' last +uesday 4Fe"ruary 3&st5' a)reement has finally "een reached for a second "ail out of M&10 "illion after the first "ail out of M&&0 "illion$ <n the pri!ate side' a hu)e haircut on the 7ree* pu"lic de"t 4in the order of =(2 of its face !alue' one of the lar)est de"t s restructurin) in history5 is to "e a)reed "y a maCority of pri!ate holders$ It is e/pected to reduce the 7ree* pu"lic de"t "y M&N0 "illion$ %ill this "e enou)h: Bome are as*in) the 7ree*s to "etter deli!er on ta/ e!asion or on their pri!ati-ation pro)ram$ <thers emphasi-e that more austerity ma*es return to fiscal e.uili"rium e!en more pro"lematic 4the 6"ad e.uili"rium6 issue5$ ;ence a call for more assistance$ Both orientations are pro"a"ly simultaneously needed$ As a passin) remar*' let me point out that pri!ate sector in!ol!ement 4PBI5 may entail dra#"ac*s "y fannin) the flames of mar*et fear of payment default and haircuts in other countries@ this may create distrust amon) in!estors and therefore to the unloadin) of Bo!erei)n "onds$ It may therefore "e used #ith caution$ %hich leads me to the second aspect of the euro area crisis #hich is a"out its financial sector$ $.2 The )in*nci*+ sector +here is a clear lin* of the so!erei)n de"t crisis #ith the financial sector throu)h its e/posure to de"t holdin)s of the ailin) countries$ +his interaction )oes in "oth directions: a deepenin) de"t crisis #ea*ens the financial sector "ecause of its holdin)s of pu"lic "onds #hich !alue is ne)ati!ely impacted "y the crisis$ But a #ea*er financial sector has a reduced capacity to )rant loans' #hich may ha!e a ne)ati!e impact on economic acti!ity' on ta/ receipts and therefore on pu"lic de"t$ No #onder that much attention is therefore focused on the European financial sector$ ,et me ma*e t#o short comments in this respect: &$ First on Ireland$ Its pu"lic de"t to 7FP ratio "efore the crisis 4end 300=5 compared to no#adays has e/ploded from 3(2 to more than &002$ +his e/plosion is due to the fact that the Irish "an*in) sector )ot "an*rupt after the "urst of the housin) "u""le in this country durin) the #orld financial crisis$ Forced to "ail out a "an*in) sector #hich si-e #as too important accordin) to its fundin) capacity' the Irish 7o!ernment #as o"li)ed to as* for help from the European Anion and to enter into the European assistance mechanism: a "an*in) crisis has "een transmuted into a Bo!erei)n de"t crisis$ In the euro area #hich has an inte)rated monetary policy' the "an*in) systems remain lar)ely national$ Gou can see this feature in the follo#in) ta"le ta*en from a Brue)el policy contri"ution

"y Lean Pisani0Ferry 819$

+he Irish case sho#s that despite pro)ress in the pan0European "an*in) super!ision architecture 4#ith the creation of the European Ban*in) Authority and the European Bystemic >is* Board5' there is still a de!ice missin) at the European le!el to ta*e care of the "ail out of a national "an*in) sector #hich "an*ruptcy may entail a systemic ris* for the #hole euro area' #hen the country does not possess the fundin) capacity to "ear the "ail out "y itself$ 3$ My second comment is a"out the recapitali-ation of European "an*s$ In order to stren)then the "an*in) sector' policy ma*ers are draftin) re)ulatory rules across the EA *no#n as Basel III$ ,ast summer' fearin) an insufficient resilience of the European "an*in) sector to the euro crisis' the European Ban*in) Authority' under the pressure of the IMF' forced the European "an*s to increase their capital ratio' accordin) to a timin) #ell in ad!ance to the Basel III a)enda$ +his increase in the capital of the "an*s #as already under#ay in 30&& as sho#n in the follo#in) ta"le$

I do thin* that this insistence' e!en throu)h perfectly Custified' #as ill0scheduled$ It has led many "an*s to start a process of reducin) the amount of credit lent to the economy at a time #here the euro-one #as already slo#in) do#n' there"y raisin) the prospect of a recession' the #orst scenario that can "e ima)ined for the euro crisis$ %hich leads me to the third dimension of the crisis' #hich is a"out the real economy$ $.$ The re*+ econo,,ate last year Euro-one industrial production contracted sharply' possi"ly' heraldin) a euro-one recession$ +here are at least three reasons for this do#nturn: 1) As mentioned earlier' an early ti)htenin) of "an* re.uired capital ratios #hich ha!e contri"uted to put the euro-one economy on the !er)e of a credit crunch$ 2) +he ne)ati!e impact of economic policies follo#ed in peripheric countries #hich led some of them in recessionary territories 47reece' Portu)al' Italy and Bpain5$ $) +he rather relati!e strict monetary policy of ECB as compared to other Central Ban*s 4the FEF' the Ban* of En)land' the Ban* of Lapan5' #hich can "e o"ser!ed on the )raph #hich )i!es the *ey inter!ention rate tar)et of the main Central Ban*s:

+he e!olution of the crisis and the near "rea*do#n in trust last fall lead the ECB to inter!ene$ After the Fecem"er 9th European Bummit #here Mem"er Btates committed themsel!es to si)n a +reaty to respect fiscal attitude' the ECB too* a decisi!e step: instead of focusin) on "ond "uyin) pro)ram' on Fecem"er 3&' 30&& the ne# President of the ECB' Mario Fra)hi' launched a lon) term refinancin) operation 4,+><5 to "e rene#ed on Fe"ruary 39' 30&3' allo#in) "an*s to "orro# li.uidity at #ill at a cost of &2 for a three0year time$ Its effect #as dramatic$ Lust "efore

Christmas' (31 "an*s "orro#ed an amount of M NI9 "illion$ +his decision #hich #as permitted "y the adoption of the ne# 6%$-, 1 ,*.+ ,(6 "indin) euro-one politicians to stron)er rules on pu"lic finances pro!ided a #all of money #hich' as Mario Fra)hi ri)htly said' 6 !*$#"# . 7*&, . 7*& ,&"#$( ,&)',h6$ It also contri"uted to reducin) the pressure on the so!erei)n de"t mar*ets of peripheric countries' many "an*s usin) this cheap li.uidity to underta*e carry trade operations on these treasury "onds$ By reducin) in a first mo!e last fall its tar)et rate of (0 "asis points' then "y launchin) this ,+>< operation' the ECB has em"ar*ed into a monetary policy #hich is in my !ie# more in line #ith the needs of the euro-one$ For the euro area to cope efficiently #ith the euro crisis' the ri)ht policy mi/ is presently to couple an una!oida"le restricti!e fiscal stance #ith a more accommodati!e monetary policy$ I recently spo*e in Fa!os #ith Nouriel >ou"ini' 4 #)//"# 8M$-("& D**.85' and #e at least a)reed on that point that the euro-one cannot afford to pursue a monetary policy #hich is more restricti!e than in the AB' in the AH and in Lapan$ In this respect' it is interestin) to notice that the Me/ican President' Mr$ Calderon' #hose country is in char)e of the 730' is pu"licly ad!ocatin) for a #ea*er euro$ Conc+usion: ,et me conclude this presentation "y a comment on the euro itself$ +he euro crisis led many economists' commentators and e!en politicians to predict that the euro-one #ould "lo# out and that the European currency #ould e!entually disappear$ %hat #e o"ser!e today is that if the crisis is certainly not o!er' the landscape ne!ertheless has dramatically chan)ed$ +he mood today is much less pessimistic$ Ne# 7o!ernments are underta*in) coura)eous and painful policies$ Fespite all the sufferin)' none of these Mem"er Btates e!er contemplated the prospect of their country lea!in) the euro$ ,oo* at 7reece$ %hen I #as in Athens a fe# days a)o' I reali-ed that the )reat maCority of the 7ree* people did not #ant to "e out of the euro area and #ere ready to accept the sacrifices #hich #ere necessary for them to stay in the euro area$ +he current crisis is pro!in) the resilience of the European currency: it remains attracti!e not only to states inside the euro area' "ut some in its periphery are still *noc*in) at the door$ In 3000' shortly after the launch of the euro' I #rote a "oo* ar)uin) that countries adoptin) the common currency should "e forced' due to the euro' to underta*e the necessary reforms$ +en years later' structural reforms concernin) the pensions system' the la"our mar*et' competition in many sectors' pri!ati-ation' reduction of the si-e of the pu"lic sector' are under#ay or planned in all the euro area countries #hich are in need for them$ If durin) the first ten years of the European currency the euro alone could not "e a sufficient tri))er' the crisis of the euro -one' precisely "ecause it #as constrained "y the discipline imposed "y the common currency' is forcin) all the Mem"er countries to do their home#or*$ And there is no dou"t that at the end of the day all of them #ill "e more competiti!e' more ro"ust and they #ill end up #ith an economic' fiscal and social frame#or* more efficient and "etter fitted to the harsh rules of )lo"ali-ation$ At the European le!el' the crisis forced Mem"er Btates to stren)then their common )o!ernance$ %ith the adoption of the Euro Pact' they are enhancin) multilateral sur!eillance amon) them$ +hey ha!e also desi)ned ne# tools to fi)ht the crisis and to pro!ide the necessary assistance to countries in need of help$ And Article I of the ne# +reaty under adoption' intends precisely to 6-(&"'2(h"' (h" ",*'*.$, +$11 & *% E,*'*.$, '# M*'"( &y U'$*' /y #*+($'2 -"( *% &)1"$'("'#"# (* %*-("& /)#2"( &y #$-,$+1$'" (h&*)2h %$-, 1 ,*.+ ,(, (* -(&"'2(h"' (h" ,**&#$' ($*' *% (h" ",*'*.$, +*1$,$"- '# (* $.+&*!" (h" G*!"&' '," *% (h" ")&* &" 6$ Lean Monnet' the foundin) father of the methodolo)y of the European construction' presciently o"ser!ed in his 6M".*$&-6 1( years a)o: 6(h" E)&*+" ' ,*'-(&),($*' $- .*!$'2 h" # #)&$'2 ,&$-"- '# $( 6$11 /" (h" -). *% (h" -*1)($*'- /&*)2h( /*)( $' *&#"& (* *!"&,*." (h". 6$ <nce a)ain' the ma)ic of the European construction is e/ercisin) its effects in front of us$ Nothin) is definitely settled$ But #ho can deny that al"eit painfully #e are mo!in) in the ri)ht direction:

In order to put a definiti!e stop to the systemic dynamic #hich has desta"ili-ed the euro-one' is it enou)h to institute a set of rules that e!ery country should ha!e to adhere to: I am "elon)in) myself to the school of thou)hts #hich thin*s that a )enuine' .uantum leap for#ard is needed to esta"lish federal structures to)ether #ith economic po#er at the euro-one le!el under the democratic control "y parliamentary institutions$ %e ha!e to thin* this throu)h #ith the !ision and am"ition that the seriousness of the crisis commands$ But #e must ac*no#led)e that a si)nificant part of the tas* is already under#ay$

8&9 Bpeech )i!en at >enmin Ani!ersity of China 0 BeiCin)' Fe"ruary 3?th 30&3 839 Paul de 7rau#e' Guemei Li' 6Mispricin) of Bo!erei)n >is* and Multiple E.uili"rium in the Euro-one6' unpu"lished' ,eu!en' Lanuary 30&3$ 819 Lean Pisani0Ferry : 6+he Euro Crisis and the Ne# Impossi"le +rinity6' Brue)el Policy contri"ution' Lanuary 30&3$

Pu"lishin) Firector: Pascale L<ANNIN The Ro(ert Schu,*n Found*tion ' created in &99& and ac*no#led)ed "y Btate decree in &993' is the main French research centre on Europe$ It de!elops research on the European Anion and its policies and promotes the content of these in France ' Europe and a"road$ It encoura)es' enriches and stimulates European de"ate than*s to its research' pu"lications and the or)anisation of conferences$ +he Foundation is presided o!er "y Mr$ Lean0Fomini.ue 7iuliani$

INTRODUCTION: The eurocrisis explained Feelin1 nervous a'out pa)in1 the 'ills> AnDious> Stressed a'out mone)> Qou re in 1ood compan)- 'ecause that s @ust ho( the euro=one feels# It s difficult to 1et to 1rips (ith the financial crisis# <henever some'od) (ith a 'it of authorit) 8 an economist- sa)- or a senior politician 8 tries to eDplain (hat s 1oin1 onthe) start 'and)in1 around terms such as A'ond )ieldB- A%reDitB- AhaircutB and A@un3B# In this serialised report (e tr) to eDplain- @ar1onKfree- (hat s happenin1 in the euro=one and (hat the actionKplan is for 1ettin1 thin1s 'ac3 on trac3# In this introductor) section to the report- (e reveal the 3e) factors (hich led to the financial crisis# In "ART + (e (ill ta3e a loo3 at the different t)pes of investment funds 'ein1 adopted ') investors as a (a) to (eather the economic storm# <hich 3e) factors led to the eurocrisis> In a nutshell; /urope is in crisis 'ecause it has 'een livin1 'e)ond its means# Jo sin1le /uropean countr) is to 'lameR the entire euro=one ar1ua'l) thre( economic caution to the (ind# Durin1 the A1oodB times- countries in the euro=one could 'orro( mone) cheapl)- at lo( rates of interest# Cecause of this AcheapB de't the euro area countries- lured ') the prospect of economic 1ro(th- 'e1an to 'orro( more and more# If the interest rates had remained lo(- perhaps the de't crisis could have 'een averted- 'ut the) didn t# The) rose# /ventuall) the euro=one 'it off more de't than it could che( 8 and @ust at the point (hen /urope s spendin1 spree (as veerin1 out of control- risin1 interest rates came alon1 to poop /urope s spendin1 part)#

9e) factor Jo# , S cheap de't# $i1her interest rates meant that /urope (as suddenl) facin1 a su'stantial de't# <hereas 'efore- /urope (as 'orro(in1 at an Aafforda'leB level (i#e# at a lo( rate of interest that it could easil) repa))- all of a sudden- the repa)ments (eren t quite so afforda'le an) lon1er# 9e) factor Jo# + S risin1 interest rates# /urope s (orst fear (as (and still is) that a countr) in the euro area- una'le to mana1e its de'ts- mi1ht default on repa)ment# If one countr) usin1 the euro currenc) can t ma3e repa)ments- the flo( of cash 'et(een the euro =one sta1nates# 9een to avoid a default- the central /uropean institutions such as the International Monetar) Fund (IMF) and the /uropean 2entral Can3 (/2C) have 'een pa)in1 out lump sums of mone) ('ailouts) to Ahi1h ris3B euro=one countries (those in dan1er of defaultin1)# /urope is collectivel) crossin1 its fin1ers- hopin1 these 'ailouts (ill help insulate fra1ile euro=one finances- savin1 the euro currenc)# 9e) factor Jo#H S Cailouts# <e 3ne( that prospects for rescuin1 the euro (ere loo3in1 dice) (hen A'ond )ieldsB 8 a t)pe of investment 8 fell to an allKtime lo(# The returns on 1overnment 'ond )ields are currentl) at record lo(s in the ?S- the ?9 and %erman)# %ood ne(s if )ou re tr)in1 to 'orro(- 'ad ne(s if )ou re a lender# Lo( 'ond )ields mean t(o thin1s; (,) economic prospects on the hori=on loo3 a 'it 1loom)- and (+) investors- a(are that the) ma) see a 'etter return else(here- are 1ettin1 t(itch)# /conomic theor) isn t quite this simple of course 8 financiers and economists ar1ue that lo( 'ond )ields can 'e 'oth 1ood and 'ad 8 'ut as a 1eneral rule economists don t clap their hands (ith @o) at the ne(s of lo( )ields#

A<h) not>B- )ou as3# <ell- lo( )ields ma3e investors mi1ht) fid1et)# Investors (ant a secure investment portfolio (one (ith a lo( level of ris3) (ith a 1reat return (an investment (hich ma3es them a lot of mone))# That s a tric3) thin1 to offer even at the 'est of times- 'ut durin1 a time of economic insta'ilit) securit) and hi1h returns are especiall) hard to come ')# The (orr) is that investors (ill ta3e their mone) out of /urope and transfer it into ?S treasuries (the ?nited States equivalent to 1overnment 'onds)- ta3in1 mone) a(a) from the euro=one# 9e) factor Jo# 5 S Investor confidence (avers# In times of economic insta'ilit)- 3e) sta3eholders in the econom) 8 e#1# 'usinessesinvestors- and pensionKholders 8 start to thin3 a'out transferrin1 mone) a(a) from Apro'lemB areas- searchin1 for a 'etter return else(here# This cash eDodus creates a real drain on a countr) s resources- (hich onl) serves to further (ea3en an alread)K fra1ile econom)# Casicall)R investors (ant to earn more mone) from a 'etter interest rate- and the) leave- hopin1 to find it else(here# C) evacuatin1 cash to AsafeB =ones- a sort of financial hurricane pla)s outR pic3in1 up cash deposits at random and droppin1 them else(here- leavin1 'ehind it a path of economic destruction# All sectors from healthcare to small 'usinesses 'e1in to eDperience cash flo( pro'lems# <hen investors revo3e investments- it 'ecomes harder for people to 'orro( mone) 'ecause there are fe(er lenders# For 'usinesses- pa)in1 suppliers 'ecomes more difficult- and unpaid suppliers can t pa) their emplo)ees)# /mplo)ment opportunities are fe(er- salaries lo(er and spendin1 po(er diminished- and a hi1her rate of unemplo)ment means that more applications for loans are 'ein1 re@ected# /ventuall)the flo( of mone) reduces as all parties reduce their spendin1# This is one of the 3e) factors to recession ((here a countr) spends more than it earns)# 9e) factor Jo# G; 9e) sta3eholders ti1hten their (allets

As spendin1 reduces across the euro=one- economies 'e1in to contract (1et smaller)# This means that the 1overnment has a smaller income and de'ts 'ecame harder to repa)# To fund repa)ments- the 1overnment has to 1et the mone) for repa)ments else(here# In most cases the funds are raised via austerit) cuts# AAusterit)B simpl) means that 1overnments rei1n in their spendin1 in the follo(in1 areas; defence- state pensions- taD credits- the @o'see3er s allo(ance- child 'enefitshousin1 'enefit and income support- as (ell as prisons- roads and motor(a)shealthcare- education and the arts# It also raises taDes and cuts state salaries# These AsavedB funds are then redirected to(ards loan repa)ments# 9e) factor Jo# T; Austerit) stifles 1ro(th Austerit) is ver) unpopular- 'ecause it ma3es life ver) hard# It also divides people into t(o camps; supporters ((ho ar1ue that austerit) is the 'est lastKditch solution to reduce de't) and detractors ((ho 'elieve that austerit) A'lac3listsB a countr)panic3in1 investors and dela)in1 economic recover))# Is /urope headed for disaster- then> Much as (e d all li3e to 'elieve that the financial storm in the @ar of /urope can 'e (eathered- it s not loo3in1 too ros) for the euro at the moment# In theor)- (e 3no( ho( to fiD the crisis- 'ut puttin1 that theor) into practise- (ell&# The financial spine of /urope 8 the /uropean 2entral Can3 (/2C) 8 ma) )et 'e a'le to avert disaster# If the /2C continues to fund 'ailouts- /urope ma) 'u) itself a little recuperation time# /urope can then tac3le the t(o thin1s (hich could turn thin1s around for /urope; a central tradin1 platform (a place (here euro=one countries can 'u) and sell (ithout o'stacles) and a free la'our mar3et (a shared euro=one (or3force)#