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The Financial Crisis in Greece

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Anuj Gangwar

on 30 September 2012

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Transcript of The Financial Crisis in Greece

Economic downfall in Greece Impact of Crisis Impact on the EU Who came in help? Measures to get out Last decade Debt binge Economic crisis Southeastern Europe
Greece’s foreign policy focus on the region and growing trade volumes between the countries, neighboring Serbia, Albania, Macedonia, Romania, Bulgaria and Turkey cannot remain indifferent to the magnitude of the crisis next door. Inflation Prices by 2.9% (until September) By the end of the year i expected to be 3% A constant tax inflation of 1% Fiscal situation the fiscal target of government deficit will be missed. Target = € 17 065 mil (7.8 percent of GDP on the basis of the latest forecasts in 2011) why Revenue fatigue associated with:
a deeper recession
an unstable environment tax
considerable income losses Drastic fall in the value of Euro Domino effect on international
capital markets High interest rates Affected banking system Possible ruptures in financial markets 2010 – The first austerity measures: Objectives: to reduce government deficits below 3% of GDP by 2012 Results: more than 800,000 Greeks jobless =
40% unemployment rate (now at 16%) 2011 - New austerity measures ↑ •In 1980 and 1990 Greece faced similar financial difficulties Problem solved through devaluating the country’s former currency, the drachma shrink imports and raise exports. 1 January 2001, Greece became the 12th member of the Euro Area. Advantages benefits of joining the costs •Euro lowered inflation, reducing the uncertainty which lead to an inefficient allocation of resources. •Low inflation => larger economic horizons, encouraging borrowing and lending longer maturities •Low interest rate contributed to real growth rates. •2001 …. 2008 real GDP rose by an average of 3.9%/year (the second-highest growth rate in euro area) 2 Problems of Joining the costs 1.Run large fiscal imbalances 2.The country’s competitiveness
continued to deteriorate. (The average Greek family pays out 1600 € annually in bribes) The Economy Of Greece (2008) 27th Largest by GDP
33rd largest by ppp
GDP per capita 25th highest in the world
Developed economy with 22nd highest
Public sector accounts for 40% GDP Greek Economy: - Significant Problems (last decade) Greece is facing Debt Crisis Since it accumulated high levels of debt during the decade before the Financial crisis when the market was highly liquid. As the crisis got deepened there was a liquid crunch in world economy thereby making borrowings difficult as well as expensive and thereby improper debt repayments on time.
Government expenditures increased by 87%, revenues grew by only 31%
Rising unemployment
Insufficient Bureaucracy
Tax Invasion
Over-Staffing and poor productivity in the public sector
In 2009, Greek Government expenditures accounted for 50% of GDP
An Aging Greek Population burdens on public spending due to genrous pension system.
Greece's "replacement rate of 70%-80% of wages (plus any benefits from supplementary schemes) is high. Internationally Problem! * The euro has proven to be a major problem for greece, as it can't devalue it's currency in order to lessen it's debt burden and to boost exports, and it has exposed the weakness of the Greek economy in relation to other Eurozone members, most notably Germany.
* "A 20% devalutaion of the euro is bid deal, but everyone has to realise that the benefits of the devaluation are going to be spread quite unevenly." As per EU growth and stability pact, budget deficit criterion of no member shall be more than 3% of their GDP. Greece violated this from 2001 to 2006. It met the criterion in 2007-08, but again exceeded it in 2009, with the deficit reaching 12.7% of the GDP.

As a result of spending in deficit, the Greek government has accumulated debt over the years, reaching about $330 billion. Spill-over effect:
Some spillover effects have already started to manifest themselves. As Greek 10-year bonds fall and yields continue to remain above 6%, sovereign debt issuance and the risk premium investors demand to hold securities emitted by Romania, Serbia, Bulgaria and Turkey have been adversely affected. Greece is already in major breach of Euro-zone rules on deficit management and with the financial markets betting the country will default on its debts, this reflects badly on the credibility of the euro. Impact on private individuals:
The most obvious way would be through tax bills, as Europe agrees to ride to the rescue and help Greece deal with its mounting public and foreign debts.
Any assistance to Greece will come at a cost that will ultimately have to be borne by taxpayers in the nations that contribute. Contagion Effect
Greek crisis has made investors nervous about lending money to governments through buying government bonds.
Everybody's interest rates are heading higher as governments are having to pay a greater risk premium to borrow money. Reduced wealth:
Take-home pay is likely to fall as it is eroded by rising taxes and everyone will have to work longer before they retire - by which time they are likely to find that their pensions have shrunk. Every EU country has expressed its readiness to help
Italy and spain couldn’t participate as their own economies are troubled enough
Germany and france have taken the lead in preparing the rescue operation
The French and germans are pushing all euro zone states ratify an agreement to expand the bailout program 440 billion euros
Give the European financial stability facility greater flexibility to protect Greece
France and Germany are also determined to save their own banks 20-30% public Sector Wages
Cuts in unemloyment benefits
Suspension of the 2009 poverty support program
Lowered and frozen public pensions payments
A raise in the retirement age for public pensions
VAT from 19% to 23% A permanent levy on real estate, collected through the electricity invoices => collect at least EUR 1 667 mil in 2011 A reduction in tax exemptions, in particular the tax-free personal income thresholds => revenues by at least EUR 2 831 mil by 2012 Implementation of the revised wage grid for civil servants => expenditure by at least EUR 101 mil in 2011 with a carry over of at least EUR 552 mil for 2012 A cut in main, and supplementary, pensions, as well as lump sums paid on retirement => saving at least EUR 219 mil in 2011 and EUR 446 mil in 2012 Spending by the Green Fund, financed by fines on unauthorized establishments and settlements of planning => saving EUR 360 mil in 2010 Measures 1.The EU, the IMF & the ECB set up a tripartite committee (the TROIKA) to prepare an appropriate program.
2.First round of crisis response (May 2010): 3 years package of euro 110 billion, contributed by IMF (Euro 30 billion) and euro zone (euro 80 billion).
3.ECB provided substantial liquidity support to Greek’s private banks b/w Jan 2010 to May 2011 – Euro 51 billion.
4.Again Euro zone provided loan – July 2011 euro 109 billion.
5.ECB starts buying govt. debt from secondary market to reduce bond spread and to increase the confidence of investor. Between May 2010 to June 2011 ECB purchased euro 78 billion bonds, out of which euro 45 billion from Greece Govt. Other Solutions Control the Speculators activities.
Greece must cut on public expenditure to pay debts
Greece has to reduce import and increase imports to maintain the balance.
Sharply reduce the wages and salaries
Reduce the other benefits such as pension, social security, and increase taxes like VAT.
Avg value-added tax rate from 19% to 21%
Civil servant hiring freeze in 2010
5:1 retirement/recruitment ratio for new public sector hires from 2011
10% cut in civil service salary allowances
A freeze on state pensions Germany and the Euro rescue plan
Germany's parliament has approved the country's contribution to a 750bn euro ($938bn, £651bn) rescue deal for the Euro-zone.
The German contribution is key to the plan, and would amount to up to 148bn Euros. Chancellor Angela Merkel warned that the Euro would be "in danger" without strong action. The role of Greece
Greece has outlined plans to cut its budget deficit, or the amount its public spending exceeds taxation, to 8.7% of its GDP in 2010, and to less than 3% by 2012.
Just before the massive bail-out package was announced the Greek government pledged to make further spending cuts and tax increases totalling 30bn euros over three years - on top of austerity measures already taken. By:
Surabhi Ganvir EE10B012
Ankur Hayatnagarkar CS10B004
Sanjay Mani CS10B033
Anuj Gangwar CS10B041 75.8% 20.8% 3.4% Thank You.. Twin Deficit:
National Income or GDP is given as
Y = C+I+G+(X-M)
GDP is also given as
Y = C+S+T
From these two equations we get
(s-I)+(T-G) = (X-M)
i.e. if savings remain same, a budget deficit will result in either lowering of investment or will lead to current account deficit. Thus the Twin Deficit. INTRODUCTION

Greece is at a critical juncture of its recent history: the economic policies of the last three
decades have brought it close to bankruptcy, but bankruptcy can be avoided and growth can
resume if important economic reforms are made and rigorously implemented. Much of the debate about Greece’s current problems has focused on the short‐run management of the crisis. When was the public debt accumulated? What is debt??
 In any given year, the government has some revenue, e.g., arising from taxes, and  some expenditure, e.g., to pay public servants. If the expenditure is higher than the  revenue, then the government has a deficit and needs to borrow. This generates debt.  Government Debt (source: OECD) Consumption and investment Compared to the 1970s, consumption went up significantly during the 1980s, and investment went down by a roughly equal amount (8% of GDP). This means that Greek citizens were consuming more, while less was spent on productive investment, such as factories and highways. Both effects were caused to a large extent by the drastic increase in public debt during the 1980s, and by the way the government spent the money that it borrowed. Indeed, less than 25% of the money was spent on productive investment, i.e., public infrastructures. The bulk was spent instead to increase the wage bill in the public sector, i.e., more public servants and higher salaries, and to increase the pension bill, i.e. more pensioners and higher pensions. The recipients of the government money increased their consumption in response to their higher incomes, and this explains the increased consumption. Investment decreased because fewer private savings were available to finance it. Why is Greece heavily indebted to foreigners? Greece’s external debt, defined as debt owed to foreigners, was 82.5% of GDP in 2009.

How was the large external debt accumulated, and how did public debt contribute to this?
In the case of Greece, the private sector did not, in the net, borrow from foreigners, External borrowing was instead done by the government. When a country borrows from foreigners, it consumes more than it produces. The extra consumption is derived from imports, which the country can buy from foreigners with the money that it borrows from them.

In the case of Greece, this means that Greek citizens were consuming imported goods with money that their government was borrowing from foreigners.
The borrowed money was flowing from the government to the citizens through various channels, e.g., wages paid to public servants, payments to government suppliers, pensions paid to pensioners. In response to their higher incomes, citizens were consuming more‐‐‐and in the aggregate Greece was consuming more than it was producing. How did the decrease in savings interact with the public debt?
Despite their lower savings, Greek citizens were still saving enough during the 2000s to finance loans to their fellow citizens and to private firms. The problem is that savings had become insufficient to buy the bonds issued by the government. As a consequence, the government had to turn to foreigners to meet its financing needs. In this sense, the increase in Greece’s external debt during the 2000s was caused by the combination of the government’s large borrowing needs, and its citizens’ insufficient savings.
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