EUROPEAN DEBT CRISIS
European Debt Crisis is the failure of its currency EURO that ties together 19 European countries
When one country is at the brink of a financial collapse it risks the entire world directly or indirectly.
The European countries who had adopted Euro from 1St Jan 1999, had discontinued their currencies and monetary polices giving control to European Central bank to set a singal currency and a united monetary policy. However fiscal policies of each country where different, which was one of the key reason for the crisis.
Monetary Policies are controlled by the European Central Bank i.e. the authority who controls the supply of money in an economy and also decides the interest rates for borrowing.
Whereas fiscal policies are controlled by the Government of a country i.e. how much money the government collects as taxes and how much it spends.
A government can spent only what it collects as taxes, for any expenditure over that the Government has to borrow, this borrowed money used for government expenditure is called deficit spending. Before the Euro Zone smaller countries could borrow only a limited amount and the interest rate for this borrowing was very high.
However when Euro was created and because of its united Monetary policies smaller countries suddenly had so much access to the wealth than never before, there was no limit for borrowing and the interest was as well less. As the lenders believed if a certain country is unable to pay, then the countries with bigger economy example like Germany will pay up the debt as they are bound by a united monetary policy. Now with this abundance of cheap credit smaller countries started spending too much, than they can repay. German banks giving loans to French Bank and French Banks to Spanish Banks and so on this connected all the Euro zone countries and its fate together.
After the 2008 financial crisis most of the lender stopped lending and asked for repayment of there debts. Smaller countries where unable to pay so much money and looked towards the bigger economies in Euro zone to bailout. However the bigger countries had set certain conditions to bailout the smaller countries so that this scenario is not repeated, these conditions are called Austerity measures.
As per these terms the countries looking forward for bailout has to cut down their spending, borrow less and repay debts faster. But for these debt ridden countries it is not easy to implement this measure’s, as this will create unemployment and dissatisfaction among its citizens which will cause unrest and chaotic conditions.
As the debtor countries have borrowed money from Banks and Investors, as it closes to default everyone who loaned them money become’s week and everyone who loaned those lenders become week and so on. If one country defaults, it will cause a chain reaction and other’s to will default which will affect the global financial system.