The Euro Crisis - How Did We Get To Where We Are?

by Hannah Gent

The world is in the middle of very turbulent financial times, particularly in Europe. In the first of two articles I will explain how the current situation has arisen.

In 1958, six European countries decided to join together for their mutual benefit. It was soon after the Second World War and it was thought that future conflicts could be avoided by greater cooperation. This was the beginning of the European Union (EU) although it was not known by this name until 1993. There are now 27 member states mainly within Europe. 

The growth of the Euro area.

In 1999, integration was taken one step further through monetary union with the introduction of the Euro currency, with 17 countries currently using the Euro. The benefits were obvious - people could move from country to country without changing currency and strict financial regulation from the European Central Bank would allow stability across the whole Euro zone. However, even in the earlier days, critics of the Euro warned that the ‘one size fits all’ approach had potential, significant risks. They argued that Euro zone countries were so diverse, politically and economically, that the straitjacket of the Euro would stop individual countries doing what was in their own best interests.

There followed a period of significant growth that allowed countries to borrow considerable amounts of money at low interest rates. Euro countries were only supposed to borrow up to certain limits but the regulatory authorities were too flexible with the rules.

By December of 2008, it had become apparent that some countries had built up massive amounts of debt and with an economic slow-down, were struggling to control the level of this debt. Banks that had lent to these countries realised that they might lose their money. The cost of borrowing for these countries therefore rose further, making the situation worse and several large banks were at risk of failing due to the amounts owed to them. This became what we now know as the 2008 Financial Crisis. The EU leaders could not allow the situation to spiral out of control and came to an agreement on a 200 billion euro stimulus package to boost economic growth in Europe. Many countries had issues because they were all joined together with the same interest rates. Being at different stages in their economical cycles meant that they needed different rates - countries with high rates of growth needed higher interest rates to cool their economies, countries struggling to grow needed lower interest rates to encourage this growth, but they could not.


In April 2009, some countries – France, Germany, Greece and the Irish Republic – were told to decrease their budget deficits by the EU.  By November, concern started to build up due to the continuing debts in some countries and by December, Greece finally admitted to having debt worth 300billion Euros. This was the largest debt in modern history, amounting to 113% of Greece’s Gross Domestic Product (GDP), although the EU had already set a euro zone limit of 60%. Following this, in early 2010 much of the focus was on Greece. However, as the year progressed more concern started to grow around other heavily indebted European countries including Portugal, Ireland and Spain. As the economies in these countries fell into recession, they also struggled with high unemployment and reduced tax revenues.
The situation gradually grew worse with more countries needing to be bailed out and the amounts increasing dramatically. In January 2012, the ‘fiscal pact’ that was agreed in December by the EU was signed. The Czech Republic and the UK both refrained from signing this, because they wanted to retain the ability to control their own financial affairs, although the 25 other members agreed. The Fiscal Pact is designed to make countries stick more rigidly to the rules with automatic penalties if they are broken. In particular, it forces countries to lower the amount of debt. Some people, however, believe that reducing government spending and increasing taxation - ‘austerity measures’ - is not the way out of the current crisis. They believe that increasing government spending to stimulate national economies to provide growth is the correct way forward.

A lot depends on the Fiscal Pact being implemented. There are concerns that the Euro crisis is far from over. In the second of my two articles I will look at the impact of the French presidential election and the fall of the Dutch Government, and how these two factors are so influential on whether the Euro survives.


Read the next instalment in this two-part series

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