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By most economists, the world financial crisis of 2008-2009 is considered to be one of the worst crises after the Great Depression that occurred in the 1930s. It led to the collapse of many financial institutions across the globe with many banks being provided with government bailouts (Savona 2011). Stock markets around the world suffered too. Most of them experienced downturn. In most countries, housing markets suffered greatly leading to evictions of populations, foreclosures, and high rates of unemployment. Businesses experienced failures, as consumer wealth severely declined.
This paper intends to explore the economic impact of the financial crisis and the credit crunch on Greece. It will thus focus on how financial institutions in Greece were affected by the financial crisis and the credit crunch. The work will also make an attempt to unravel the measures that Greek economic stakeholders and custodians have taken to address the challenges and issues caused by the events of the economic crisis. In order to accomplish this task, a careful assessment of the current evolution of the financial crisis and the relevance and sustainability of the measures taken against the crisis will be carried out.
Greece and the Impact of the First Financial Crisis
The first financial crisis had far-reaching effects on the economy of Greece, especially with regard to its economic variables such as inflation, unemployment, and the GDP of the country. The entry of Greece into the European Union in 2001 was perceived to be a move that would lead to economic progress especially arising from the benefits accrued by the euro members. These include elimination of exchange-rate fluctuations and the possibility of having devaluations that are very competitive, lowered inflation expectations which lead to low interest rates (Savona 2011). These would widen the economic horizons and propel economic development through stimulated private investment and increase in GDP and employment. Before the crisis and immediately following the entry of Greece into the euro zone, the Greek economy was relatively stable with real GDP rising by an average of 3.9 per cent annually and very low interest rates (Savona 2011).
The collapse of Lehman Brothers in 2008 led to a meltdown of many other financial institutions. Following the financial crisis, the Greek economy registered severe consequences. The crisis led to a decline in Greek GDP to 4.1 per cent. The reduction in the private investment in 2007 as a consequence of the financial crisis was evident in Greece (Petrakis 2011). The decline in private investment was caused by the fear of the implications of the financial crisis. As a result, many private firms and corporations were closed down leading to mass retrenchment and labor layoffs. This explains the cause of the high rates of unemployment that severely affected the Greek population.
The post-financial crisis and credit crunch period also led to the crunch of major financial institutions in Greece including major banks. This pushed the Greek government to borrow funds from the World bank and the IMF to revive the economy through economic stimulus packages. However, this strategy did not effectively stimulate the economic development, and instead the economy plunged deeper into the crisis. The Greek government is currently in a bad debt crisis following the borrowings to bailout many of its financial institutions and to spur growth through economic stimulus packages. Besides, there were several foreclosures and evacuations from houses whose real estate loans could not be cleared (Petrakis 2011). Real estate owners established the facilities before the credit crunch by taking loans from European Commercial Bank (ECB) at relatively low interest rates. With the global financial meltdown and the intervention of the national government to bailout banks and other financial institutions, real estate owners could not afford the already high interest that banks and other financial institutions had started demanding (Savona 2011, p. 76).
Assessment Done by Credit Rating Agencies and the Effect of the Crisis on Financial Institutions in Greece
Most economists have contended that credit rating agencies significantly contributed to the global financial crisis that hit Greece and the entire euro zone. The agencies underestimated the risk that the issuers of some complex financial instruments were likely not to repay their debts. The credit rating agencies tended to over-estimate and give high ratings to many of the complicated financial instruments before the crisis set in, especially in Greece (Dolezalek 2012). As a result, most inexperienced investors got persuaded and purchased their credits prior to proper assessment of the risks of such financial instruments. Furthermore, the credit rating agencies failed to reflect all possible risks and meltdowns of these financial agencies, even as the market conditions began to worsen. The errors of the credit rating agencies together with the non-strategic investment strategies of the investors contributed significantly to the debt crisis in which Greece got involved.
Before the crisis adversely affected Greece, the credit rating assessments had indicated that the Greek economy was not doing well. For example, Greek was already running deficits that were far above the threshold of 3% of GDP. The country had a budgetary deficit of 3.7%, and there were projections that this would have risen to 12.7% by the end of the year 2009 (Dolezalek 2012, p. 112). Although these projections and assessments were partly attributable to the global recession, they were also caused by the fact that Greece was on the verge of financial bankruptcy. Even after the crisis, there have not been any significant changes in the Greek economy and the entire European Union due to the state of bankruptcy that the country was facing by the time the crisis knocked down most of its financial institutions. Therefore, the projections of the credit rating agencies still claim that the Greek government must find a quick and feasible approach to dealing with the soaring effects of the crisis that is threatening to disintegrate its economy.
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Financial institutions in Greece have been left in a dilapidated state. This calls for a financial bailout which is still a challenge to the Greek government considering the debt in which it is trapped. The Greek stock that started to peak in 2007 could not do any better with the biting crisis. There are estimations that Greek banks and other financial institutions within the euro zone have lost a total of $ 1 trillion. This money was spent majorly on toxic assets and bad loans that were issued between 2007 and 2009. European bank lost approximately $ 1.6 trillion (almost 40%) (Dolezalek 2012). Most of the financial institutions in Greek were increasingly unable to access financial support through credit markets, especially because of the poor credit ratings that they had registered. Their return to investment rating was mostly reading negative index. As a result, almost 100 mortgage lenders and other financial institutions in Greece became bankrupt between 2007 and 2008 (Baumann, Broyer, Petersen, & Schnider 2012, p. 4). The financial institutions that lent out monies for mortgages registered a great decline in the aftermath of the financial crisis. The Bank of Greece, for example, was rendered unable to offer bailout from the national government because of its fiscal deficits that had reached 9.4%. The mortgage market that had registered an average growth of 30% annually from 2001-2007 also declined. This is due to the changes that have hit the interest rate movements in Greece. This has had great effects on macroeconomic variables of Greece. For example, economy shrunk by 6 % in 2011, while the unemployment rate rose to 17.3 % up from 12.5 % in 2010 (Baumann et al. 2012). The majority of the unemployed are young people with a standing of over 50%. The debt to GDP ratio is estimated to stand at 160% leading to a budget deficit of 7% GDP in the year 2012.
Causes and the Spread of the Financial Crisis in Greece
The financial crisis that hit the global economy and had a dramatic effect on Greece was partly caused by imprudent mortgage lending (Kolb 2010). The availability of credit facilities in most of the financial institutions led to a decline in the interest rates for mortgage loans, while the cost of houses shot up. Therefore, financial institutions relaxed the lending standards to enable more people access housing mortgages. As a result, many people bought houses that they could not afford. Unfortunately, the interest started fluctuating leading to a sudden severe tremor of the financial system. The imprudent management led to inaccuracies in the credit rating by the credit rating agencies (Kolb 2010, p. 47). The economy of Greece was thus severely affected given the financial integration that followed its inclusion in the European Union from 2001. As many people became unable to pay out their mortgages, financial institutions including the Federal Reserve, the World Bank, IMF and the Greek Central Bank were hit by the crisis.
The Federal Reserve can be blamed for the crisis that struck the global economy. This is partly because easy money policies of the Federal Reserve led to the housing bubble. The prices of houses, therefore, rose to levels that were not sustainable. Since it is difficult to identify a bubble until it bursts, the Federal Reserve’s efforts to maintain the condition were counterproductive. The spread of this crisis across the globe was majorly through the regional and global financial integration that the economies of most countries are based on. Through the lending from the World Bank and the IMF, it was easy for the crisis to get to other countries, especially through fluctuating exchange rates during international trades and differences in currencies. The situation was even worse for the economies that had integrated currencies like the Euro of the European Union, where Greece is one of the members (Kolb 2010, p. 232).
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Also, the inequalities in the global economy can be used to explain the events leading to the financial crisis. There exists an unsustainable pattern in global financial flows. For example, some countries such as China, Japan, and Germany have large surpluses almost annually. On the contrary, the US and the U.K run huge deficits every year. The deficits of these countries are reflected in the internal deficits that are evident in the households and government-owned public sectors. Kolb (2010, p. 67) cited that in order to cater for the resulting stress, financial borrowings and lending occur almost every year leading to significant financial disruptions not only within American economy, but even globally, once again due to global financial integrations of most modern economies. To date, there is no fundamental adjustment that has reversed the imbalances. The exchange value of the US dollar remains low even as US faces persistent deficits that are trickling down to other economies within the global financial system (Kolb 2010, 76).
In a bid to assess the risks of complex financial instruments, various difficulties were experienced. This is cited by most economists as the main reason why the credit risk agencies are involved in the whole dilemma of the Greek economic and financial crisis. For example, even before the financial recession and the credit crunch, Greece had already had a very high level of deficit related to its GDP (Petrakis 2011, p. 89). With the borrowings that Greece had from the World Bank and the IMF, it was difficult to assess the risks. This was mainly because even after the investment of money to stimulate economic growth, economy still did not manage to recover from the crisis. The evaluations and projections done by the credit security agencies were based on assumptions that economic stimulus programs that IMF and World Bank funds targeted would have made a difference.
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Measures Undertaken by Greece to Counteract the Financial Crisis
The Greek government responded to the financial crisis by securing funding from the International Monetary Fund through the European Commission’s Ecofin Council (Nelson, Belkin & Mix 2011, p.3). An emergency funding of 750 billion pounds was, therefore, approved to help constrain the spiraling public debt in Greece. The Greek government resorted to an economic stimulus program to revive the national economy and cut on the debt crisis that it had already been involved in. However, this was not successful and most of the projects did not register positive growth and development. Consequently, the debt of Greece went even higher as the economic crisis persisted. The government then resorted to monitoring of the financial sector. The banking sector support plan responded adequately through re-capitalization needs of economy (Petrakis 2011, p. 85).
At the beginning of 2009, Greece focused on reducing the structural deficits by 2.5% of GDP (Kolb 2010, p. 123). Automatic stabilizers worked towards the stabilization of fiscal policies that sought to bring public accounts into balance. This was done through imposition of expenditure controls. Nelson et al. (2011, p. 17) cited that at the height of the crisis, the Greek government stepped up its strategies through privatization of most state corporations to spur efficiency, profitability, and productivity. However, this was not very successful considering the fact that the taxation levels for goods and services increased leading to a public unrest. The austerity measures focused on enhanced revenue. There was an increased focus on crack-down on those who evaded taxes (Nelson et al. 2011, p. 9-15). The government, therefore, raised the value-added tax rates and taxes on some commodities and products such as fuel, tobacco, and alcohol. These additional taxes were meant to raise further revenues so that Greece could overcome its budgetary deficits. The privatization decision also led to a rise in the levels of unemployment, as many people who were initially employed in the public sector lost their jobs.
The austerity measures in the wake of the financial crisis that affected Greece also focused on cutting public spending by the government. This led to freezing of the civil service compensation. This also led to civil service hiring being frozen. The European Central Bank and the US Federal Reserve also responded by buying European government bonds in the secondary markets. This was aimed at increasing confidence and lowering bonds spreads for the euro bonds that were facing market pressure following the crisis. This response and strategy led to the rise of European Central Bank by 40% of Greece’s 2011 GDP (Nelson et al. 2011, p. 45).
Political Sustainability of the Austerity Measures in Greece
Most of the response policies to constrain the hitting effects of the global financial crisis have not been politically and economically sustainable. The Papandreou’s Panhellenic Socialist Movement was elected on the platform of social protection, rise in wages, improvement of the welfare of the poor, and enhancement of redistribution of income. These are very contrary to the economic reforms and policies that have been launched by the austerity measures. The austerity measures that required cut in the public spending have been met by resistance based on the campaign pledges (Petrakis 2011). Public sector workers and their supporters went to the streets and protested against the proposals. The opinion polls related to the feasibility of the austerity measures and the attitude of the Greek to the policies showed that 50% of the populations were in favor of the parliament to reject the measures.
Feasibility of the Austerity Measures and the Greece Sovereign Debt Sustainability
The measures that have been taken in Greece in response to sovereign debt sustainability have succeeded in some phases and failed in others. In fact, in some instances, the measures have been counterproductive. For example, Greece’s public debt increased significantly between 2010 and 2011, rising from 143% of GDP to 166% with projections that this debt may increase even further hampering the stability and growth of the Greek economy. The growth of the economy is also proving difficult given that the austerity measures have severely depressed the domestic sources of growth. Moreover, as a member of the Euro zone, Greece cannot successfully and independently depreciate its currency against its trading allies within the Euro block.
The unsustainability of the measures is evident because of the impacts they have created, especially with regard to rising rates of unemployment, government budget deficits, and the Greek debt crisis. While it is hard to project the possibility of Greece registering positive development, the economic cuts and reform efforts would spur higher growth. Greece is envisaged to achieve real growth of 2%. Thus by 2020, the government debt ratio will have come down to 103%. Through this, Greece should be able to shake off its debts and overcome the financial crisis. The debt ratio of Greece will go below the 100% mark if the government enhanced the structural changes that were introduced. Strong economic progress would enable the country to create more employment opportunities, improve wage levels, and foster public acceptance of the austerity measures and the euro initiatives.
The increase in privatizations in the Greek public corporation is expected to significantly reduce the sovereign debt. Besides, the large number of public financial assets implies that the net debt will considerably go down compared to the gross sovereign debt. The Greek debt from the IMF, the World Bank, and European Central Bank has moderate interest rates. This will make the burden less heavy. The interest rates that Greece is paying for the issued bonds standing merely at 2% will ensure that it pays substantially lower amounts for the loans taken. However, economic stimulus programs and packages will significantly enhance growth and restore investor confidence in the Greek economy and the entire European Union trading block. Although there are challenges that the austerity programs present, the benefits are far-reaching in the long-term.
In conclusion, the future financial economic stability of Greece heavily depends on its ability to strategically and comprehensively implement the economic austerity programs. For example, the increase in privatization cuts in public spending and the freezing of public employment would appear to be counterproductive in the short term. However, given time, these programs would be very beneficial. The country’s GDP is likely to stabilize if the government impartially implemented the increase in tax on oil and other products while tightening the rules of tax evasion. With additional revenue collection, reduced public spending, and increased investment of the aid received from the World Bank, the IMF and other institutions, the country will overcome the sovereign debt crisis that it is currently facing.
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