The Eurozone Act 4

Mark Sandford - June 2012
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In recent weeks, the eurozone debt crisis has reared its ugly head yet again, casting a black shadow over future growth of the global economy. Despite assurances that it was never likely to happen, Spain was forced by market pressure to apply for a bailout of 100bn euros to prop up its struggling banks that are still grappling with toxic loans. This package did not stop the bond rate going up on Spanish debt every time the government approaches the capital market to borrow more funds.

Consequently the Spanish Government has been forced to announce a programme of cuts in State spending amounting to 27bn euros from its budget. This is unlikely to revive an economy already in recession and with the highest unemployment in the eurozone. 1 in 4 of the workforce has no job and are highly unlikely to find one. The government has had no choice but freeze public sector wages and unemployment benefits as well as force larger companies to pay more tax. Nor has the recent bailout restored investor's confidence in the Spanish economy. Like it or lump it, the government has got to address structural issues certainly in the medium term such as labour market reform.

After a second crunch election in Greece, the parties have managed to form a coalition led by the centre right New Democracy party led by Antonis Samaras. At one point, there was widespread speculation and comment that the Greek people might elect a government determined to renounce the terms of the IMF bailout and take Greece out of the euro. That chilling prospect has not happened yet. The Greek people have finally woken up to the hard facts of economic life and realise that the country has lived beyond its means for a number of years. Nor can they expect to make everything better by throwing the rule book out of the window.

The new government will no doubt request a renegotiation of some out of the bailout terms but the broad overall package must stand. The country entered into commitments as a condition of receiving the bailout funds from both the IMF and EU, so must therefore adhere to them. This means that Greece has to implement 11.7bn euros of austerity cuts, like it or lump it. Neither can other countries such as Germany be expected to provide more and more money at each turn of the screw. At the end of the day, the Greeks can only improve their economic prospects by adopting structurally based reforms where necessary to make themselves more competitive.

Many economists believe that Greece could still leave the euro and revert back to the drachma. This need not be a disaster for the country, provided that the process was properly managed. But the electorate should not kid themselves that this would provide a panacea for all the country's economic ills. There are signs that the Greek people have collectively recognized this fact at long last. Neither will the economy turn round overnight after having spent 5 years in constant recession. There is a long way to go yet.


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