The Euro: Background
- Evolved from previous pan-European institutions, with its formal name change and major steps towards union from the Maastricht Treaty in 1993
- Monetary union commenced in 1999 with the euro as an accounting unit, and was completed with the introduction of physical euros in 2002.
- This single currency is managed by the European Central Bank As of January 1, 2015, there were 28 members of the EU, of which 19 use the euro (“eurozone”).
- There are several other countries that are part of the “single market” of the European economic area (EEA), or that use the euro as their currency without being part of the EU.
- Shortly after the Lehman failure, Irish banks were on the precipice, unable to fund the external gap built up during the boom.
- In September 2008, the Irish government made the most powerful response of any nation during the GFC: guaranteeing all liabilities for seven “covered banks” – a total of €375 billion, or about two times Irish GDP.
- It was clear to markets that €375 billion was just too big of a burden for the Irish government.
- Ultimately, Ireland required an international bailout in November 2010.
- Tiny country of about 320,000 people, less than 10% the population of Connecticut
- Dominated by three banks: Glitinir, Landsbanki, and Kaupthing (collectively, “GKL”)
- After the Northern Rock run of September 2007, there was increased pressure on GKL, and the online accounts began a slow run (jog?).
- After Lehman, the jog turned to a sprint, and GKL were unable to keep up their short-term funding. Iceland nationalized all three banks over the week of October 6.
- Iceland’s deposit fund was insufficient to pay everyone back, and so they made the controversial decision to pay back only domestic customers.
- The UK and the Netherlands made their own depositors whole, but were not pleased.
- The causes and immediate consequences of the GFC were similar between Europe and the United States.
- Ireland had a lending boom leading to a domestic house bubble, and the government’s aggressive actions to guarantee Irish banks backfired into a sovereign debt crisis.
- Iceland built a financial center on foreign lending. The scale of losses were too large for the government to guarantee the system, so Icelandic banks were nationalized and defaulted on foreign depositors.
- After 2009, the eurozone countries lurched from crisis to crisis, with intertwined banking, sovereign debt, and growth problems.
Special thanks to Timothy F. Geithner (Lecturer in Management, Yale SOM, Former U.S. Secretary of the Treasury, Yale School of Management) and Andrew Metrick (Michael H. Jordan Professor of Finance and Management, Yale School of Management)
Greek Prime Minister George Papandreou’s grip on power weakened before a confidence vote on Nov. 4 as his decision to call a referendum on a new bailout package provoked a lawmaker rebellion.
Milena Apostolaki said she will defect from Papandreou’s socialist Pasok party. With Kerdos newspaper reporting that Eva Kaili will also abandon Pasok, Papandreou would only control 151 seats in the 300-seat chamber. Six members of the party called on the premier to resign in a joint letter, Athens News Agency said today. Greek ministers meet at 6 p.m. local time today.
Stocks fell, the euro tumbled and Italian bonds plunged on concern that the referendum, which blindsided Greek lawmakers as well as European policy makers, will push Greece into default if the bailout is rejected. Austerity steps imposed by creditors have sparked a wave of social unrest in the past 18 months, undermining support for the government. Papandreou won his last major vote on austerity measures by 154 votes to 144 on Oct. 20.
“If it continues with Papandreou and the referendum, we will end up with a default and the default will push us into the drachma,” said former Greek Finance Minister Stefanos Manos in an interview with Dublin-based broadcaster RTE today. The referendum call puts in jeopardy the payment of the next installment of bailout funds by the International Monetary Fund and the European Union, he said.
Another key member of the ruling party, Vasso Papandreou, called on the Greek president to move towards forming a national unity government.
German bunds jumped, sending yields down the most since March 2009, and the euro weakened while stocks and U.S. futures fell. German 10-year yields slipped 25 basis points to 1.78 percent at 12:47 a.m. in London. Italian bonds dropped, pushing the 10-year yield to as much as 452 basis points above benchmark German bunds, a euro-era record. The euro was 1.7 percent lower at $1.3716 after yesterday’s 2 percent decline.
A rejection of the EU-IMF aid plan “would increase the risk of a forced and disorderly sovereign default” and increases the chance of Greece leaving the euro, Fitch Ratings said in a statement today.
Papandreou, 59, wants to hold a referendum after details of last week’s second bailout package for Greece are approved. The vote of confidence in Parliament will begin tomorrow and conclude late on Nov. 4.
“The crisis in the country has taken on uncontrollable dimensions and threatens the cohesion of Greek society,” said lawmaker Milena Apostolaki, who said she will defect from Pasok.“The titanic effort needed to exit the crisis needs national acceptance and social support. A referendum is a deeply divisive process. I want to express my categorical disagreement with this initiative of the government.”
Most of the 1,009 people surveyed on Oct. 27, the day the new bailout package was announced, said the accord should be put to a referendum, according to the results of a Kapa Research SA poll, published in To Vima newspaper. Forty-six percent said they’d oppose the plan at such a referendum. In the same poll, more than seven in 10 favored Greece remaining in the euro.
“Papandreou’s government is something that defies logic: it ought to have fallen some time ago given the economic situation of Greece,” said Niall Ferguson, a historian currently at Harvard University, in a Bloomberg Television interview. “The reason it hasn’t is that the Greeks themselves aren’t sure if there’s a better alternative to this grim austerity.”
EU leaders carved out a second aid package for Greece at a summit in Brussels lasting into the early hours of Oct. 27, after Papandreou scraped together parliamentary approval for the second round of austerity measures in four months. Greece will receive 130 billion euros ($180 billion) in public funds plus a 50 percent writedown on Greek debt, following a fully taxpayer- funded package of 110 billion euros extended in May 2010.
“For the new agreement, we must go to a referendum for Greeks to decide,” Papandreou told Pasok lawmakers yesterday. “Democracy is alive and well and Greeks are being called to rise to a national duty beyond the regular electoral processes.”
The MSCI All-Country World Index retreated 1.6 percent and Standard & Poor’s 500 Index futures lost 1.4 percent. The Athens benchmark general index sank 6.2 percent to 758.46 at 12:10 p.m. in Athens.
Pacific Investment Management Co. Chief Executive Officer Mohamed El-Erian said the referendum call “is material and consequential.”
“In addition to constituting a major political gamble, the run-up will put the European Central Bank, EU and International Monetary Fund in a tough position regarding disbursements to Greece,” El-Erian said in an e-mail today. He also expressed concern that the European Union deal “appears to be unraveling from many sides.”