We have all heard about the troubles of Greece, but are things really that bad? It does have huge debts, which is costing about 11.6% of GDP to service; and estimates suggest that government borrowing will need to be €53bn this year to cover budget shortfalls. Furthermore, its situation could spell trouble for the eurozone and in particular for certain countries. However, as the article below discusses, Greece still has some trump cards to play.
Advantage Greece BBC News blogs, Stephanomics, Stephanie Flanders (3/3/10)
Questions
- “The single most important factor propping it (Greek debt) up in the past year has been that it can be swapped for free money at the ECB.” How does this prop up Greek debt?
- If Greek debt does fall in value, how will other members of the Eurozone be affected?
- Why are countries such as France and Germany hostile to a loan to Greece from the IMF?
- If Greece was to collapse, which countries do you think could potentially follow? Which factors have influenced your answer?
With the majority of developed countries now moving out of recession, many people will think the worst is over. But for some countries and some people, there may be worse to come. The single currency in the eurozone was introduced in 1999 and in December 2009, the eurozone saw its highest level of unemployment at 10%. There are now 23 million people unemployed across the 16 countries that make up the eurozone and many of those people reside in Spain, where unemployment has reached a 12-year high of 18.8% and is even expected to reach 20%.
Interest rates in the eurozone and in the UK have been maintained at 1% and 0.5% respectively, and inflation has seen a rise in both places. Whilst in the eurozone inflation remains well below the inflation target, in the UK there has been a rapid rise to 2.9% to December 2009 (see Too much of a push from costs but no pull from demand)
While Spain is suffering from mass unemployment, Greece is struggling with the burden of a huge budget deficit. The former European Central Bank Chief Economist, Otmar Issing, has said that any bailout of Greece would severely damage the Monetary Union and “The Greek disease will spread”. With concern that Greece will not be able to service its debt, there is speculation that the country will be forced out of the currency bloc. However, the chair of the single currency area’s finance ministers said that Greece will not leave the eurozone and does not believe that a state of bankruptcy exists.
So, what’s behind rising unemployment, rising inflation and rising budget deficits and how are they likely to affect the eurozone’s recovery?
Eurozone inflation rises to 0.9% BBC News (15/1/10)
Unemployment sector remains beat in Eurozone pressuring price levels FX Street (29/1/10)
greek bailout would hurt Eurozone – Germany’s Issing Reuters (29/1/10)
Eurozone unemployment rate hits 10% BBC News (29/1/10)
Greece will not go bust or leave Eurozone Reuters, Michele Sinner (27/1/10)
Eurozone unemployment hits 10% AFP (29/1/10)
New rise in German job loss total BBC News (28/1/10)
Spain unemployment nears 12 year high Interactive Investor (29/1/10)
Questions
- How do we define unemployment? What type of unemployment is being experienced in the eurozone?
- Why do you think unemployment levels have risen in the eurozone and in Spain in particular? Illustrate this on a diagram.
- What are the costs of unemployment for (a) the individual (b) governments and (c) society?
- What explanation can be given for rising levels of both unemployment and inflation?
- Inflation in the eurozone increased to 0.9%. What are the factors behind this? Illustrate the effects on a diagram.
- Greece’s forecast budget deficit for 2009 is 12.7% of GDP, but Greece has said it will reduce it to 8.7% of GDP. How does the Greek government intend to do this and what are the likely problems it will face?
- Why could bailing out Greece hurt the eurozone?
No, I’m not talking about the UK suffering from snow and becoming a land of ice! Towards the end of 2008, Icelandic banks hit the headlines and for all the wrong reasons. Icelandic banks were key lenders to some of the key businesses and entrepreneurs in the UK and an online bank held the accounts of over 150,000 Brits. The Icelandic government tried to rescue their banking sector, but with little success and we saw it collapse, sending shockwaves through UK banks. The UK economy lost millions and this contributed to the worsening financial system within our shores.
Iceland’s President has been under serious pressure, from the UK and Dutch governments on one side and from the Icelandic people on the other. A quarter of voters in Iceland have signed a petition against plans to repay money lost by foreigners when an Icelandic online bank collapsed. When the Icesave scheme collapsed in 2008, British and Dutch savers lost approximately £3.4bn (€3.8bn). Although they were compensated by the British and Dutch governments, this still meant that the taxpayers in these countries were owed the money by Iceland.
Iceland’s Parliament approved the plans to reimburse the money, but the people are encouraging their President to veto the bill. They argue that repaying this money will cost the Icelandic taxpayers: the compensation is some 12,000 euros for each of Iceland’s residents. Campaigners say that the Icelandic people are being forced to pay for the mistakes of the banks. Whilst UK taxpayers lost out, the Icelandic people’s arguments have something of a déjà-vu about them: after all it wasn’t long ago that the UK people were asking why we should have to suffer from higher taxes and future cuts in government spending to bail out the banks, when it wasn’t our fault that they collapsed in the first place. The following articles consider this issue.
Icelandic bank with British savers’ money enters crisis talks Telegraph, Rowena Mason (4/10/08)
Town Hall’s £830m Iceland shortfall This is Money, Daniel Martin (6/1/10)
Iceland leader vetoes bank repayments bill BBC News (5/1/10)
iIceland blocks repayment of £2.3bn to Britain Times Online, Robert Lindsay (5/1/10)
Iceland petition against pay-out over Icesave collapse BBC News (2/1/10)
Iceland’s President under pressure over Icesave Telegraph, Angela Monaghan (3/1/10)
Peston’s Picks: We’re all Icelanders now BBC News (7/1/10)
Iceland President says country will pay UK government BBC News (7/1/10)
Questions
- For the Icelandic people, what are the arguments (a) for and (b) against repaying money owed to the UK and the Netherlands?
- For the British and Dutch people, what are the arguments (a) for and (b) against repayment?
- How will this repayment (or lack thereof) affect the recovery of the British economy?
- Will the repayment of this money adversely affect the Icelandic economy? Explain your answer. Think about tax cuts and the effect on consumer incomes.
- Why is this a key example of international policy interdependence?
Trade relations between the USA and China have deteriorated recently. There are two key issues: the exchange rate and trade protectionism.
The Chinese currency, the yuan or renmimbi, since 2005 has been officially pegged to a trade-weighted basket of other currencies. In recent months, however, as the dollar has fallen relative to other major currencies, so too has the yuan. It seems as if the peg is with the dollar, not with the basket. From March to December 2009, the exchange rate index of the dollar depreciated by 16 per cent. Yet the exchange rate between the yuan and the dollar hardly changed. In other words, the yuan depreciated along with the dollar against other world currencies, such as the euro, the pound and the yen. The trade advantage that this was giving to the USA with other countries did not apply to China.
Complaints continued that cheap Chinese goods were flooding into the USA, threatening US jobs and undermining US recovery. The Chinese currency was argued to be undervalued relative to its purchasing-power-parity rate. For example, the July 2009 Big Mac index showed the yuan undervalued by 49% against the dollar (see Economics 7e, Box 25.4 for a discussion of the Big Mac index).
The USA, and other countries too, have been putting diplomatic pressure on the Chinese to revalue the yuan and to remove subsidies on their exports. At the same time various protectionist moves have been taken. For example, on December 31 2009 the US International Trade Commission voted to impose tariffs on the $2.8 billion worth of steel-pipe imports from China. The tariffs would be between 10.4% and 15.8%.
The following articles look at these trade and exchange rate issues. Are we heading for a deepening trade war between the USA and China?
Currency contortions The Economist (17/12/09)
Beijing dismisses currency pressure Financial Times, Geoff Dyer (28/12/09)
China aims for 10pc growth and won’t appreciate yuan The Australian (29/12/09)
Wen stands firm on yuan China Daily (28/12/09)
China’s premier says banks should curb lending BusinessWeek, Joe McDonald (27/12/09)
China insists will reform yuan at its own pace Forexyard, Aileen Wang and Simon Rabinovitch (31/12/09)
US slaps new duties on Chinese steel Financial Times, Alan Rappeport (30/12/09)
Chinese Steel Pipes Face Heavy U.S. Duties BusinessWeek, Daniel Whitten (31/12/09)
The US-China Trade War Is Here The Business Insider, Vincent Fernando (10/12/09)
Year dominated by weak dollar Financial Times, Anjli Raval (2/1/10)
Questions
- Explain what is meant by the ‘purchasing-power-parity (ppp) exchange rate’.
- Why is the yuan (or ‘renmimbi’) undervalued in ppp terms?
- What are the the implications of an undervalued currency for that country’s current and financial account of the balance of payments?
- What would be the implications of a revaluation of the yuan for (a) China and (b) China’s trading partners?
- Discuss Premier Wen Jiabao’s statement, “The basic stability of the renminbi is conducive to international society”.
- What forms of protectionism have been used by (a) China and (b) China’s trading partners? Who gains and who loses from such protectionism?
Back in 1993, the EU imposed tariffs on bananas imported from countries which were not former colonies of EU countries. These former colonies are in Africa, the Caribbean and the Pacific (the ACP countries). This meant that the main countries bearing the tariffs were banana producing countries in Central and South America.
“In 1996, Ecuador, Guatemala, Honduras and Mexico, together with the US, formally complained to the World Trade Organization (WTO) about the tariffs. Since then the WTO has repeatedly ruled that the EU tariffs are unfair, but little has changed thanks to continued discussions and arguments between the major players.”
Over the years the disputes between the EU and the APC countries on one side and the Latin American countries and the USA on the other have become known as the ‘banana wars’ (see Web cases 24.5 and 24.6 in Economics 7e MyEconLab). The WTO has ruled against the EU on several occasions, but to little effect as appeals have been lodged and talks have continued. At last, however, agreement has been reached – and without the WTO. This should see EU tariffs on Latin American bananas cut from 176 euros per tonne now to 114 euros per tonne over a seven-year period.
So are the banana wars over? Will EU consumers gain? And what will be the effect on Latin American and ACP banana producers? The following articles examine these questions.
Ending the longest trade dispute in history: EU initials deal on bananas with Latin American countries EU Press Release (15/12/09)
The EU-Latin America Bananas Agreement – Questions and Answers EU Press Release (15/12/09)
Lamy hails accord ending long running banana dispute WTO Press Release (15/12/09)
EU ends ‘banana wars’ with Latin America EU Observer (15/12/09)
Bananas dispute at the World Trade Organisation Reuters Factbox (15/12/09)
Banana prices to fall after longest trade dispute in EU history settled Telegraph (16/12/09)
End of banana wars brings hope for Doha Financial Times, Joshua Chaffin (16/12/09)
EU cuts import tariffs in a bid to end ‘banana wars’ (video) BBC News (16/12/09)
EU cuts import tariffs in a bid to end ‘banana wars’ BBC News (15/12/09)
Banana wars: the fruits of world trade BBC News, Nigel Cassidy (15/12/09)
EU, Latin America Proclaim End to “Banana War” Latin American Herald Tribune, Marta Hurtado (15/12/09)
Settlement should help Chiquita Business Courier of Cincinnati, Dan Monk (15/12/09)
Banana deal offers hope for global trade talks Sydney Morning Herald, Alexandra Troubnikoff (16/12/09)
Pact Ends Long Trade Fight Over Bananas New York Times, Stephen Castle (15/12/09)
Banana deal offers hope for global trade talks Sydney Morning Herald, Stephen Castle (15/12/09)
EU banana dispute ends in favor of Latin American exporters Deutsche Welle (15/12/09)
Questions
- Who has gained and who has lost from the tariffs imposed on non-ACP producers over the past 16 years?
- How might the agreement over bananas impact on the stalled Doha round talks?
- What is likely to happen to banana prices in the EU over the coming months? Use a diagram to illustrate your answer.
- Are the banana wars likely to be over now?