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Monetary Law and Monetary Policy 10. Crisis in the euro area – overview. Dr Marek Porzycki Chair for Economic Policy. Issues covered. Underlying causes of the crisis From credit crunch to sovereign debt crisis Greece: insolvency of the state

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Monetary Law and Monetary Policy 10. Crisis in the euro area – overview

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Monetary Law and Monetary Policy10. Crisisinthe euro area – overview

Dr Marek Porzycki

Chair for Economic Policy


  • Underlying causes of the crisis

  • From credit crunch to sovereign debt crisis

  • Greece: insolvency of the state

  • Ireland: oversized banking sector sunk by real estate bubble

  • Spain: drawbacks of common monetary policy

  • Cyprus: a bailout gone foul

  • Monetary response – ECB measures

  • Fiscal response – bailouts and stability mechanisms

  • Political response – the „fiscal compact” and quest for closer integration

  • Breakup of the eurozone?

Underlyingcauses of thecrisis

  • EMU as a political project to enhance European integration – was it justified from the OCA perspective?

  • Fundamental weakness: monetary integration not backed by fiscal integration

  • Inefficiency of the Stability and Growth Pact

  • Impossiblity of „one-size-fits-all” monetary policy for „core” and „peripherial” Member States – credit booms and real estate bubbles

  • Silent assumption of creditworthiness resulting from membership in the eurozone  similar interest rates on public debt of eurozone member states

Directtrigger – global financial crisis of 2007/8

  • Subprime mortgage crisis and credit crunch in the U.S.

  • Global financial crisis, wave of failures in the financial sector in 2008

  • Lack of liquidity on the global financial market and excessive public debt in some EU member states (Greece, Portugal)  difficulties in accessing the financial market for re-financing public debt

  • Bursting of real estate bubbles in Ireland and Spain


  • Structural weaknesses of the Greek economy

  • large budget deficits and excessive public debt

  • deficient tax collection

  • euro adoption based on misreported statistics

  • early 2010 – a new govt reveals true extent of the budget deficit (15,4% in 2009)

  • bond yields increased  difficulties in re-financing public debt

  • actual insolvency of the state – rating downgrades, risk of default

  • bailout loans (May 2010, July 2011 – Feb 2012)

  • austerity measures, EU/IMF programme supervised by the ‘Troika’ (Commission, ECB and IMF representatives)

  • debt restucturing – a nominal ‘haircut’ of 53,5% on Greek bonds

  • deep recession caused by austerity measures


  • ‘Celtic tiger’ – dynamic economic growth before 2008

  • real-estate bubble and oversized banking sector  recession and collapse of real estate prices in 2008 hits the banking sector

  • 2008/09 - blanket guarantee issued by the govt to depositors and holders of bonds issued by banks

  • bail-outs of banks caused budget deficit to skyrocket to 31% of GDP (2010)  actual insolvency of the state

  • November 2010 – bail-out loan by the EU and IMF

  • austerity measures, EU/IMF programme

  • differencies in economic outlook between Ireland and Greece


  • underlying conditions:

  • dynamic growth fuelled partly by public spending before 2008

  • high unemployment and inflexible ‘two-tier’ labour market

  • real estate bubble  large exposure of banking sector to risk from real estate market

  • restructuring of the ailing banking sector

  • June 2012: EU bail-out loan to Spanish govt, for the financing of restructuring of the banking sector via a specific bank restructuring fund (FROB)


  • underlying conditions:

  • role of off-shore financial center and ‘tax paradise’, with large involvement of Russian investors

  • oversized banking sector

  • relatively small size of Cypriot economy in relation to the whole EU

  • direct trigger: Cypriot banks were hit by write-off on their holdings of Greek govt bonds

  • request for bail-out loan from the EU

  • insisting of the Eurogroup on the involvement of bank creditors and depositors

  • first proposal (16 March 2013): ‘haircut’ would be imposed on all depositors, even those covered by the deposit guarantee scheme (below 100.000 EUR)

  • closure of banks (‘bank holiday’) to prevent bank run until the final deal was reached

Cyprus – finalsolution (25 March 2013)

  • resolution of two biggest banks, write-off of shareholders

  • protection of deposits up to 100.000 EUR but imposition of significant losses on higher amounts (write-off and/or conversion into equity)

  • re-opening of banks together with ‘temporary’ capital controls (eased over time but still in place)

  • restriction on withdrawals

  • restriction on transferring funds abroad

  • restriction on sending payments abroad and exporting cash

  • fundamental question: are capital controls compatible with Treaty rules on free movement of capital (Art. 63-66 of the TFEU)?

ECB anti-crisismeasures

  • relaxation of collateral rules: acceptance of government bonds as collateral in monetary policy operations even despite rating downgrades

  • Emergency Liquidity Assisstance: provision of liquidity to distressed (but still solvent) banks

  • LTRO: longer-term refinancing operations

  • purchases of sovereign bonds on secondary markets

  • Securities Market Programme

  • Outright Monetary Transactions

  • extremely low interest rates


  • bail-out loans to troubled Member States by EU and IMF

  • austerity measures taken within the framework of EU/IMF programmes (supervision by the ‘Troika’ of Commission, ECB and IMF representatives)

  • institutional framework:

  • EFSF: a special purpose vehicle incorporated as a company, capacity to raise up to 440 bn EUR (guaranteed by Member States govts)

  • EFSM: mechanism established by Commission, capacity to raise up to 60 bn EUR

  • European Stability Mechanism (ESM): a permanent mechanism initiated in Oct 2012, capacity of 500 bn EUR, based on the separate ESM Treaty

  • IMF involvement

Political and institutionalreponse

  • adding fiscal union to the monetary union?

  • Treaty on Stability, Coordination and Governance in the Economic and Monetary Union (European Fiscal Compact), signed in March 2012

  • European Systemic Risk Board (ESRB): hosted by the ECB, tasked with systemic oversight of the EU financial sector, established in Dec 2010

  • European Supervisory Authorities (ESAs): ESMA, EBA and EIOPA – enhanced cooperation between national financial supervisors

  • proposal for a bank union – single supervision and single resolution mechanism in the EU

Break-up of theeurozone?

  • Possible reasons for a break-up or withdrawal of a member state

  • stimulating growth by expansionary monetary policy

  • improving competitiveness by currency devaluation

  • Scenario 1 – negotiated withdrawal

  • Scenario 2 – expulsion

  • Scenario 3 – unilateral withdrawal

  • Legal aspects – euro adoption is irrevocable, there are no Treaty provisions on withdrawal from the eurozone. Cf. Art. 50 of the EU Treaty on withdrawal from the EU.

  • Economic aspects of a withdrawal or break-up.


  • Ch. Proctor, Mann on the Legal Aspect of Money, 7th ed. 2012:

  • Chapter 32, Withdrawal from the Eurozone, pp. 835-860


  • Ph. Athanassiou, Withdrawal and expulsion from the EU and EMU: some reflections, ECB Legal Working Paper Series, no. 10, December 2009,

  • Euro break-up – the consequences, Report by UBS, 6 September 2011,'euro.pdf

  • see also section „Current interest” on the course website

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