Explain how and why the ongoing crisis in the Eurozone has arisen

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Explain how and why the ongoing crisis in the Eurozone has arisen

The Eurozone came into existence in 1999 where any European Union (EU) member states wishing to join would require fulfilling the Maastricht convergence criteria. Throughout the thirteen plus years of the existence of the Eurozone, it has expanded from the original eleven to the seventeen members of today including an expansion involving other member states with pending applications. The EU has developed into one of the largest and vital economies in the word and is regarded as the largest domestic single market surpassing USA’s GDP by more than $2tn (World Bank, 2012).

The euro as the common currency was adapted for the central process of economic integration of eliminating exchange rate threats and the reduction in transaction costs. But membership relinquishes monetary powers to the European Central Bank (ECB) where policy tools such as adjusting exchange rates and interest rates cannot be adjusted in times of economic uncertainty (Morrison, 2011). As stated in the European treaties, every member of the EU is obliged to adopt the currency at some point in the future with the exemption from Denmark and the United Kingdom.

With the benefit of hindsight, the establishment of the Eurozone throughout the thirteen years has experienced volatile times particularly in the last few years. In the instantaneous repercussion of the financial turmoil (August 2007 – September 2008), the global financial meltdown followed (September 2008 – May 2010) and the global crisis has since made significant transition. This situation does not entail the private banking sector, where the financial crisis initially manifested from, but from the so-called peripheral Eurozone countries; Greece, Portugal, Ireland, Spain and Italy that face the risk of default. The following study will present an analysis on the multifaceted nature of the of the Eurozone crisis and will focus on its systemic causes and the consequences generated. Opposing to the argument of popular Northern European politicians and press that the Southern European countries should be held accountable for their incapability to control deficit spending, the Eurozone crisis is fundamentally induced by the imbalance of the European Monetary Union (EMU) and by the variance in the global political economy. This essay argues that the source of the extensive sovereign debt is therefore not the outcome of weak peripheral countries, but of the inherent systematic flaws that eventually led to the current crisis. One segment of the essay will examine the problems with the mechanism of the EMU. The theory of ‘Optimum Currency Areas’ constructed by Robert Mundell analyses the degree to which the EMU has failed to meet the basis of optimised efficiency. The recent dominance of Germany as the second largest exporter in the world has created severe imbalances and this is from no adjustment mechanisms in the EU for asymmetric shocks. The other segment the essay will look at the contribution of the global political economy and the imbalances created from lax fiscal discipline. The liberalisation of finance fuelled the speculation with financial assets and thus created real estate bubbles that burst in the lead up to the financial crisis. The huge accumulated debt is therefore influenced by systemic failures.

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The structure of the EMU was that the country had to take fiscal discipline by the governments own reliance, as the Eurozone does not intervene the fiscal sovereignty of governments. This lead to a group of countries with diverging growth potentials as the fiscal discipline was non-existent whereas the monetary discipline was. This is where the “… changes in a relative competitiveness are reflected in the dynamics of current account deficits” (Lacina and Rusek, 2012). Thus the imbalance between sovereign nations would need to be leveled out by an adjustment mechanism and would succeed the original method of currency devaluation ...

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