Download Eurogroup Study Guide EuroMUN 2017

EuroMUN 2017, Maastricht, The Netherlands
Study Guide for the Eurogroup Committee
Proposals for debt restructuring programs for any indebted Eurogroup country
Proposals for alternative euro for Southern European countries to improve
competitiveness
Introduction to the Committee
The “Eurogroup” is the term for informal meetings of the finance ministers of the euro zone. The
Euro zone encompasses those member states of the European Union which use the Euro as their
official currency. The Eurogroup, hence, discusses the financial concerns of member states and
operates to formulate political decisions for the Eurozone and the Euro. 1
Only the Eurozone states are allowed to vote on issues relating to the euro in the
Economic and Financial Affairs Council (ECOFIN). The Eurogroup had no legal standing before
the existence of the Lisbon treaty which came into force on 1 December 2009. It is a group that
works to regulate the policies of Eurozone states in order to be aligned within ECOFIN.
The Eurozone consists of Austria, Belgium, Cyprus, Estonia, Finland, France, Germany,
Greece, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, the Netherlands, Portugal,
Slovakia, Slovenia, and Spain. The other nine states that are a part of the EU use their own
currencies, though they are urged to take on the Euro in future.
The establishment of Euro
The Euro was established after the Maastricht Treaty in 1992. The states using Euro as their
currency are called the Euro zone. Since its initiation, the size of the Euro zone has increased as
EU member states continue meeting the economic conditions highlighted by the Maastricht
treaty. After the establishment of the euro, real interest rates in the Euro zone fell. There was also
a reduction in the barriers between the EU states which improved growth outlooks. Due to this,
there was a rise in the demand for credit as consumers and governments both started borrowing
at low interest rates for the purpose of investment and consumption. The credit supply was also
relaxed.2
Financial innovation like securitization was crucial for the expansion of the credit supply.
Therefore, investor and consumer confidence grew and government could now borrow cheaply
to finance growth.
1
2
http://www.consilium.europa.eu/en/council-eu/eurogroup/
https://ec.europa.eu/info/business-economy-euro/euro-area_en
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Role of European Central Bank
Euro zone’s monetary policy is managed through the European Central Bank. The governing
council of the ECB can make the decisions regarding monetary policy and it consists of
governors of the national central banks of the Euro zone and the ECB’s Executive board. The
primary purpose of ECB is to make sure there is price stability and keep inflation under control,
preferably close to 2%. The central bank adjusts the benchmark interest rate. It can lower the
interest rate to stimulate consumption, which initiates a drift towards higher prices. On the other
hand, raising the interest rate slows down consumption and lowers prices.
European Stability Mechanism
The European Stability Mechanism (ESM) works under public international law for all EU states
using euro. It was recognized on 27 September 2012 and it protects and provides instant access
to financial assistance for the euro zone in financial difficulty. It replaced two earlier EU funding
programs called the European Financial Stability Mechanism and the European Financial
Stability Facility. The ESM was formed to give support during liquidity crises. By providing
‘loans against reforms’, it fills funding gaps, while also supervising reforms
Stability and Growth Pact
The Stability and Growth Pact is an agreement, among the EU member states to uphold the
stability of the Economic and Monetary Union, which involves the coordination of economic and
fiscal policy between various EU states, a common monetary policy and a common currency.
There is a maximum limit for government deficit and debt, set by the Stability and Growth Pact
(SGP) and if a member state breaches it then the request for corrective action will intensify and
may result in economic sanctions too. 3
The fiscal policy is ensured by the SGP by requiring each Member State to stay within
the limits on government deficit (3% of GDP) and debt (60% of GDP).
3
https://www.theguardian.com/world/2003/nov/27/qanda.business
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Topic A: Proposals for debt restructuring programs for any indebted Eurogroup
country
European Debt crisis
Previously it was very hard to trade between EU states because of certain trade barriers and the
varying currencies between countries. After World War II these economic barriers were lifted
due to which trade was made easier. Every EU country then stated that the barriers should be
completely lifted and some joined to have a common currency for mutual benefits and easier
trade and growth. This led to more business and economic benefits. It also meant that no
individual monetary policy would be used and there would be a common policy one that would
be decided by ECB. However, every country had a different fiscal policy-leading to the crisis
mainly.
Since the currency was now the same it meant borrowing would be very easy. Huge loans were
taken at cheaper interest rates than before and these loans were used to spend on job benefits and
pensions.4 All countries were now interlinked and they kept on borrowing and spending. In 2008,
due to the housing bubble in US, there was a credit trouble that meant that there can no longer be
any borrowing. This meant that the EU states couldn’t borrow to spend and couldn’t borrow to
pay loans too.
4
https://www.nytimes.com/topic/subject/european-debt-crisis
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All these states started taking foreign assistance, predominantly from Germany. States that
receives assistance, such as Greece, were asked to adhere to the same standards of work and tax
payment as in the lending countries. Meaning a cut in spending, and a reduction in borrowing
money. It was soon realized that the EU actually needs a fiscal union like its monetary union to
make sure they spend equally and follow same regulations.
Five of the region’s countries – Greece, Portugal, Ireland, Italy, and Spain have failed to generate
enough economic growth to make their ability to pay back bondholders the guarantee it was
intended to be. 5The main course of action so far has been a series of bailouts for Europe’s
concerned economies. In, 2010, the EU and IMF disbursed 110 billion Euros to Greece which
needed a second bailout in mid-2011. In 2012, Greece and its creditors decided that a debt
restructuring policy will be undertaken to set the stage for another round of bailout funds. Ireland
and Portugal also received bailouts in 2010 and 2011. The Euro zone then created the European
Financial Stability Facility 6(EFSF) that was responsible to assist emergency financing lending to
countries in financial complexity. The ECB announced in 2011 that it will to purchase
government bonds to keep yields from rising spiraling to a level that countries such as Italy and
Spain could no longer manage to pay for.
A way to achieve the reduction of European debts can be through a public debt restructuring.
The European public debt is used by the financial sector as risk-free assets that help them borrow
from the central bank and lend to the private sector at high interest rates. Restructuring the public
debts, hence, can solve the European public debt issues and also decrease the potential leverage
of financial institutions.
5
6
http://www.telegraph.co.uk/news/0/european-debt-crisis-not-just-greece-drowning-debt/
https://www.esm.europa.eu/efsf-overview
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Debt restructuring & Debt Mediation
Debt restructuring allows a private or public company, facing cash flow problems and financial
anguish to trim down and renegotiate its delinquent debts to recover liquidity. The major costs of
debt restructuring are the time and effort spent on negotiating with bankers, creditors, vendors,
and tax authorities.
In 2010 debt mediation became a main way for small businesses to refinance in light of reduced
lines of credit and direct borrowing. It is the process of negotiating with creditors to pay a lesser
amount of than the total amount owed to them. It is a debt reduction or debt elimination approach
for individuals who cannot pay their debts in full.
The case of Greece
Greece entered the Euro zone and traded their drachma for Euros in 2001. It proved to be very
beneficial to the Greek economy, as it could now easily receive loans with lower interest rates.
However, since the mid-1990s, Greece had been reporting deficits and debts much lower than
their real deficits and debts and the 2008 financial crisis hit Greece really hard.
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The real data of the Greek economy was exposed when a newly elected Greek government
announced that the annual deficit was 13.9% of GDP (vs. the mandated 3%). The investors
suddenly began asking for progressively higher and higher interest rates for future loans. Since
Greece needed the money, it had to accept the loans with higher interest rates. It caused even
greater deficits to Greece and further raised the interest rates on loans, creating a vicious cycle.
To prevent the spread of this financial crisis, IMF and ECB began to issue bailout loans which
were granted to the Greece to pay off their other investors. However, these bailouts were actually
loans and had to be paid back. They were given on the condition of tough austerity measures
which included budget cuts and increases in taxes. The money received by Greece has mainly
gone towards paying of Greece’s international debts instead of injecting into their own economy.
On June 30th, Greece missed a deadline for a payment of 1.5 billion euro to the IMF. It became
the first EU state that failed to pay its creditors. After three bailout programs, there were still
talks about Greece, debt restructuring, and a possible “Grexit7”. The IMF is asking Euro zone
states members to accept a debt restructuring in the form of a haircut on the outstanding debt,
and increase of maturity, and/or a reduction of interest rates. It is not practical for Greece to start
growing again as long as the country sticks to its main surplus commitments. 8
7
http://www.express.co.uk/news/world/763028/Grexit-Greece-European-Union-Germany-IMF-austerity-bailoutfinancial-disaster-crisis-debt
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http://bruegel.org/2015/02/debt-restructuring-greece/
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However, debt restructuring, would not do much for Greece and Greeks. In fact, even though
public debt reached 180% of GDP in 2016, interest payments on it were relatively modest (about
4% of GDP) which shows the generous conditions applied by creditors in terms of both maturity
and interest rates. 9
Even so, debt restructuring is not essentially connected with higher costs. The sooner it will be
enacted, the quicker Greece will make progress, and the cheaper this alternative will be. A Greek
debt restructuring might give rise to uncertainties about whether the debt burden of Portugal and
Ireland is sustainable as well as whether these countries will hold to their adjustment programs.
This might lead to contagion effects. Due to this, both countries might have to reschedule their
debt as well. All micro and macroeconomic indicators show that Greece will not get better by
simply granting additional loans. In order to be efficient, a debt restructuring has to be
implemented rather sooner as Greece would then also get sooner access to the capital markets.10
Conclusion
It is imperative that the restructuring process should be well coordinated with the adjustment
program associated with access to European crisis lending. Particularly, under the ESDRM the
European Commission can be given authority to support an agreement negotiated by creditors
and the debtor before it becomes compulsory on all creditors.
Creating a formal debt restructuring mechanism in Europe that all Euro zone countries have
settled to will add legality to the requirement that some countries call upon the mechanism under
certain circumstances if they wish to access European crisis lending. This will help make up for
political biases that work against undertaking a debt restructuring.
The delegates will be expected to understand the crisis prevailing in the indebted Euro zone
states and whether or not debt restructuring is a practical approach towards solving the issue and
if this is the only viable solution available. Apart from the facts, they will have to study the pros
9
https://data.oecd.org/gga/general-government-debt.htm
http://www.reuters.com/article/us-eurozone-greece-imf-idUSKBN1612CI
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and cons of debt restructuring and come up with specific proposals that suit each indebted
country.
Questions a Resolution must answer:
•
The responsibility of the ECB and IMF in creating preemptive measures for highly
indebted Euro zone states
•
The role of the World Bank and IMF in resolving a sovereign debt crisis
•
The possibility of debt restructuring for the indebted euro zone nations
•
Is debt restructuring a viable solution to the crisis?
•
Short term and long term implications of debt restructuring
•
What financial regulations to be placed to avoid governments from excessive borrowing?
•
Possibility of an international framework that regulates the monetary and fiscal policies
of Euro zone
•
What changes to Greek policy should be included for future Greek bailouts?
Further Reading:
http://www.un.org/press/en/2014/gaef3417.doc.html
https://www.theguardian.com/business/debt-crisis
https://www.nytimes.com/topic/subject/european-debt-crisis
http://voxeu.org/article/mechanism-proposal-eurozone-sovereign-debt-restructuring
https://www.wsj.com/articles/SB10130211234592774869404581083940950708966
http://www.trading-point.com/debt-restructuring-delays-could-endanger-the-eurozone-structure1365
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Topic B: Proposals for alternative euro for Southern European countries to
improve competitiveness
Introduction to the Topic
January 1st, 1999. On a historic day for the European Integration process the European Union
(EU) adopted the Euro as its common currency for 11 member states. This perceived final step in
European economic and monetary integration was supported by the creation of the European
Central Bank (ECB) and the binding SGP, designed to curb each country’s fiscal policy. The
internal EU market, unique in its free movement of goods, capital, labour and people, was seen
to increase integration and overcome cross-country structural differences.
So what changed? Until the global financial crisis in 2008, ECB monetary policy
succeeded in keeping inflation amongst member countries low and stable. While the EU was
struggling to centrally enforce the SGP criteria, most countries remained reasonably conservative
in the fiscal realm. Financial markets reacted positively to fiscal consolidation in Eurozone
states, where bond risk premiums remained optimal. With the Wall Street crash, this all changed.
Private debts originating from the collapsed property bubble transferred to sovereign debt as the
banking system created bailouts and economies slowed. The structure of the Eurozone, a
currency union with differentiated tax and pension rules in all member states, limited to ability
for leaders to respond. As a result, several Eurozone member states were unable to repay or
refinance government debt without the assistance of other Eurozone countries, the ECP and the
International Monetary Fund.
Just 9 years after the ‘Great Recession’ the Eurozone has become deeply split between
the ‘Northern’ Euro countries and the ‘Southern’, where the North is doing considerably well
and the South continues to struggle with the socioeconomic impacts of the recession. Critics of
the current structure of the European Monetary Union (EMU) argue that this “continued malaise
is resultant from the structural diversity among Northern and Southern economies and of an
asymmetrical euro regime that must try to enforce the structural convergence of their political
economies” (Scharf, 2016). They suggest a differentiated European Currency Community which
accommodates for the structural diversity within the Union, yet still allows the interdependent
European economies to collaborate in a flexible two-level regime.
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The following chapters of this Study Guide will highlight the most important elements in
the debate on the creation of a differentiated European Currency Community, as well as
expanding upon important aspects of fiscal integration.
Monetary Policy within the EU and the Eurozone
In creating the Euro, the Eurozone countries aimed to make an optimal currency area. Of course,
the European common currency didn’t happen overnight. Starting in the 1950s, European
countries went through various stages of economic and monetary integration.
The European Economic Community (EEC) was established in the Treaty of Rome in
order to extend European integration into the realm of general economic cooperation. The aim of
the EEC was to establish a common market and customs union amongst the countries already in
the ECSC. In order to ensure closer collaboration, there was an active removal of obstacles and
boundaries, which resulted in the Four Freedoms: the freedom of goods, services, people and
capital. As outlined in the previous topic, the removal of barriers and the introduction of a single
currency within the Eurozone, led to a larger co-dependence of European nations. In more recent
years, this has meant that debt amassed by singular states was able to effect the entire
functioning of the Eurozone-economy. General economic cooperation has brought a lot of
prosperity to the Eurozone and to the Union in general, however, with deeper integration there
has also been a clearer division in fiscal cultures and capabilities.
Divisions on Fiscal Union
Despite the popular use of the term ‘fiscal union’, the notion continues to divide main actors in
the European arena. The most impactful division of opinion lie between Germany and France.
While the former hopes to create a fiscal union guided by rules, discipline and crisis avoidance,
the latter prefers flexibility and crisis management.
Stability has become the foremost principle of German economic policy. It is embedded
in the country’s historic approach to economic philosophy: ordoliberalism. This dictates that an
economic constitution requires a strong legal framework in order for a market to work optimally.
In contrast, France favours the model of flexible economic governance. This model prefers
adaptability and democratic accountability in order to obtain market optimisation. Within the EU
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one can find systems such as the Stability Mechanism which are designed to deal with
asymmetrical shocks that cannot be managed on a primarily national level. The macroeconomic
stabilization tools proposed by the different camps should be available to all members, however,
the nature of the tools remains dubious.
France maintains that fiscal transfers, or a budget that becomes available to all Eurozone
members, and an established European Ministry of Finance could be the answer to resolving
permanent economic differences. Germany remains deeply critical. It worries that this kind of
approach will not translate well into reality. By accepting asymmetrical shocks as part of the
system, creating a stabilising method rather than a reduction method, the Eurozone could be
accepting a cyclical decline in which constant fiscal transfers become reality. A forever
continuing debt and bailout crisis, where each transfer is open to negotiation. This would mean
that the Eurozone would not be able to provide the stability it was set up for.
Differentiated Integration within the Eurozone
As Eurozone countries move forward with necessary transformation in order to a) deepen
integration, b) increase stability after the crisis and c) safe the Euro project, there is a move
towards the French approach. This has led to some discordance within the Union and unclear
dynamics of concessions. A proposal that has been gaining traction over the past few years is
that of a second Euro for those countries that are discontented by economic policy decided upon
by the Eurogroup. The following lists a couple of advantages that such a second Euro could
have.
Firstly, a second Euro would be constructed in a manner that is in accordance with its
holders. In the development of the Euro, countries accepted the currency through concessions.
Countries that joined the Eurozone at a latter stage, were less able to put a stamp on European
fiscal policy. This could be rectified.
Secondly, a separate monetary union would stabilise the exchange rate of countries that
are viewed to be ‘underperforming’ at present. For example, Greece, Spain, and Portugal would
be able to trade with Germany and France without losing significant profits due to the varying
value of the Euro within its Zone. This would be supported by the fact that they would remain
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united within a singular, separate currency, rather than falling back to their individual currencies.
Instead of a reintroduction of the dragma and such, there would simply be a Euro 2.0.
Thirdly, some research has shown that current movement towards a more integrated
fiscal union that embraces flexibility could be detrimental to the economies of weaker states. A
repeated question remains whether the Eurozone members truly form an optimal currency area.
So what is in it for larger economies to maintain a singular Euro? And what is in it for smaller
economies? The competition within the internal market could become more balanced due to the
introduction of a second Euro.
Structural Imbalances
A brief explanation and overview of structural imbalances that would necessitate a change in
European fiscal policy can be found in most economic journals or newspapers. The following
Chart gives a clear overview:
Source: http://www.businessinsider.com/why-euro-might-devolve-into-euro1-and-euro2-2010-3?international=true&r=US&IR=T
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Threats of Two Euros
There is a distinct question of credibility that limits the acceptability of a double currency euro.
All movement towards economic integration has been in line with a singular currency. For
Eurozone members, the acceptance of two currencies would be an admittance of incapability
towards realizing the dream of a true fiscal union. Resistance to two currencies can be seen as
‘face-saving’ or, contrastingly, as idealistic and hopeful, but one thing is clear: a solution to the
structural imbalances that are threatening the Eurozone needs to be found.
Conclusion
It is important to stress that by introducing the Euro 2.0 for highly indebted, dependent consumer
countries, such as Portugal, Ireland and Greece, a greater structural divide within the Eurozone
may become reality. The divide between countries with a mercantilist economy (Germany,
France) and consumer nations would become ever increasing. The goal of European countries,
and the members of this committee, should be to fight against the creation of such a divide, and
to find alternatives or solutions to consequences that may follow from two euros.
By creating a second Euro, southern countries may have a better claim towards
competitiveness within the market, but consequences of the restructuring of fiscal integration
will go far. Before entertaining treaty provisions and a division in freedom of capital,
consequences must be clearly thought out. And each member state should ask itself: in what way
do we most optimally entertain economic collaboration for ourselves and for the Union.
Questions A Resolution Must Answer
•
Which determinants should be created to allocate countries to different Euro-currencies
•
How deep and wide are the effects of separate currencies allowed to go
•
In light of differentiated integration, is the goal for b-Euro countries to later become aEuro countries once more?
•
If so, what kind of systems of acceptance need to be created for a b-Euro country to
become and a-Euro country
•
How will the ECB maintain oversight over both currencies?
•
What consequences in governance would two currencies give to the Eurogroup?
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•
Is introducing two currencies the most viable option
•
What measures would introduce increased competitiveness?
•
Is the North-South divide the most inclusive, or must this be labelled otherwise?
Further Reading
http://www.businessinsider.com/why-euro-might-devolve-into-euro1-and-euro2-20103?international=true&r=US&IR=T
The Choice for Differentiated Europe: Why European Union Member States Opt out of
Integration - Thomas Winzen and Frank Schimmelfennig (Can be found on Google Scholar)
https://www.hks.harvard.edu/fs/jfrankel/INET-EMUOCA-BW-Apr2011.ppt
http://www.spiegel.de/international/business/economists-say-parallel-currencies-in-euro-zonewould-fail-a-895731.html
http://voxeu.org/article/why-europe-needs-two-euros-not-one
Deal on Greek Debt Crisis Exposes Europe’s Deepening Fissures. New York Times. Retrieved
from http://www.nytimes.com/2015/07/14/world/europe/greece-debt-deal.html?_r=0
http://ec.europa.eu/economy_finance/publications/economic_paper/2014/pdf/ecp539_en.pdf
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