Europe and Euro Crisis

DR. ABDUL RUFF

The simmering battle between USA and European Union on the worth of their respective currencies, dollar and Euro seems to be never ending, even though Washington is making all possible efforts to use NATO terror operations in Islamic world to bridge the gap that lies between them.

After prolonged Euro crisis and months of uncertainty, EU leaders at the EU summit in Brussels have finally agreed to appoint Italian Mario Draghi, who has worked at the World Bank and as an economics professor at Harvard, as the next president of the European Central Bank. The European Parliament and the ECB board had already given their approval to Draghi's appointment

Euro is costlier than an ever weakening dollar. The European Union, the world's largest economy, has 27 member states, 16 of which are on the common currency. Founded through a string of treaties beginning in the 1950s, the EU has developed its own economic, political and legal policies.

The euro, created with the aim of permanently uniting Europe, has become the greatest threat to the continent's future. A collapse of the monetary union would set Europe back by decades, dealing it a blow from which it might never recover, especially with Europe's position already threatened by the fast-growing Asian economies. Europe's politicians want to defend the euro at all costs, but are approving one bailout package after the next, hoping that the markets will settle down and the reforms will take hold.

Irresponsible real estate sharks, unscrupulous bankers and populist politicians had ruined the finances of many a EU country. When, as the outcome of a deliberate state move to boost inflation, the euro crisis started in Greece in October 2009, nobody had any idea how quickly or broadly it would spread -- or how difficult it would be to solve.  In fact the state did not want to halt the process and by November, Greece's budget deficit had ballooned to 15.4 percent of GDP from a meager 3.7 percent before October. As a result, Greece is forced to put its budget under EU monitoring. Dramatic austerity measures are implemented in a bid to clean up the country's finances in the coming years. In March 2010, the first Greek austerity package was passed, Value-added tax raised by 2 percentage points, and salaries for civil servants are frozen. The size of annual savings is estimated to be roughly €4.8 billion ($6.8 billion). In May 2010, in a bid to prop up other financially ailing member states, the EU finance ministers and the IMF agree on a provisional safety net worth €750 billion to be in effect until 2013.  In June, Greece plans a further raft of austerity and privatization measures. Meanwhile, the euro-zone countries, the ECB and the IMF argue about the structure and amount of future financial aid.

EU leaders gave their clearest sign yet that Greece will receive a second bailout in the coming weeks, on top of last year's €110 billion ($156 billion). If the rest of Europe abandons Greece, the crisis could spin out of control, spreading from one weak euro-zone country to the next. Investors would have no guarantees that Europe would not withdraw its support from Portugal or Ireland, if push came to shove, and they would sell their government bonds.

The European Central Bank (ECB), the guardian of the single currency has taken on billions of euros worth of risky securities as collateral for loans to shore up the banks of struggling nations. In the event of a bankruptcy or even a deferred payment, the ECB would be directly affected. Many Euro nations criticized the ECB's program of purchasing government bonds issued by ailing euro member states. The Bundesbank already decided to establish reserves for a total of €4.9 billion ($7 billion) to cover possible risks. The failure of a country like Greece, which would almost inevitably lead to the bankruptcy of a few Greek banks, would increase the bill dramatically, because the ECB is believed to have purchased Greek government bonds for €47 billion. Besides, by the end of April, the ECB had spent about €90 billion on refinancing Greek banks.

The ECB maintains a list of "eligible assets," a sort of seal of approval for securities. Every major bank in the euro zone must have such securities, such as bonds or government bonds, or it would be excluded from the money market. There are currently 28,708 securities on the ECB list, with a total value €14 trillion at the end of 2010.

The ECB is in a no-win situation now that it has become an enormous bad bank or, in other words, a dumping ground for bad loans. The ECB accepted so-called asset-backed securities (ABS) as collateral. At the beginning of the year, these securities amounted to €480 billion. It was precisely such asset-backed securities that once triggered the real estate crisis in the United States. Experts say these securities would deal a fatal blow to the European banking system.

Greece, Portugal, Ireland and Spain are the weak euro countries. Surveys show that many Germans are worried about the future of the euro.

The central bank's high risk is highlighted in the crisis-ridden countries of Ireland, Portugal, Greece and Spain. Since the countries are disconnected from the international capital market and domestic savers have only limited confidence in their banks, other European central banks are forced to inject more and more money. Mortgage loans were bundled into packages worth billions, allowing the associated risks to be transferred to the international capital markets.

The euro welds together strong and weak countries, for better or for worse. There is no emergency exit, and there are no rules to follow in an emergency.

The euro is becoming an ever greater threat to Europe's common future. The currency union chains together economies that are simply incompatible. Politicians approve one bailout package after the other and, in doing so, have set down a dangerous path that could burden Europeans for generations

Regular ECB bailouts for banks pose serious problems and specialists insist that limits be imposed on the autonomy of national central banks when it comes to recognizing securities as collateral. The old euro no longer exists in its intended form, and the European Monetary Union isn't working. Draghi, the new boss of ECB, has big burden on his weak shoulders.