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Will Euro Survive?Should It Survive?

Will Euro Survive?Should It Survive?

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Published by Yegor Bryukhanov
This is my term paper for the course in international financial markets. The assignment required us to critically analyze the available research and up-to-date market information on the issue in order to provide in-depth discussion of the matter.
This is my term paper for the course in international financial markets. The assignment required us to critically analyze the available research and up-to-date market information on the issue in order to provide in-depth discussion of the matter.

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Published by: Yegor Bryukhanov on Apr 21, 2012
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11/16/2012

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INTERNATIONAL FINANCIAL MARKETS
Instructor: Professor Helmut Schuster
CAN EURO SURVIVE? SHOULD ITSURVIVE?
Bryukhanov YegorK1156418e-mail:yegor.bryukhanov@aalto.fi 
Date: 26
th
November 2011
 
 
Preface
In the very beginning of the new millennium global economy has already experienced severe crisesstemming from growing indebtedness in both private and public sectors. Starting with 9/11 terrorist attackson the World Trade Center in 2001, interest rates in the United States were kept at very low levels, leadingto increased debt burden, due to the access to the cheap resource by the organizations and individuals.Simultaneously, European Union has adopted a common currency and implemented a set of policies, whichwere aimed at unifying the region’s economic landscape and increasing the competitiveness of developingeconomies. While the idea of convergence in the European Union, seemed feasible and attractive to policymakers, global macroeconomic situation has led to several bubbles being formed in the financial markets, both in the US and the EU. These have subsequently led to a contraction in the EU and loss of confidence inthe financial markets.This paper aims to address an issue, which has been fuelling heated discussions about whether or not currentfiscal, social and economic policies are sustainable enough to ensure positive direction of the EuropeanEconomy as a generic entity. The question of whether the Euro is able to survive in its current state or itshould be abandoned became centric to various stakeholders of this crisis. In order to properly address, it a background on current crisis and its causes will be provided. Followed by a discussion of the optionsavailable to the policy makers and their potential implications for global economy and financial markets, the paper will conclude with an author’s opinion on the matter. Given that the discussion of the present situationdepends on constantly evolving flow of the information that appears daily and can adjust the likelihood of an adoption of particular policy, it is necessary to remember that concluding arguments are basedexclusively on an up-to-date information and academic research available.
 
 
Background & Current Situation
An initial purpose of establishing the euro was to adopt a common currency that would provide unifiedresource for businesses and governments to facilitate the trade, thus, lowering vulnerability to potentialexchange rate fluctuations and economic crises in the member countries. In order to ensure that no membersof the common-currency zone would become an anchor pushing down the rest of the countries into a potentially harmful state of the economy, specific convergence criteria were adopted (Lewis, 2011). Morespecifically, any country willing to join had to maintain 3% of GDP for the yearly deficit, while fines of upto 2% of GDP (Article 121, European Community Treaty) were to be imposed on the member-statesviolating this condition. As a result, Eurozone, now was perceived as a coherent entity, where initially weak economies, were backed up by the strong ones, contributing to the increased confidence with respect to public debts of the weaker countries. Initially planned convergence in the Eurozone took place. A goodexample to illustrate this effect is to compare the initial and subsequent differences of long-termgovernment bond yields and inflation rates between GIIPS – the weaker economies and EUN – the stronger ones. GIIPS corresponds to Greece, Ireland, Italy, Portugal and Spain, while EUN to Europe’s northernmembers, they are: Austria, Belgium, France, Germany and the Netherlands.The figure above clearly illustrates that GIIPS have enjoyed their costs of borrowing declining after initialattempts to fit the convergence criteria and saw even steeper decline, when in 1999 Euro was adopted. On
Annual In
ation Rates and Long–Term Government Bond Yields
Source: IMF
Average aggregate rate, percent
0510152025
EUNEUNGIIPSGIIPSBond Yield:In
ation:
1980 1985 1990 1995 2000 2005

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