GREECE CRISIS

GREECE CRISIS

We all know Greece is in deep trouble after defaulting on its debt to the

International Monetary Fund.

Many Greeks blame the austerity measures for much of the country’s continuing

problems. The leftist Syriza party rode to power this year promising to renegotiate

the bailout.

The Greek economy is shrinking. At such times one of the tools available with

government is to tinker with the currency. Unfortunately the Greeks cannot do so

because they share their currency with other nations of the EURO region.

To understand their predicament one needs to imagine the EURO ZONE as a train.

GREECE CRISIS

Now imagine the various

countries as the bogies

(compartments) of this train.

Let’s say the train is trudging

along smoothly and all seems

well.

GREECE CRISIS

Suddenly a few of the passengers in the “Greece” bogie fall sick. So, they send

a request to the engine driver, via a telecommunication contraption that is

fitted in the bogie, to speed up. They need to reach their destination fast as

they are feeling unwell.

The engine driver then sends a message to all the other bogies that they have

received a “speed up” request from the Greeks due to an emergency.

GREECE CRISIS

On hearing this announcement, the German passengers seated in the German

bogie take serious objection. They want to enjoy the journey at a leisurely pace and

vehemently object to the “speed-up” suggestion.

Their contention being that they had paid a premium for enjoying this leisurely

journey and were not prepared to get short-changed.

They caution the engine driver that if he were to “speed up”, then they would

demand a refund.

The engine driver finding

himself in an “impossible”

situation is left with no choice

but to maintain status quo. The

Greeks are left with no choice

but to suffer their ordeal.

Let us see the formula of the Current Account Balance (CAB)

CAB = X - M + NI + NCT

X = Exports of goods and services

M = Imports of goods and services

NI = Net income abroad  [Salaries paid or received,

credit / debit of income from

FII & FDI etc. ]

NCT = Net current transfers [Workers' Remittances

(unilateral), Donations,

Aids & Grants, Official,

Assistance and Pensions etc]

CURRENT ACCOUNT DEFICIT

One of the Greeks regrets his decision to have

travelled by train. He feels that had they travelled

by their own car, the decision of speeding up

would have been theirs. But now since they are a

part of the train, they can do little to influence its

speed.

GREECE CRISIS

GREECE CRISIS

The situation in Europe is similar to the story of the Euro train. The common

currency, “EURO” is like the train. Some countries like Greece, Italy, Spain,

Portugal, and Ireland are not comfortable with the valuation of the EURO (it

is exactly how the Greeks were not comfortable with the speed of the Euro

train).

These countries are facing a slow down and need to revive their economy.

One of the best ways to do that is to sell more products to the world and

reduce debt. And in order to do that, it is vital to devalue the currency.

GREECE CRISIS

But since the currency (EURO) is common for all the countries, just a handful

countries cannot decide about changing the valuation of the EURO all by

themselves.

This is just like how the Greeks in the EURO train failed to “Speed- Up” the

train. For countries like Germany and France who are not in a “debt”

problem like the Greeks, a reduction in the value of the EURO works against

their interest because it unnecessarily makes their imports more expensive

and prices of commodities in general increases.

GREECE CRISIS

Basically the tinkering of the currency works in opposite ways for two sets of

countries. Had Greece own their currency, they could have easily devalued

their currency to make their exports more attractive.

This would have boosted their economy by creating demand and thereby

jobs. This would be like their having to travel in their own car instead of being

part of a larger train.

GREECE CRISIS

Hope the above example would have helped you to understand the currency

dilemma that is causing concern to several European countries like Greece, Italy,

Spain, Portugal and Ireland who find themselves sinking in debt.

Also, hope this lesson has also clarified why some other countries of the European

Union like Germany do not share the needs of the weaker nations and hence their

currency strategy runs opposite to that of the troubled nations.

Please give us

your feedback at

professor@tataamc.com

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