Euro, ECB and Eurozone Past and Upcoming Challenges

Euro, ECB, Eurozone, Past and Upcoming, Challenges, Macroeconomics, fx trader, forex

29 Jul 2016

Over the past decade, the European Union (EU) has faced a number of distinct economic challenges and political conflicts. These began with the financial crisis of 2008, which almost brought down the world’s financial system due to the U.S. subprime mortgage crisis and then continued with the second financial crisis due to the European sovereign debt crisis.

Although the European Central Bank (ECB) has introduced a number of monetary policy measures to regain economic growth and financial stability for the euro area, by maintaining price stability, a number of risk events made their appearance over the last year to tackle ECB’s efforts. These risk events include the EU referendum outcome, where the UK voted to leave the European Union (52 percent – 48 percent), and the ongoing migrant crisis, as well as the review of Greece’s third bailout programme. Now, the ECB does not have to face only low inflation, high unemployment and sluggish growth in the euro area, but also the upcoming risk events that threaten the euro area’s economic environment.

Responses to the Financial Crisis of 2008

The ECB, in response to weak growth, low inflation and high unemployment, which occurred after the financial crisis of 2008, decided to face the economic slump by decreasing its key interest rate from 4.25 percent to 1 percent in an 8 month period and by increasing the money supply in the euro area. In addition, it launched a Quantitative Easing programme, or QE; ECB purchased 60 billion euros of covered bonds in May 2009 to provide liquidity to the market in a recessionary environment, and to stabilise some member states’ economies.

As mentioned above, these measures were created in order for the euro area to exit the recession, as well as to bring inflation back to levels in line with the ECB’s target at 2 percent. But the measures were also created to help businesses across Europe enjoy easier access to credit, to boost investments, create jobs and in turn support the overall economic growth. It’s worth noting that at that time the euro to dollar exchange rate was around 1.4000.

The Effectiveness of the First Measures

The steps that the ECB introduced and placed in action after the financial crisis of 2008 did send the economy out of recession, at least temporarily, and brought inflation closer to central bank’s target. The two strongest economies of the euro area, Germany and France, had a more in-depth positive effect from the measures. They recovered fast from the Global Financial Crisis and they have never fallen in recession again since then.

On the other hand, these steps failed to improve the labour market which was getting worse, surging above 10 percent in early 2010. The reason behind the short-term impact on the euro area economy as a whole was that some countries have never escaped recession or they turned to growth for only a few quarters. Greece’s and Ireland’s debt ballooned and the two governments turned to bailout in 2010, signalling the start of the euro area debt crisis.

Euro, ECB, Eurozone, Past and Upcoming, Challenges, Macroeconomics, fx trader, forex Greece and IrelandFig.1. Greece and Ireland debt in percent of GDP, Source: Eurostat