The European Debt Crisis through Economic Theory

Later a twin debt blow has been considered as one of the most prominent reasons behind the European debt crisis. The twin blow came out of the banking crisis together with the previously mentioned extremely high sovereign debt. The European Central Bank (ECB) launched the single currency (euro) in 1999 along with the Economic and Monetary Union (EMU), aiming to gain monetary efficiency. An Economic and Monetary Union offers a series of monetary efficiency gains in forms of accounting ease among the member states that in turn reduces opportunity cost of transforming one currency into another, development among member states would be at par owing to reduction of any possible economic shock (that are often regional in nature), member states under an Economic and Monetary Union following a common currency would also abstain from inner inflow and outflow of speculative capital, furthermore policy formation among member states would be coherent and coordinated in nature that will eventually usher better economic growth and development. While fiscal irresponsibility on the part of periphery countries has been considered by many analysts as the root of the ongoing crisis, this paper argues that the impact on capital flows within the euro-zone of financial deregulation and liberalization and of the adoption of the common currency was critical in exacerbating a growing competitiveness gap between core and periphery countries and explaining the evolution of the crisis.The crisis in Europe began when financial markets lost confidence in the creditworthiness of PIIGS countries (Portugal, Ireland, Italy, Greece and Spain) and interest rates on government bonds soared to astonishing levels that forced the governments of these countries to seek bailouts from the international community,including the European Community, the IMF and the European Central Bank (ECB), collectively known as Troika.