Finance Management
Author:
Genre: Finance

1. You are required to investigate the role of Greece, Spain and Italy in the debt crisis in the European Union.

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Finance Management

Question-1 (Italy Only)

(i)

The financial and economic conditions which have existed in Italy during the period of 2004-2012 have not seen substantial changes. The country has been managing its revenues and expenditures in a balanced way during this period and the primary budget has been in surplus during this period. But the interest payment and the repayment to the existing debts is causing the overall fiscal deficit to increase. In 2008, the budget deficit of the country crossed the 3% mark defined for convergence criteria and has been increasing since then owing to the interest payment s to its existing debts. The debt to GDP ratio of the country is currently at 120% which has been quite stable and at almost the same level for last two decades, which tell that country is doing well with respect to not let this ratio increase in troubled times, but it must also be realized that this ratio is far greater than the expected level of 60% defined under convergence criteria. The economic growth of the country has not been good during this period. In fact for the last two decades, the average economic growth rate has been below one percent which is very low for any standard and gain doesn’t meet the convergence criteria (OECD, 2011). Due to this low growth rate of economy, the inflation in the economy is also low. The inflation in country has averaged at about 2.2% during this period which is within the guidelines of convergence criteria. At present the inflation in the economy is 3.1%. The long term interest rates also until recently have been within the convergence criteria. In November, 2011 the interest rate climbed to 7% and crossed the convergence criteria intermittently during the period between November 2011 and till now. The reason behind Italy missing certain convergence criteria is the low growth rate due to lack of reforms and the socialistic nature in which the politics of the country works. Because of this many of the products of country are not competitive in global market. The low economic growth (which has even become negative in 2012), causes the revenue of the government to not increase as it should in order to finance the interest payment of the debt it holds. As a result the country has to take further debt to pay these commitments. This has led to fiscal deficit of the government to be higher, the debt/GDP ratio to not reduce, the credit rating of the country to reduce and the interest rates or the cost of borrowing to increase. All these conditions explain why the country is not being able to meet the convergence criteria. As the primary budget, revenues less expenditures excluding interest payments is in surplus, we can see that the government is though able to manage finances but is unable to increase the economic growth rate. If the economic growth rate of the country can be improved by bringing in reforms, making the market more competitive and increasing productivity, then economic parameters can again be brought back within the limits defined by convergence criteria. (European Commission, 2010)

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