This analytical report analyzes the background of European financial crisis and causes impact to the ongoing economic crisis. According to the analysis this terrible situation arises due to amalgamation of numerous complex factors. Reasons caused for this continuing financial crisis varied by country to country in the euro zone. In numerous countries, private debts arising from a property bubble caused to government to transfer sovereign debt to the banking system to avoid the bailouts of banking system.
In a summery, crushing level of government debt in some countries, problems in the banking sector and the slow growth in Europe are the three separate but interconnected reasons for the European sovereign debt crisis. Further in this report discussed some of the measures had taken by European Union authorities to manage the economic crises. Mainly Greece, Portugal, Italy and Spain European member countries effected from the financial crisis.
PESTEL analysis used to analyze the current business and economical environment of the European union and it has covered the major political, economical, social, technological, environmental, legal factors within the euro zone and identified the main risk factors which have higher impact on New Zealand based Marino wool exporting industry. Based on the detailed analysis of condition of the economic and financial environment in European region observed the potential risk factors which are impact to the New Zealand based Merino wool exporters and gave the best possible suggestions to overcome the identified potential risk. 1. Background of the Crisis in European Union. The economic crisis in European Union cause dramatic problems to the European Union countries and due to this financial crisis most of the countries in European Union could not able to repay their government debt without the assistance of any other country or a third party. This terrible situation arises due to amalgamation of numerous complex factors.
This sovereign debt crisis rose among investors as a consequence of the increasing private and government debt levels around the world together with a sign of decreasing of government debt in some European states. Reasons caused for this continuing financial crisis varied by country to country in the euro zone. In numerous countries, private debts arising from a property bubble caused to government to transfer sovereign debt to the banking system to avoid the bailouts of banking system. the guardian, 2012) Apart from the above globalization of finance, easy credit conditions during the period of 2002 to 2008 that encouraged high-risk lending and borrowing practices, global financial crisis during the period of 2007 to 2012, international trade imbalance, global recession during the period of 2008 to 2012 and fiscal policy choices related to government revenues and expenses mainly affected to the economic crisis in Europe Zone countries. (Wikipedia, 2012) 02. Major Causes for the crisis in Euro Zone
Increasing household and government debt levels According to the Maastricht Treaty (convergence criteria) government between the European Union agreed to fiscal requirement which is government debt should not exceed 60 percent of the country’s Gross Domestic Product and the budgeted amount to no more than 3 percent of GDP. This agreement had broken almost immediately by the member countries including France and Germany. In 2007 the average fiscal deficit in the euro area was only 0. 6% and it reached to 7% during the financial crisis.
In the same time the average government debt had increased from 66% to 84% of GDP. (Wikipedia, 2012) Extraordinary increment of household debt levels were another major cause to the financial crisis. According to the statistics of IMF during the five years preceding 2007 the ratio of household debt to income rose dramatically by an average of 39 percent to 138 percent. In Ireland, Iceland, Denmark, the Netherlands, and Norway debt reached at more than 200 percent of household income. It resulted to slow the economic growth in those countries.
Trade imbalances Another significant factor that caused to generate the economic crises in Europe zone was vast deficit in current account balances of the EU countries. In the period of 1999 to 2007 Germany had a significantly healthier public debt and fiscal deficit relative to GDP than the most affected euro zone members. Countries like Ireland, Spain, Portugal and Italy had worse balance of payment positions by having higher imports expenditures over export income compared against with other euro zone countries.
Changes in relative labor costs can also be affected to the trade deficit, which made southern nations less competitive and increased trade imbalances. (European Commision, 2012) Figure 1 – Analysis of gross public debt of European Union member countries. Figure 2 – Current Account Balances of Euro Zone countries Structural problem of Euro zone system According to the euro system they had a monitory union without a fiscal union. Even though they were not fiscal union member countries required to follow similar fiscal policies.
But they do not have common treasury to observe it. Therefore countries had a freedom in making fiscal policies in taxation and expenditure. Even though there are some agreements on monetary policy and through European Central Bank members may not simply choose not to follow it. This feature especially showed by Greece. In addition to that there is also a problem that the euro zone system has a difficult structure for quick response. For the decision making process within the euro zone, it requires members unanimous agreement.
This would lead to slow respond to the problems within the euro zone. (Wikipedia, 2012) Loss of confidence After the impact of crises investors became doubtful regarding policy makers actions to remove recessionary effects of the crisis and it resulted to loss of confidence of the both economic regulators and banks system on sovereign debt from euro zone. (Wikipedia, 2012) Monetary policy inflexibility Within the euro zone, they established a single monetary policy, preventing individual member states from acting autonomously.
Accordingly they cannot create euro in order to pay creditors and eliminate their risk of default. Also they cannot devalue their currency to make their exports cheaper, since they use the same currency as their trading partners. Rating agency views In December 2011 one of the American financial services company called “Standard and Poor’s” placed its long-term sovereign ratings on 15 members of the euro zone on “CreditWatch” with negative implications. “Standard and Poor’s” wrote this was due to systemic stresses of interrelated factors. (Steiner, 2012) 03.
EU emergency measures. European Financial Stability Facility (EFSF) In May 2010 the 27 European Union members agreed to sign the European Financial Stability Facility which is a legal instrument targeting at preserving financial stability in Europe by given that financial assistance to euro zone states in difficulty. The EFSF can issue bonds or other debt instruments on the market with the support of the German Debt Management Office to raise the funds needed to provide loans to euro zone countries in financial difficulties buy sovereign debt or recapitalize banks. Wikipedia, 2012) European Financial Stabilization Mechanism (EFSM) European Financial Stabilization Mechanism (EFSM) has created by the European Union in January 2011 an emergency funding program dependent upon funds raised on the financial markets and guaranteed by the European Commission using the budget of the European Union as collateral. It operates under the supervision of the Commission and aims at preserving financial stability in Europe by providing financial aid to European Union member countries in economic difficulty. (Wikipedia, 2012) Brussels agreement
Leaders 17 countries of the euro zone met in Brussels in October 2011 and agreed on a 50 percent write-off of Greek sovereign debt held by banks, a fourfold increase in bail-out funds held under the European Financial Stability Facility, an increased compulsory level of 9% for bank capitalization within the European Union and a set of commitments from Italy to take measures to reduce its national debt. European Central Bank The European Central Bank has taken a series of actions designed at dropping volatility in the financial markets and at improving liquidity.
It includes, started open market operations buying government and private debt ecurities, reactivated the dollar swap lines with Federal Reserve support, changed its policy concerning the necessary credit rating for loan deposits. Long Term Refinancing Operation and Reorganization of the European banking system The ECB’s main refinancing operations converted from repo auctions with a weekly maturity and monthly maturation to Long Term Refinancing Operations, maturing after three months, six months, 12 months and 36 months. ECB together with other European leaders hammered out plans for the ECB to become a bank regulator and to outline a deposit insurance program in June 2012. Wikipedia, 2012) European Stability Mechanism (ESM) The European Stability Mechanism is a permanent funding program to succeed the temporary European Financial Stability Facility and European Financial Stabilization Mechanism in July 2012. But it had to be postponed until after the Federal Constitutional Court of Germany had confirmed the legality of the measures in September 2012. 04. Countries are most at risk. Too much of sovereign debt, lenders demanding higher interest rates from numerous countries with higher debt levels, budget deficits and current account deficits made significantly problems to almost all the EU member countries.
Also it leads to further budget deficits and increase the existing national debt levels, especially in which in economies which have lower level of growth rate and high percentage of national debt level, Particularly in Greece and Portugal. (Wikipedia, 2012) Greece economy was one of the fastest growing economic among the euro zone economies and had a great amount of deficit In the early mid 2000s. In the late 2000s, Greece economy was hit by the world and European economic crisis since Greece depends on mainly shipping and tourism industry.
Greece debt has increased continuously since government needed to run the economy. (BBC, 2012) Belgium’s public debt was 100% of its GDP In 2010 and it was the third highest among the euro zone members after Greece and Italy. It leads to a serious problem of financial stability of the country. Financial analysts predicted that Belgium would be the next country to be hit by the European financial crisis in November 2010. (Wikipedia, 2012) Further to above countries Portugal, Italy, Spain, France EU members had seriously affected by the European financial crisis. Wikipedia, 2012). Figure 3 – Greek debt compared to euro zone 05. Analysis of Business Environment in Europe for Marino Wool Clothing Market. One of the suitable and proper technique which can be use to analyze the business environment of the European Union is PESTEL analysis. Political Factor Nature of the political environment in European Union is differing from time to time. When we observed the behavior of political environment of European Union it showed both pattern of higher and lower. The headquarters of European Union is situated in Belgium.
At the beginning European Union has began with 6 countries and now it increased to 27 member countries. Since European Union is a monetary union those member countries have their own political structures to deal with their political issues and other countries. Still the process of integration going on in the European Union and Switzerland, Norway, Iceland and Liechtenstein countries still have not been integrate with the EU. Economical Factor Authorized bodies make the economic policies in the European Union. Due to the introducing of Euro currency they had some challenges in their economies.
Recession of the European economy has badly affected to the exporting business of New Zealand based Marino wool manufactures. According to the figures, high exchange rate fluctuations, Imbalance of trade account, high inflation rate, Unemployment rate and decreasing GDP may badly impact on New Zealand based Marino wool manufactures. Due to imbalanced deficit of trade account Euro has been depreciating against NZ dollars. This has adversely affect to the New Zealand trade account and create an adverse situation for Marino wool clothing exporters because it decrease the export income in terms of NZ dollars.
Figure 4 – Inflation rate (HICP) Figure 5 – Exchange rate fluctuation between Euro and New Zealand Dollar Figure 6 – GDP in prices of the previous year (economic growth) Social Factor According to the statistics population of the Euro Zone counted as over 500 million. When analyse the European textile industry it shows increasing trend and European are most of the time fashionable. However recent economic recession and several social factors decrease the consumer demand for wool clothing in Europe Union. It leads bad impact on New Zealand Marino wool exporters. (Wool News, 2012) Technological Factor
United Kingdom is the leading manufacturer of wool in the European Union and they use new technology to produce them. Therefore, there is increasing demand for applying new technology at the manufacturing process. New Zealand as the second largest merino wool manufacturer is using highly modern technology for their manufacturing. Environmental Factor Today, the European Union has important environmental policies relating to the all the areas of environmental protection which are water pollution control, air pollution protection and the control of chemicals using, biotechnology and other industrial risks. Wikipedia, 2012) Also Europe has climate condition which experience the winter season. Accordingly, it leads favorable condition to the merino wool clothes industry in NZ. Legal Factor The European Union is incorporate on a series of treaties. Authorized institutions have ability to pass legislation which can directly impact all member countries and their population. Under the principle of supremacy all the member states are required to follow those. The European Union has the legal personality of signing business agreements. Therefore commercial law in European Union promote the international trade in the euro zone.
It promotes the open market system and international trade development with multilateral frame work of World Trade Organization. (Europa, 2011) 06. Identified Potential Risks in European Region. Political Risk. Currently almost all the member countries in the European Zone badly affecting with the large imbalance in trade deficit and incredible increasing government debt and that lead them to a crucial problem of sustainability of the government. Due to the higher deficit in their trade account there is a potential risk of raising tariffs and non tariff barriers (Quotas) to the international trade in European Union.
This would adversely impact on wool clothing and lead to discourage imports to the Euro Zone. Further domestic manufacturer may get subsidies until to some period which until recover from their recession. It would badly impact on NZ wool clothing industry since the European market is their main export market. Economic risk. Currently European Union is affecting with ongoing economic and financial crisis and it led them to decrease their economic growth, higher level of inflation rate, higher level of unemployment rate according to the statistics. Therefore, income level of European may decrease and further reduce their purchasing power.
This potential risk adversely impact on the sales of NZ based Marino wool exporters. Financial and Foreign Exchange risk. Since international trade obviously combined with the potential risk of exchange rate NZ based Marino wool cloth manufacture face intensive potential risk for the unexpected changes in foreign exchange rate between Euro and NZ dollars. Risk of higher level of competition. There is a higher level of competition for exporting merino wool garments to the Europe Zone among the countries of China, Australia, United States, New Zealand and Argentina.
Therefore NZ based Merino wool exporters have to manage this extreme level of competition influence from the above major exporters. Currently, Due to the low production cost Australia and China able to made the competitive advantage among the competitors. (Merino inc, 2003) Risk of decreasing demand for wool clothing in Europe. Uncertainty in the global economy and European ongoing financial crisis negatively impact the consumer and business in euro zone. Consumer demand for the Merino wool clothing is decreasing currently due to above identified several social and economical factors.
It leads to potential risk of decreasing their market share of NZ based Merino wool clothing manufacturers. 07. Managing and Controlling the Identified Risks. When managing and controlling the identified potential risk and uncertainties very first NZ based wool manufacture has to focus their internal factors and try to mitigate the potential risk pressure from their internal environment. Implement cost cutting programs and reduce the manufacturing cost of merino clothing. To gain the competitive advantage out of the competitors it is important to gain the economies of scale in their production.
To obtain the above purpose they need to increase their production as well as reduce their unnecessary overhead cost. Compare to the China market it is very expensive labour cost in the New Zealand. Therefore it is essential to based on their production more on automated machine rather than based on labour force to reduce their cost. Implement competitive marketing promotion and strategies. To compete with competitors and increase the consumer demand for the Merino wool cloths in the European market it is important to implement a strong marketing campaign.
Then it will lead to increase the consumer demand and market share of the NZ based Merino wool clothing manufactures in the European market. Presenting for the fashion festivals which held in European region. It could helpful to promote the consumer demand for the NZ based Merino wool garments. Further they can use the international fashion magazine and mass media lines to promote the NZ Merino wool garments. Using exchange risk management techniques. Even though there is many more method to manage the exchange rate risk it is important to determine the appropriate technique to manage the potential risk.
These are main methods: Forward Exchange contract – This enables the exporter to protect from the foreign currency transaction from adverse movement of the exchange rates by locking in agreed exchange rate with a financial institution. Foreign Currency Option – This enables to exporter to buy or sell a particular amount of foreign currency at a specified time. None hedging techniques – In the case of non hedging techniques exporter can raise their invoices in terms of euro currency and avoid the foreign currency exchange risk. (CPA Australia, 2009) Request from relevant New Zealand authorities to promote
International trade. New Zealand based Merino wool exporters could request from the relevant government authorities to promote the international trade and Merino wool industry in the European region. Also government would be able to make some trade agreement which favourable to the Merino wool exporters through government to government negotiations and using the international government relationship. Accordingly New Zealand based Merino Wool garment exporters able to get the support from the government institutes for reduce the potential risk on their exporting business in euro zone. Explore new export markets. As a wide and final decision NZ based Merino wool exporters could explore some foreign export markets rather than depending mainly on Europe zone. They can look forward to the Russian, Japan, and United States and Canada Merino wool garment market too.
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