THE IDEA OF ETHICS AND THE EUROZONE CRISIS

Prepared for:
Ms. Homayara L. Ahmed
Assistant Professor

Prepared by:
Bijon Islam (Roll: 21)
Faruk Ahmed (Roll: 20)
EMBA 14th Batch

IBA, Dhaka
January 04, 2012

January 04, 2012

Ms. Homayara L. Ahmed

Assistant Professor
Institute of Business Administration
University of Dhaka

Sub: Term Paper Submission- The Idea of Ethics and the Eurozone Crisis

Dear Madam:
Thank you for giving us the opportunity for working on such an exciting topic. Looking at the Eurozone crisis from
an ethical perspective reveals several insightful and interesting insights including a look into the idea of equality
among the member states, financial camouflage practices and the focus on immediate gains both in private sector
and at national level.
We have tried to map out such factors that have contributed to ethics mismanagement among the euro member
states which have finally culminated into the crisis.
We hope that you enjoy reading this paper as much as we did writing this and look forward to your views. Please
feel free to contact us anytime if you feel the need for any additional support that we may provide.
Kind Regards

Bijon Islam Roll 21 (EMBA 14)

Faruk Ahmed Roll 20 (EMBA 14)

pg. 1

CONTENTS
EXECUTIVE SUMMARY ...................................................................................................................................................3
1.

THE STORY.............................................................................................................................................................4
A.
B.
C.
D.
E.

Context .............................................................................................................................................................4
Objectives of the Paper ....................................................................................................................................4
Scope ................................................................................................................................................................4
Methodology ....................................................................................................................................................4
Limitations ........................................................................................................................................................5
THE EURO ECONOMY ............................................................................................................................................5

A.
B.

What went wrong? - Explaining the Euro crisis ................................................................................................5

Bailouts: Greece, Ireland and Portugal .............................................................................................................6
ROLE OF ETHICS IN THE CRISIS AMONG THE MEMBER STATES AND THE PRIVATE SECTOR .............................7

A.
B.
C.
D.
E.
F.
4.

Breach of the Borrowing Pact and Data Manipulation by Greece ...................................................................7

Germany considered more equal than others .................................................................................................7
The Private Sector comes into play .................................................................................................................. 7
Germanys Short Term Economic Gains View .................................................................................................8
The Southern Europe Dilemma ........................................................................................................................8
The Crisis Cycle .................................................................................................................................................9
THE ETHICS FACTOR MODEL LEADING TO THE CRISIS .....................................................................................10

5.

WAY FORWARD LEARNING FROM THE CRISIS .................................................................................................11

6.

References ..........................................................................................................................................................12

2.

3.

pg. 2

EXECUTIVE SUMMARY
The current Eurozone Crisis is often seen as a derivative of the global financial meltdown. Though this view is
partially correct, the main protagonist of the Euro Predicament is believed to be much deeper and lies in the
absence of standardized ethics among the member countries. The paper focuses mapping out different factors
that have led to ethics mismanagement which in turn has instigated the crisis.
The Euro was primarily formed with the objective of rivaling the dollar as the worlds base currency. Initially, there
were specific parameters, mainly annual borrowing limits, which were necessary for a country to become member
state. However there was weak due diligence in assessing the suitability for entry into the euro and equally weak
application of the few rules that was supposed to police its operation.
Secondly the powerhouse economies like Germany themselves breached borrowing limits rules and therefore the
Euro governing body didnt reprimand the other economies that followed and violated the annual borrowing
limits. Countries like Italy broke the annual 3% borrowing limit regularly followed by France. Consequently
countries like Greece never maintained borrowing limits and manipulated its borrowing statistics to get into the
Eurozone.
With the euro economies taking in significant debt burdens and the private sector collapse (financial meltdown)
due to the private sectors focus on immediate gains by taking advantage of market deregulations, the Eurozone
was on its way to the crisis. The powerhouse economy Germany focused on strengthening their own economy and
with short term gains view on mind invested in debt burdened Euro countries. Now the whole zone is in crisis with
the powerhouse economies surplus wealth invested in the debt burdened economies.
The story exhibits ethics mismanagement in three facets:
First was the lack of equality, countries like Germany were deemed more equal than others which meant
such countries could put individual economic prosperity ahead of others.
Secondly, the governments of countries like Greece went so far as to camouflage the countries statistics
to enter the euro pact and accumulate more debts and they were allowed to do so due to absence of
proper due diligence.
Lastly, market deregulations gave the opportunity of ethics mismanagement in the private sector also
aggravated the scenario.
The crisis is already attributed to ethics mismanagement and absence of cohesive plan among the member states
to address the problem. The member nations need to take a long term gains perspective for the total region ahead
of their short term gains view and come to a political consensus on the measures that need to be taken.
Rich countries like Germany have insisted on austerity measures designed to bring down debt levels, while poorer
countries facing the problems complain that austerity is only hindering growth prospects further.
The most popular solution proposed has been the Eurobond, which would be jointly underwritten by all Eurozone
member states. These bonds would presumably trade with a low yield and enable countries to more efficiently
finance their way out of trouble and eliminate the need for additional expensive bailouts.
Right now though there isnt any easy answer to the crisis. The financial markets continue to monitor the scenario
hoping that solutions amicable to all member states arise. However the zone must themselves establish strong
principal and deterrents against ethics mismanagement both at government level and private sector if Eurozone is
to emerge as a successful power Economy.

pg. 3

1. THE STORY
A. Context
The current Eurozone Crisis is often seen as a derivative of the global financial meltdown. Though this view is
partially correct, the main protagonist of the Euro Predicament is believed to be much deeper and lies in the
absence of standardized ethics among the member countries (Hades 2012)1.
When the euro was being set up in the 90s under the stability and growth pact the member countries agreed to
specific borrowing limits under the stability and growth pact. However, countries like Italy broke the annual 3%
borrowing limit regularly followed by France. Even Germany, the current euro powerhouse, was the first to break
the rules (BBC 2012)2. When the most prominent euro economies broke the rules this meant loose enforcement of
the debt limits. Consequently countries like Greece never maintained borrowing limits and manipulated its
borrowing statistics to get into the Eurozone (BBC 2012)2.
However the private sector bubble bursts (households mortgage industry) and financial sector crisis, driven by
lack of ethical management among private sector financial entities (Kinsela and Kinsela 2012)3, meant that
countries like Ireland and Spain (who previously ran budget surpluses) were suddenly impacted with debt burden.
In the meantime Germany which has been generating trade surplus via exports invested heavily in the American
and Euro debt market for short term economic gains (The Economist 2012)4. This meant they overlooked long term
point of view of economic stability for the Eurozone.
To sum up euro countries that were already in debt were funded by trade surplus of the more stable countries.
This means the euro fund has got tied up in a cycle and the zone has contravened into an economic recession
(Amadeo 2012) 5.
The story above exhibits absence of standardized ethics in three levels:
First was the lack of equality, countries like Germany were deemed more equal than others which meant
such countries could put individual economic prosperity ahead of others.
Secondly, the governments of countries like Greece went so far as to camouflage the countries statistics
to enter the euro pact and accumulate more debts.
Lastly, the ethics mismanagement in the private sector also aggravated the scenario.
B. Objectives of the Paper
The above story portrays a very dynamic and interesting relationship between ethics, the euro member states and
the private sector. This paper will explore this relationship further with the below objective in mind Understand the crisis-how it came into being and the current bailout scenarios
Identify the factors relating to ethics mismanagement that has affected the euro member states has led
to their short term economic gains view
C.

Scope

The paper will primarily focus on mapping variables that has led to absence ethical standards among the euro
members and its impact on the private sector and the economy. The thesis will mainly look at the most prominent
Euro economies like Germany and France and the most affected economies like Greece, Spain, Ireland, Italy and
Portugal.
D. Methodology
The ideas presented will principally be form research papers, journals, articles and expert opinions availed through
secondary research.

pg. 4

E.

Limitations

The paper will look at the ethics impact to the euro economy as a whole. However there are significant amount of
cultural and social individualistic country specific factors that affects the euro economy. The thesis will not look
into this other aspects but focus on establishing a common model between standardized ethics management and
its correlation to economic prosperity relative to the Eurozone.

2. THE EURO ECONOMY

A. What went wrong? - Explaining the Euro crisis
The euro was introduced in 2002 as the single currency of the European Union, consolidating the largest trading
area in the world and soon rivaling the dollar for global supremacy. However, the accumulation of massive and
unsustainable deficits and public debt levels in a number of peripheral economies threatened the Eurozones
viability by the end of its first decade, triggering a Eurozone sovereign debt crisis. The crisis highlighted the
economic interdependence of the European Union (EU), while also underscoring the lack of political integration
needed to provide a coordinated fiscal and monetary response (Alessi 2012) 6.
Germany (and, to a lesser extent, France) reluctantly stepped into this political vacuum. The Eurozone's wealthiest
members called on weaker states to embrace strict austerity measures, inciting popular unrest and toppling
governments in Portugal, Spain, Greece, and Italy. Yet in spite of a number of euro rescue deals agreed upon by EU
leaders, market volatility persisted into 2012, calling into question the future of the euro (Alessi 2012) 6.
To understand the root of the crisis we have to take a look at the inception criterias of the EU and the breach of
those criterias by the member states and the implications of those breaches.
The below criteria was laid out for European countries that wanted to enter the Eurozone:
All states had to have their financial houses in order by ensuring inflation was no more than 1.5 percent a
year
Keeping budget deficits at no more than 3 percent of GDP
Maintaining a debt-to-GDP ratio of less than 60 percent.
To meet these criteria, many countries had to adopt strict budgets by cutting public spending and raising taxes. In
reality, the enforcement of these standards was not consistent. There was weak due diligence in assessing the
suitability for entry into the euro, and equally weak application of the few rules that were supposed to police its
operation.
The powerful original members of the EU, such as Germany, were eager to develop a large and competitive
Eurozone, and so allowed less solvent EU nations to adopt the euro even if they had failed to fulfill the entry
criteria.
However leaders of European countries with weaker economies tended to defer tougher budgetary measures
because of domestic challenges. The political price for those moves was too high for countries like Italy, Spain, and
eventually Greece, and they entered the euro without that deep restructuring (Alessi 2012) 6.
Conversely the effects were not immediately felt: The periphery states thrived in the first years of the euro,
propelled by large infusions of liquidity and unprecedented access to credit from other Eurozone states. At the
same time, the "productive capacity" of the periphery was limited by rigid labor markets and a reduction of
economic competitiveness.
The underlying structural issues in the Eurozone periphery became increasingly visible following the global
financial meltdown of 2007-2008. Liquidity quickly dried up and several states were left with unsustainable deficits

pg. 5

and public debts greater than their GDP. By 2010, a sovereign debt crisis, most pronounced in Greece, was
spreading throughout the periphery and imperiling the future of the Eurozone. Between spring 2010 and spring
2011, the EU and the IMF acted to bail out Greece, Ireland, and Portugal (BBC 2012)2.
B. Bailouts: Greece, Ireland and Portugal
Greece's debt crisis came to a head because of its massive spending and consumption, coupled with increased
wages and government benefits, in the years following its adoption of the euro. In November 2009, it was revealed
that Greece had manipulated its balance sheets prior to the global financial crisis to hide its debt (BBC 2012)2.
In May 2010, the European Commission, European Central Bank, and IMF held an emergency meeting to address
Greece's burgeoning debt crisis, which resulted in the creation of a temporary bailout fund called the European
Financial Stability Facility. Following its inception, the EFSF helped to provide Greece with a $163 billion loan in
exchange for assurances that the country would implement strict spending cuts and tax hikes.
By 2011, after three credit rating agencies downgraded Greece's debt to junk status, it was clear that Greece was
struggling to implement EU-IMF-mandated budget cuts and privatization plans. In October 2011, with Greece again
on the verge of default, German Chancellor Angela Merkel and French President Nicolas Sarkozy engineered a
three-pronged rescue plan to provide Greece with a second bailout package worth approximately $178 billion.
Unlike the original bailout, the deal included a "voluntary" write-down by private holders of Greek debt.
However, the budget cuts mandated by the agreement triggered a political crisis in Greece that led to the
resignation of Prime Minister George Papandreou and the formation of a so-called technocratic government (LAT)
of national unity. In February 2012, Greece's new Prime Minister, Lucas Papademos, pushed a new round of deeply
unpopular austerity measures through parliament, paving the way for the implementation of the new bailout. Still,
an increasing number of analysts and policymakers doubt that the rescue will be enough to set Greece on the road
to fiscal soundness. The IMF, for one, has called on Greece's official creditors, including Germany and the ECB, to
also take losses on their holdings of Greek debt.
Unlike Greece, Ireland's debt crisis was spurred by a bank default crisis, a result of its housing bubble collapsing in
2008. In the wake of the global financial crisis, the Irish economy experienced one of the most severe recessions in
the Eurozone. Ireland's output decreased by 10 percent between 2008 and 2009, while unemployment increased
from 4.5 percent in 2007 to nearly 13 percent in 2010 (Green 2012)8.
Ireland's government took on massive liabilities to support its financial system during the global crisis. In December
2009, the country's finance minister announced a budget-reduction plan following warnings from the Organization
for Economic Cooperation and Development (Independent) that its deficit was ballooning to dangerous levels. Still,
less than a year later, in November 2010, Ireland was on the verge of default and was forced to seek a $112 billion
EU-IMF rescue package. In return, Ireland implemented a new budget aiming to cut $20 billion over four years
through spending cuts and tax hikes.
Meanwhile, Portugal's GDP, productivity, and wage growth stagnated over the past decade. The country's
dependence on foreign debt--demonstrated by a current account deficit that was more than 10 percent of GDP in
2009, made it more susceptible to the crisis sweeping the European periphery. (The Economist 2012)4.
As Portugal's debt crisis worsened in 2010 and 2011, its then-Socialist government tried in vain to implement
numerous austerity packages, each rejected by parliament. By the end of March 2011--with Portugal's credit rating
at near-junk status and the yields on ten-year bonds more than 8 percent--it became clear that Portugal, too,
would require a rescue loan. In May 2011, the EU and IMF agreed on a $116 billion bailout package for which
Portugal agreed to implement austerity measures totaling 3.4 percent of GDP (BBC 2012)2.
Still, in July 2011, credit rating agency Moody's downgraded Portugal's debt to junk status, warning of an
"increasing probability" that the country could need another bailout. Since then, Portugal's recently installed

pg. 6

center-right government has taken pains to implement steep cuts, even as the country faces its deepest recession
in decades (The Economist 2012)4.

3. ROLE OF ETHICS IN THE CRISIS AMONG THE MEMBER STATES AND THE PRIVATE SECTOR
A. Breach of the Borrowing Pact and Data Manipulation by Greece
The members states themselves didnt adhere to the borrowing limit of 3% of GDP per year according to the
growth and stability pact that the countries agreed to (BBC 2012)2.

Italy was the worst offender. It regularly broke the 3% annual borrowing limit. But actually Germany - along with
Italy - was the first big country to break the 3% rule. After that, France followed.
Of the big economies, only Spain kept its nose clean until the 2008 financial crisis; the Madrid government stayed
within the 3% limits every year from the euro's creation in 1999 until 2007. Of the four, Spain's government also
has the smallest debts relative to the size of its economy.
Greece, by the way, is in a class of its own. It never stuck to the 3% target, but manipulated its borrowing statistics
to look good, which allowed it to get into the euro in the first place. Its waywardness was uncovered two years ago
(Green 2012)8.
B. Germany considered more equal than others
So per the above analyses Germany, France and Italy should be in trouble with all that reckless borrowing, while
Spain should be reaping the rewards of its virtue. Actually Germany is the "safe haven" - markets have been willing
to lend to it at historically low interest rates since the crisis began. Spain on the other hand is seen by markets as
almost as risky as Italy. Germanys brand equity is primarily driven by the countrys productivity but also Germany
being a powerhouse in the EU has since the coalitions inception branded themselves as a more equal country than
others, an idea rooted as early as during World War II (Kinsela and Kinsela 2012)3.
C.

The Private Sector comes into play

There was a big build-up of debts in Spain and Italy before 2008, but it had nothing to do with governments.
Instead it was the private sector - companies and mortgage borrowers - who were taking out loans. Interest rates
had fallen to unprecedented lows in southern European countries when they joined the euro. And that encouraged
a debt-fuelled boom (The Maryland Socrates 2012)9.
The private sector acted with short term economic gains view and took advantage of the deregulated derivatives
market to create asset bubbles. Once the bubble came to an end, the companies suffered significant loses and
brought the economic output down (The Economist 2012)4. Spain and Italy therefore kept on borrowing to match
their deficits at a higher and higher rate.

pg. 7

Fig: Increased Borrowing Costs for Spain and Italy augmenting their debt burden
D. Germanys Short Term Economic Gains View
All that debt helped finance more and more imports by Spain, Italy and even France. Meanwhile, Germany became
an export power-house after the Eurozone was set up in 1999, selling far more to the rest of the world (including
southern Europeans) than it was buying as imports. That meant Germany was earning a lot of surplus cash on its
exports. However most of that cash ended up being lent to southern Europe. Germany took a short term gains
view and decided to increase their wealth by investing in debt burdened Eurozone countries.

Fig: Current Account balances as percentage of GDP

E.

The Southern Europe Dilemma

But debts are only part of the problem in Italy and Spain. During the boom years, wages rose and rose in the south
(and in France). But German unions agreed to hold their wages steady. So Italian and Spanish workers now face a

pg. 8

huge competitive price disadvantage. Indeed, this loss of competitiveness is the main reason why southern
Europeans have been finding it so much harder to export than Germany.

Fig: Labor Cost Trend

F.

The Crisis Cycle

The Eurozone is facing a circular crisis. The debt burdened countries like Spain, Italy and Greece are facing
expenditure stagnation. Private sector companies and mortgage borrowers are too busy repaying their debts to
spend more. Exports are uncompetitive. And now governments - whose borrowing has exploded since the 2008
financial crisis savaged their economies - have agreed to drastically cut their spending back as well (Kuepper
2012)7.
Meanwhile the wealthier economies like Germany and France have already invested their trade surpluses either in
the bailout packages or in the collapsed North American markets. As a result Eurozone has themselves may not
have enough money to bail out the affected economies. However if Europe and the ECB (European Central Bank)
themselves do not invest in the crisis region then it is highly unlikely that any other foreign investors will invest to
bail out the Eurozone.

pg. 9

4. THE ETHICS FACTOR MODEL LEADING TO THE CRISIS

From the above analyses this model summarizes the factors that exhibit the ethics mismanagement by the
member states, private sector and the Eurozone as a whole.
The Euro was primarily formed with the objective of rivaling the dollar as the worlds base currency. Initially, there
were specific parameters, mainly annual borrowing limits, which were necessary for a country to become member
state. However there was weak due diligence in assessing the suitability for entry into the euro and equally weak
application of the few rules that was supposed to police its operation. Secondly the powerhouse economies like
Germany themselves breached borrowing limits rules and therefore the Euro governing body didnt reprimand the
other economies that followed and violated the annual borrowing limits.
With the euro economies taking in significant debt burdens and the private sector collapse (financial meltdown)
due to the private sectors focus on immediate gains by taking advantage of market deregulations, the Eurozone
was on its way to the crisis. The powerhouse economy Germany focused on strengthening their own economy and
with short term gains view on mind invested in debt burdened Euro countries. Now the whole zone is in crisis with
the powerhouse economies surplus wealth invested in the debt burdened economies.
The below model depicts the several ethical factors that has lead to the crisis-

Germany
considered
more equal
than others
Eurozone
formed with
members not
meeting entry
criteria

Germany
breaching
borrowing
limits

Ethics
Mismanagement

Germany
investing in
debt bailouts
with short
term gains
view

Italy and
France
followed limit
breaches

Private Sector
collapse due
to immediate
gains view

Greece
Manipulating
Borrowing
Statistics

Fig: Ethics mismanagement factors leading to the crisis

pg. 10

5.

WAY FORWARD LEARNING FROM THE CRISIS

The crisis is already attributed to ethics mismanagement and absence of cohesive plan among the member states
to address the problem. The member nations need to take a long term gains perspective for the total region ahead
of their short term gains view and come to a political consensus on the measures that need to be taken.
Rich countries like Germany have insisted on austerity measures designed to bring down debt levels, while poorer
countries facing the problems complain that austerity is only hindering growth prospects further.
The most popular solution proposed has been the Eurobond, which would be jointly underwritten by all Eurozone
member states. These bonds would presumably trade with a low yield and enable countries to more efficiently
finance their way out of trouble and eliminate the need for additional expensive bailouts.
The problem with the solution is mostly that of complacency. Some experts believe that access to low interest debt
financing will eliminate the need for countries to undergo austerity and only push back an inevitable day of
another crisis fueled by an uncompetitive economy. Meanwhile, countries like Germany could face the brunt of
the financial burden in the event of any Eurobond defaults.
Right now though there isnt any easy answer to the crisis. The financial markets continue to monitor the scenario
hoping that solutions amicable to all member states arise. However the zone must themselves establish strong
principal and deterrents against ethics mismanagement both at government level and private sector if Eurozone is
to emerge as a successful power Economy.

pg. 11

6. References
1.

Edward Hades, June 2012, Ethical economy: The euro crisis as family drama [online] available at
www.breakingviews.com [Accessed 03 December 2012]

2.

BBC News Business, June 2012, Eurozone crisis explained [online] available at www.bbbc.co.uk/news/business
[Accessed 03 December 2012]

3.

Ray Kinsella and Maurice Kinsella, July 2012, The Implosion of Solidarity: A Critique of the Euro Zone Crisis
[Working Notes, Issue 69]

4.

The Economist, November 2011, Special Report: Europe and its currency [online] available at
www.economist.com [Accessed 03 December 2012]

5.

Kimberly Amadeo, July 2012, What is the Eurozone Debt Crisis? [online] available at
http://useconomy.about.com/od/Europe/p/Eurozone-Crisis.htm [Accessed 03 December 2012]

6.

Christopher Alessi, July 2012, The Eurozone in Crisis [online] available at http://geoeconomics.com/ EurozoneCrisis.htm [Accessed 16 December 2012]

7.

Justin Kuepper, June 2012, The Eurozone Crisis [online] available at http://internationalinvest.about.com/od/
gettingstarted/a/The-Eurozone-Crisis.htm [Accessed 16 December 2012]

8.

Jeremy P Green, May 2012, Explaining the Eurozone Crisis and how a country the size of Greece Rattles world
Equity Markets [online] available at www.sfspwincities.org [Accessed 16 December 2012]

9.

The Maryland Socrates, September 2012, Euro-Zone Crisis: An Ethical Perspective [online] available at
www.marylandsocrates.com [Accessed 03 December 2012]

pg. 12