Since the commencement of the 2007/2008 global economic meltdown, speculations surrounding the economic situation in the euro zone have been quite rampant. Several reasons have led to the current financial struggles in the euro zone. The dwindling economic relevance of the region in the global market is one of the greatest misgivings in the European economy. Factors contributing to the ailing economic environment are either internal or external.
External factors may include the current condition of the global market while the internal factors include political stability of countries in that particular region. This paper seeks to discuss the impacts of the political crisis in the euro zone on economic activities in the region.
The current economic situation
For quite a long time now, the banking industry in the euro zone has been struggling to survive in the financial market. The industry has been on a retarding growth for some years now. This has not created the best impression to prospective investors seeking to invest in the region.
For instance, Greece, a member state in the EU, has been placed in a difficult situation with its insolvency, which can only be solved by restructuring its current debts (Weltman, 2013). Economists argue that trying to exit the euro market will amount to a self-destructive financial move that could destroy even the political structure in the country (Weltman, 2013).
The only possible solution is to solve its financial problems within the confines of the single currency. Portugal and Ireland are also not safe from any kind of volatile actions in the euro zone. If the current situation deteriorates, these two countries will be exposed to serious financial problems (Weltman, 2013).
Italy and Spain have recently lost market access in the euro region but the situation is not very dire hence, they can survive the impacts (Weltman, 2013). Nonetheless, if this continues, the two countries will be forced to look for lasting solutions to their financial instabilities.
The debt of the European region has been greatly exposed by the banking systems in France and Belgium (Hughes, 2011). A scrutiny of the banking industry in the two countries shows that the capital needed to revive the industry is much higher compared with other countries.
This shows that both France and Belgium will have difficulties in recapitalizing their banking systems and this is a sign of a precarious financial future. The region has had a looming inflation rate reaching a record low of 3% and this has made the interest rates to remain very unstable in the region (Stavrou, 2011).
The inflation rate has further caused a decline in employment, as companies had to lay off their workers in order to maintain a reasonable wage bill (Palmer, Ketteridge, & Marshall, 2010). The euro zone is suffering economically due to its combined sovereign debt crisis, banking crisis as well the competition in economic growth and development (Bezemer, 2010).
As the economic gap grows wider, the region is exposed to greater financial challenges (Palmer, Ketteridge, & Marshall, 2010). The economic situation is dire in the euro zone although the situation is the same globally. However, the leaders in the region are actively seeking to develop measures that can help to reduce the deficit spending and debt levels (Beetham, 2007).
How do politics affect investor decisions?
In every region, political stability is very crucial to the economic and political development. Political stability is one of the major factors that influence the decisions made by investors.
Regions that are prone to rampant political chaos and rampages are less attractive to serious investors since the risk of investing in such areas is too high. Every administration has its own strategies and policies that govern the country’s investment procedures. Therefore, investors will always look at the political trends in a region before they commit their resources in that economy.
Political influence on the economy informs the decisions made by investors to invest on that economic niche. The legal and cost factors of any economic block are directly linked to its political standards (Aaronson & Biggins, 2005). The political leaders create the legislations governing investment policies and influence the cost of investing in the region. Ultimately, this affects the attractiveness of the region to investors based on legal procedures and cost of operation.
How does the Europe’s political turmoil affect the zone’s economy?
Economists argue that the euro zone’s political crisis is the epitome of its ailing economy. They warn that the political crisis being experienced in the region is a clear wake-up call for looming economic challenges ahead.
The political crisis has made it very difficult for the member-states to agree on the procedures of decision-making processes in the region (Aaronson & Biggins, 2005). The Germans and the French are the two main players in the euro zone’s struggle to revive the economy and the two have been accused of interfering with treaties in times of crisis (Palmer, Ketteridge, & Marshall, 2010).
As per the current situation, exiting the euro also means leaving the EU, which is a politically entrenched conjecture. The impact of this assumption is that it does not give democracy a chance and member-states are being coerced into remaining in the euro zone market (Solomon, Bamossy, Askegaard, & Hogg, 2006).
Therefore, it is very wrong for the European commission to rule out that any member-state considering exiting the euro must also leave the EU (Sloman & Wirde, 2009). This is actually infringing the democratic rights of the member states hence interfering with members’ political structures.
It is clear that the dominant Sarkozy and Markel administrations are creating a possibility for the commission to force exiting members out. This will have negative implications on the EU’s common market. In addition, the rating agencies have been under intense criticism from the European lawmakers for what has been termed as political manipulation.
The lawmakers accuse the rating agencies of being bias towards European assets (Trimikliniotis &Bozkurt, 2012). This was seen when the rating agencies downgraded Portugal’s public debt to a lower category ‘Ba2’ (Panayiotopoulos, 1995).
Impacts on potential investors
In the case of Cyprus, the decision made by the Eurogroup to impose a haircut tax on deposits has already done unimaginable harm to the financial sector. Economists foresee a situation whereby foreign investors will withdraw from the economy especially the Russians (Harvey, 2003). The decision was condemned globally and this has created a negative image of the European common market. Destroying the banking and financial systems is not the only harm that the decision has had on the euro zone.
The aftermath of the Erougroup’s decision on the Cyprus’ economy has greatly compromised the investors’ confidence in the international banking (Christodoulou, 1992).
The ultimate and dire effect of this is that investors are no longer interested in the euro market as a prospective investment destination. This will have a lasting financial and economic repercussion on the entire region. The looming euro zone economic meltdown will have a dire and direct impact on the European Union integration process.
It will further compromise investments in the region as the integration challenges may be perceived as lack of effective political leadership and consequent political instability. Investors will not commit their finances in a politically marred economic block.
Foreign investors are keenly watching the EU’s decisions and plans with regard to the financial crisis facing the region. The EU is under close surveillance by investors and so far, the trend has not been very impressive. This is slowly causing investors to shy away from exploiting the EU’s market.
This paper has critically examined the role of politics in financial markets with a keen interest in the euro zone. In the second paragraph, the paper has given a general overview of the current situation of the region’s economy. The different ways that politics can influence investors’ decisions have also been outlined in this paper to help us understand the relationship between political and business environments.
To show how political crisis can influence investors, the paper has discussed how the political turmoil in Europe affected the euro zone’s economy. Lastly, at the end of the paper, the impacts of the political crisis on investors have been clearly summarized giving a specific example of the Cyprus case.
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