As eurozone leaders meet today to find a solution to the debt crisis, economist Lawrence Zammit and business analyst John Cassar White help Kurt Sansone understand what it means to the people on the street.
Malta’s economy may have performed well this year but experts agree that the country is not immune to the woes afflicting other eurozone countries.
While experts can grasp the magnitude of the problem at hand few have understood how a Greek haircut, bolstering the bailout fund and recapitalising banks will change their life.
The anxiety caused by television exposure to unrest in Greece and Italy does not seem to have gone beyond the occasional disconcerting discussion over a cup of coffee.
Experts agree that what is happening in the eurozone will have a long-term impact on Malta even if the island has been spared the direct consequences for now.
The Times has drafted a dummy’s guide to help one understand how the consequences may impact ordinary individuals as the euro reaches a historic crossroads.
What is a Greek haircut?
It certainly does not mean that the Greeks will be dragged to the hairdresser to have their hair trimmed but if debt is likened to hair it is the equivalent of cutting it short or, rather, very short.
Greece has a mountain of debt, racked up over the years by reckless government spending, including the 2004 Olympic Games. The country cannot cope with the debt and the situation has continued to worsen despite being bailed out twice by fellow eurozone countries and the International Monetary Fund.
Eurozone leaders are now discussing whether Greece’s debt should be cut by 50 per cent or as much as 60 per cent to give the country ample breathing space and come out of the economic rut that is causing widespread misery.
This haircut, as it is called, will mean that countries, institutions such as banks and individuals who invested their money in Greek government bonds, known as sovereign debt, will have to accept a reduction in the money they are owed.
What does this mean for Jane from San Ġwann?
If Jane has invested some money in a life insurance policy or a collective investment scheme that are directly or indirectly exposed to Greek sovereign debt than she will see the value of her policy drop.
Collective investment schemes invest in various funds, bonds and shares across the world, which is why they come with the warning that past performance is no guarantee for the future. A Greek haircut will also negatively hit some major European banks and Jane’s collective investment scheme may have invested in shares belonging to these banks.
If Jane is young and intends holding on to her investment for the long term she may recuperate the losses over time but the consequences may be devastating for people close to retirement and who were banking on redeeming their policy.
Will Maltese banks be affected?
Not really. According to the latest review by the Central Bank of Malta, the exposure Maltese banks have to Greek sovereign debt amounts to €10 million. A haircut means they will have to forfeit half or more of this investment but banks have more than adequate reserves to make up for the losses.
What about banks in Europe?
The biggest problem rests with major French and German banks. They are heavily exposed to Greek debt and losing more than half of their investment will result in massive losses. These banks will see the value of their shares drop and their lending capacity shrink. Some may indeed go bankrupt.
Eurozone leaders are keeping this in mind when discussing a Greek haircut because the last thing they want is to cause a financial crisis that risks developing into a recession, which some argue will be worse than the 2008-2009 one.
What are eurozone leaders doing to prevent banks from going under?
A Greek haircut will have to be accompanied by a commitment to pump public funds into banks that risk going under. This is called recapitalisation and no decision has yet been taken whether the funds should come from the European bailout fund to which all eurozone countries, including Malta, are contributing or from national funds.
Does this solve the problem?
No. A Greek haircut and strengthening European banks will not be enough. Eurozone leaders also have to agree on boosting the European Financial Stability Facility (the bailout fund). The fund guaranteed by the 17 eurozone countries currently amounts to €440 billion and this may have to go up to as many as €3 trillion to be able to support debt-ridden Italy and Spain if they go down the Greek road. Malta’s guarantee to the fund amounts to €704 million and this will invariably rise if the fund is bolstered.
This does not mean Malta will fork out the money but if the bailout fund does not recuperate the loans it dishes out to weak countries then its guarantors (the 17 eurozone countries) will have to step in.
But eurozone leaders also have to agree on closer political cooperation to be able to manage the single currency. This means more common rules on how countries manage their public funds and the possibility that taxes be set by Brussels. This is possibly the most contentious proposal because it impinges on a country’s sovereignty.
And what about Jane?
Well, apart from losing out on any savings in a collective investment scheme, Jane may also suffer from an indirect impact of the eurozone crisis.
If eurozone leaders fail to agree on the way forward or what they decide fails to pacify international investors, share prices will continue to plummet and the risk of a banking crisis returns.
If this happens, economies across Europe will slow down and this may result in fewer orders for the goods produced by the factory Jane works for in Malta. If this persists it could lead to cost-cutting measures at her workplace such as less overtime and shorter working weeks. Jane will take less money home and, in a worst case scenario, even lose her job.
But money dished out by eurozone governments to shore up banks will also mean less public investment in job creation, which may also lead to European economies slowing down. This may be exacerbated by the introduction of belt-tightening measures such as welfare cuts and higher taxes to contain national deficits.
Even if Malta’s economy has out-performed that of many other eurozone countries, a slowdown in export markets and business uncertainty will hurt Jane’s workplace.
Will government introduce austerity measures?
At a recent business breakfast, Finance Minister Tonio Fenech said the government wanted to reduce the deficit to 2.2 per cent of GDP to ease its borrowing requirements. When the government borrows it increases the national debt, which is what caused the problems in Greece, Ireland, Portugal, Italy and Spain.
Mr Fenech also said he had to shave off €100 million from government expenditure in the forthcoming Budget – €60 million to reduce the deficit and €40 million to finance Air Malta’s restructuring.
The minister said he planned to emphasise incentives for economic growth and fiscal prudence but refrained from giving details.
Jane will have to wait until November 14 to know how the Budget will affect her.
Is there any positive news for Jane?
The risk of severe economic problems has prompted the European Central Bank to keep interest rates down. This encourages businesses to expand by making access to bank finance cheaper. If Jane has a house loan she will pay reduced monthly repayments because of the lower interest rates leaving more cash in hand. But the downside of low interest rates is that money Jane may have deposited in a savings account will also earn less interest.