It was a timely reminder from Washington as although the dimensions of the Greek crisis were emerging for some months, EU leaders had vacillated long on how to make an intervention, the first of its kind for the 16-nation euro-zone (within the 27-member EU). Germany had reservations over the scale of EU funding and preferred IMF involvement. Once Greece's desperation became palpable and Athens sounded IMF, the stage was set for a co-ordinated 110 billion euro (145 billion dollar) rescue package.

But the woes of Greeks only heightened as the deal was a tough three-year programme of adjustment which included, apart from spending cuts, wage and pension freeze and structural reforms in the classical IMF style, all aimed at stabilizing Greece's economy with sharp deficit and debt reductions. This, it was assumed, would help arresting the decline of euro and restore confidence in financial markets. Greece was enjoined to cut its budget deficit from current 13.6 per cent of GDP to the euro-zone's benchmark level of 3 per cent by 2013.

The announcement on May 2 set off massive demonstrations by Greeks against austerity measures in a country given in the past to profligate spending. Investors in Europe were unimpressed and skeptical about short-term correction of fundamental imbalances amid growing fears of crisis spreading to other fiscally-stressed countries like Portugal, Spain and Ireland. Stocks plunged in markets all over Europe, Asia and USA where the Dow Jones index dropped by over 700 points during the week.

Volatility spread to currency markets, euro touching new lows against the dollar endangering the stability of the decade-old monetary union itself.

The Greek tragedy brought back memories of the Lehman Brothers collapse in USA in 2008, triggering the global financial crisis and deep recession in advanced economies. Faced with continuing turbulence in euro-zone and global stock and currency markets, EU leaders realized the need for a more drastic plan.

Finance Ministers and the European Central Bank worked during the weekend (May 8-9) to announce an impressive European Stabilisation Mechanism ahead of the opening of markets on Monday, May 10.

This elaborate package of measures with lending programmes upto one trillion dollars to combat the threat of a European debt crisis was in the nature of a “shock and awe” the markets waited for, and stocks surged all over. The Sensex in Bombay Exchange zoomed by 561 points, euro gained ground and oil and commodity prices rebounded in global markets. European central banks began buying government bonds in a move to inject cash into the financial system and lower borrowing costs. Outside Europe, the Fed and other leading central banks joined in the effort to improve liquidity conditions with exceptional measures in order to keep post-recession recovery afloat. For how long, was the question.

Under the new deal, EU countries would contribute some 500 billion euro (670 billion dollars) and IMF 250 billion euro (320 billion dollars), The plan expects governments seeking bail-out funds would have credible fiscal turnaround time-table with tax hikes and spending cuts. The European Commission will review the country reform programmes in June. Welcoming the “far-reaching steps” by the EU and the European Central Bank (ECB), IMF Managing Directors Dominique Strauss-Kahn said these “strong measures will help to secure global economic and financial stability, and preserve the global economic recovery“. This is more a hope, as of now, with commitment to rescue - with no fund yet in place -if the country is ready to put public finances on a “sustainable basis”.

IMF officials are satisfied that the Fund's role in euro-zone is no longer ambiguous and has got clearly defined, even if IMF does deal with its member-states on a country- by-country basis under its Article IV. What is more, the staggering euro-zone package incorporates terms and conditions, similar to IMF, for responding to a country's need. However, some countries could shy away from such conditionality.

EU officials recognise that there has to be some form of economic and political union with toughened rules that go beyond current EU limits on debt (60 per cent of GDP) and deficit (3 per cent of GDP). But the European Union is faced with high unemployment averaging 8.7 per cent, with much higher levels in some countries like Spain (19 per cent)) and well above 10 per cent in Ireland, Poland and France. Painful reforms in labour and product markets for sustainable growth can be ruled out where social security is accepted policy. .

It is too early to conclude that the crisis situation in Europe has blown over with the announcement of the stabilisation mechanism, though beyond Greece, there are as yet few signs of an imminent bankruptcy here or a loan default there. In Greece, critics say, what was needed was debt restructuring instead of conditions which would throw unbearable burdens on the people. Under the present terms, even at the end of three years, Greece would not have seen any lowering of its debt profile which indeed would have risen from 115 per cent of GDP in 2009 to 146 per cent by 2013 despite the enjoined deficit reduction. Nor domestic demand could be expected to rise to a level as to generate growth and revenues.

The European crisis erupted at a time when global prospects were somewhat turning better with US economy recording job addition of 290,000 in April, the largest monthly gain in four years, though the unemployment rate moved up to 9.9 per cent with more people seeking work opportunities. Some revival in consumer spending and business confidence has also been noted. That is why the US Administration remained active to see that IMF and EU efforts to stabillise the crisis went through, otherwise it could have led to a double dip recession, especially for advanced economies.

The European developments would have some negative impact on several countries. China, looking for more exports, in view of its shrinking trade surplus lately, sees external demand remaining weak in Europe. With its trade surplus shrinking recently, it hopes pressure for revaluation of renminbi would be less. For India, there could be some short-term negative impact on markets and a probable reduction in exports to some of the afflicted EU countries, though we are always ready to proclaim India is “immune“ to any external shocks. Let us not ignore that a sovereign debt crisis still looms over Europe. (IPA Service)