In recent weeks Spain’s banking crisis has gone from bad to worse. Spain’s credit rating has recently been downgraded from an A to BBB+ by Standard & Poor’s because of the debt it will most likely take on from its banks and regional government failures. Spain is the fifth largest economy in the Eurozone, leaving many worrying about the ramifications of these recent developments on the rest of Europe.

Currently Spain’s deficit is too high for the Eurozone. The European Commission says that Spain can be given more time to reduce their deficit from the 8.9% of the GDP – as it stands currently – by 2013. However, the high deficit in Spain is causing fewer individuals and countries to risk investing in the country.

Bond yields in Spain are up to 6.7% meaning that they are high risk. Yields on bonds are higher when they are riskier because investors want a higher return if they are putting money into something that is unstable. In contrast the German and US bond yield is at 1.28% and 1.64% respectively. Therefore, instead of investing in Spain’s government bonds more people are investing in the US and Germany. However, this high bond yield also means that Spain will accumulate more debt and have to pay a higher interest when borrowing money.

Despite all recent efforts the Spanish economy is expected to shrink 1.8% this year alone and another 0.3% next year. However, Prime Minister Mariano Rajoy insists that Spain will not require a bailout like Portugal, the Republic of Ireland, and Greece have needed; Spanish banks, on the other hand, have already asked for bailout money.

Bankia, a recently formed banking group of seven banks, asked for a 19 billion Euro bailout. Bankia originally reported a 309 million Euro profit for the year of 2011 when it actually had lost 2.98 billion euros. It is unknown as of yet how Spain will get the bailout money when it is already struggling under its own deficit.

The President of the European Commission, José Manuel Barroso, has suggested that they use the Eurozone’s new 500 billion euro stability mechanism to inject some capital into the banks, but Germany, Europe’s largest economy, has already rejected the plan. Another option is for Spain to give Bankia government bonds to then trade with the European Central Bank (ECB) for money.

Although it has been reported that the ECB has already rejected this plan a recent article by the BBC claims that these reports are false and that the solution is not yet off the table. The European Commission has also suggested creating a “banking union” to monitor all Eurozone banks in the future.

In addition to struggling with the mounting bank debts, Spain is also forced to rescue several regional governments who are no longer capable of borrowing money. Several regional governments have gone bankrupt and rating agencies, such as Standard & Poor’s, have put these regions at junk status. Most recently Catalonia, the wealthiest autonomous region in Spain, has asked for help from the central government; Catalonia accounts for one-fifth of the Spanish economy.

Spain is giving these regions government-backed bonds which they can then use to borrow money. However, as stated previously, these bonds are at a high yield which makes this solution temporary. A Spanish economy ministry spokesperson stated, “the goal is to reduce the pressure on the regions, which is often greater than the pressure on the state in general, with some regions not ale to borrow on the market.”

Regional banks have tried to strengthen each other through mergers. Ibercaja, Liberbank, and Caja3 merged in late May to become more resilient. This merger created the seventh biggest lender in Spain with 120 billion euros in assets. Liberbank and Caja3 were previously mergers of four and three regional banks respectively.

Spain’s unemployment as of April is at 24.3%, the worst in the Eurozone – even worse than Greece. It is expected to climb to 25.1% by 2013 even with the recent precautions taken by the newly elected center-right government. Prime Minister Rajoy has made several labor market cuts including cutting back on severance pay and restricting inflation-linked increases in salary; these decisions have been unpopular with unions and workers. Spain’s high unemployment also means that there are fewer people who are paying higher tax rates or even paying taxes.

Spain’s economy is heavily tied to the economy of Italy, the fourth largest economy in Europe. These close ties lead investors to worry that if there is a run on the Spanish banks there will also be a run on the Italian banks, throwing both countries into a deeper crisis. Italy is now borrowing at a rate over 5.66%; borrowing at a consistent 7% rate is considered unstable and has triggered the bailouts for Greece, Portugal, and the Republic of Ireland in the past.

The Spanish debt crisis was not caused by irresponsible government spending such as in Greece. Spain ran a balanced budget every year until the recession hit in 2008. The problems were planted when Spain joined the euro in 1999 and interest rates fell because Spain’s economy was good and other economies, such as the German economy, were not.

Investors wanted to invest in Spain which is what drove the interest rates lower. While the Spanish government resisted taking out more loans because of the cheaper interest rate the Spanish people did not. The country experienced a long housing boom that also affected the construction sector. When the recession hit, the housing and credit bubbles burst leaving many banks with toxic debt – debt that was unlikely to be repaid.

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The 57^th annual Eurovision song contest occurred earlier this month in Baku, Azerbaijan. Like every year, the 2012 competition was a predictably showy camp-fest that featured prominent artists from a host of European countries competing within the realm of song and dance. The elected winner was Swedish songstress Loreen whose capoeira inspired act brought Sweden the honor of hosting the competition next year.

Despite the escapist themes of many Eurovision submissions, however, the event does not take place in a vacuum. This year, the financial crisis of the European economy had a noticeable impact on the purely European song contest.

Rambo Amadeus, the Montenegrin entry and a popular musical satirist, brought the economic situation to the fore with his song “Euro Nero” whose chorus features lyrics such as “give me chance to refinance” and “monetary break dance.” While the middle-aged performer and his symbolic trojan horse did not make it to the final stage of the competition, his witty rapping hinted at some of the considerations that would constitute the majority of the scandal surrounding the show as a whole.

In its preamble to the broadcast of the annual show, the international media doggedly introduced and reintroduced the question of who, should they win, would be fiscally capable of hosting Eurovision next year and whether this would effect the quality of contestants. One of the greatest conspiracy theories leading up to the competition was the rumor that the Spanish contestant, Pastora Soler, had been instructed to lose. The Herald Sun reports that Soler allegedly said “I think it is not the moment, neither for Spain nor for the Spanish public, to win Eurovision.” This claim was later denied by the singer herself.

Many felt that the participation of Eleftheria Eleftheriou for Greece, the country that has perhaps been most affected by the devaluing of the Euro, demonstrated a lack of economic responsibility on the part of the country’s politicians. Others argued that this was a necessary boost to Greek moral. Still others felt that the voting aspect of Eurovision would be used as an opportunity for countries to ally themselves. In particular, many believed that Greece might use Eurovision to influence Germany’s decision to spearhead an economic bailout.

Post-Eurovision, it is clear that the motivation for individual country’s voting was vastly more complicated than had been suspected. While many countries, including Portugal, Spain, Italy and Ireland, did vote along the lines of natural economic and political alliances, both Greece and Germany awarded each other zero points. Far from their original hypotheses of mutual understanding expressed through song approval, theorists now view the peculiar voting habits of this pair of countries as a kind of complicit revenge tactic or, as Charles Robinson explains in the Wall Street Journal, a form of “protest”.

Fortunately, Sweden, the eventual winner, appears to be fully capable of hosting Eurovision 2013 and has managed to escape relatively unscathed from the political furore that has surrounded some of its compatriot countries. What social changes might occur between then and now to reshape the complexion of this contest remains to be seen.

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The European Central Bank cut its economic growth forecast for the Euro zone amid rising fear for the economic health of the continent. This move is a downward revision of earlier forecast by ECB. ECB President Jean-Claude Trichet said at a press conference that “there is a risk that growth will slow to near standstill nest year.”

The downward spiral of the European economy has been so powerful that it has casted clouds over the future prospect of whole Euro zone. A crisis of sovereign debt might develop unprecedented fissure in the union which perhaps may lead Greece to exit the EU. Furthermore there has been growing concerns over the future of the Euro as currency.

On the possibility of the Euro zone sinking back into recession, Trichet said “it is difficult to make forecasts in the current situation.”An unfortunate economic situation in Europe is emerging from fiscal disintegration among nations in the Euro zone, coupled with an overall fragile economy. Even so, authorities could have averted the debt dilemma if the economy would have been functioning well.

The confidence in the 17-nation currency area was further dented when Italy was forced to pay the highest interest rates since joining the EU. “I think there is a possibility, if wrong steps are taken, that the system goes off the rails” said Sergio Marchionne, CEO of Italian car maker FIAT. Markets have already taken interest rates on Italian bonds to much higher levels indicating the risks involved in the vehicle.

Yields on bonds are determined according to market sentiment — if investors feel very edgy and uncertain, interest rates may soar and vice versa, leading to a breeding burden on governments. Five year bond yield hit a Euro lifetime high of 5.60 percent recently. Domenico Lombardi, president of the Oxford institute of Economic Policy said “European policy makers must act fast to ward off a full-blown market attack on Italy.”

On the other hand, Moody’s rating agency downgraded two top French banks over fear of their exposure to Greek sovereign debt. Moody’s cut the rating of Credit Agricole bank, one of biggest of Europe from Aa1 to Aa2 and also downgraded the rating of Societe Generale from Aa2 to Aa3.

Banking industry in the Euro zone is in the circle of gloom for being exposed to various potentially unsafe securities of government bonds. The institute of international finance told that prolonged inability to deal with Europe’s debt issues put its banking system at severe risk.

In his description of the magnitude of severity of economic uncertainty, European commission head Jose Manuel Barroso said “the most serious challenge of a generation. This is a fight… for the economic and political future of Europe.” It all depends on how the financially big countries of Europe behave in a bid to rescue the area — how well they hear the brawl of economically beleaguered nations by designing a suitable rescue package that optimally saves the EU from disintegration in the future.

What is needed is a temporary bail-out and stringent fiscal integration among nations in the future in order to ward-off economic demons.

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The possibility of the European Economy inviting the double dip recession is almost certain. Experts say Greece will not be able to pay all of its debt. The fate of Europe and European Economy depends on how effectively countries entangled in debt crisis mitigate its impact.

European leaders, and especially leaders of devastated public finance systems, have lost sleep in order to keep the pulse of their economy beating. They are on the brink of collapse that might potentially drag-back the world economic growth rate to lowest in a decade.

The International Monetary Fund (IMF) and European Union (EU) have been attempting to keep the country solvent to avoid another recession hitting already weak global economy. The most outrageous shock will be on the EU banking industry as a whole, since European banks parked heavy doses of money into sovereign debt in the region.

Of all 17 nation bloc of Europe, exposure of France to Greek debt is $56.7bn, German exposure is $33.9bn, and the UK is $14.6bn. The EU and IMF agreed on 110bn Euros of bailout funds for Greece last year and again this year in July a further provision of 109bn Euros was agreed upon.

In July, European leaders agreed to provide an additional 109bn Euros bailout to Greece as it again came on the verge to default. Even so Greek Economy never settled on to that and situation got much worse. The problem with Greece, Italy, Spain, Ireland, and Portugal in a broader sense, is that they all were living beyond their means.

Over the last 5 years, the fiscal gap had been drenching wider and wider. All these nations had been spending far from revenue which led them to put reliance on debt, and because of this, the debt balloon is so big that it will possibly burst. According to Gary Jenkins, the head of fixed income research at Evolution securities, the timing of a Greek default remains in the hands of the troika (EU, ECB, and IMF), and it is difficult to believe that it will pull the plug at this stage.

Louise cooper, Market analyst at BCG Partners, shared his opinion on the situation. “I’m not sure that more austerity will help, which is troika demanding. What is needed is deep structural reform, which neither the Greek electorate or political class seem to have much appetite for.”

A recent report included a plan to eliminate 25,000 public sector employees hired last year, but according to spokesman for the European commission, Amadeus Altafaj-Tardio, new austerity measures aren’t on the table but negotiations are underway for full-fledged compliance with earlier agreed measures.

With drastic drop in public expenditure on various socio-economic fronts there has been wide-spread anger and violent protest in Greece so far this year. Greek default may sky-rocket cost of borrowing in the region and potentially Europe may face credit crunch which will be greatest hindrance to weak economies of the region.

If Greece somehow manages for an orderly default that might push repayments a decade ahead so confidence in the region might not get shaken completely or otherwise trust in the euro zone may be shattered forever. In its semi-annual World Economic Outlook, IMF gave a statement saying, “Global Activity has weakened and became more uneven; confidence has fallen sharply recently; and downside risks are growing.”

The Fund further said, “Greek default already affecting the world economy. Coupled with the economic slowdown in the United States and the impact of the Japanese earthquake, Europe’s debt crisis is putting the global recovery at risk.”
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Soon after the so-called end of the depression period in the global economy, at a time when the global economy started a weak recovery, a more complex economic phenomenon emerged as the next bellwether to world economy.

Since 2009, the European economy has been struggling with slow economic growth rate and indomitable debt crisis that led to political disturbance in some countries of Europe. The crisis has dragged these economics back in to recession.

Years of heavy, unprecedented government spending in Greece and other countries of the Euro zone, led governments to go beyond available budgetary resources, and rely solely on borrowing to finance expenditures. This produced a series of risks to these economies and financial systems as a whole.

Leading economists warned that European debt crisis could spread across the continent in a major blow to the single currency system; further, the International Monetary Fund said turmoil in Greece, Ireland and Portugal may engulf the wider Euro zone despite billions of Euros already spent in emergency aid so far.

In an attempt to reduce dangerously rising levels of debt and forced and deep painful cuts in public expenditure — less government spending — drove up unemployment and put several nations back into recession. Many economists around the world claim that such immediate spending cuts are self-defeating in nature.

After much struggle in 2010 the EU and IMF combined to offer Greece a bailout package of 110 Billion Euros, followed by a broader contingency fund of 500 billion Euros. But the new loans came with the effect of austerity measures that apparently demanded a ceiling on public expenditure leading to widespread protests and political uncertainty in Ireland and Portugal.

Recently, the prime minister of Portugal said the government decided to ask the European Commission for financial help. According to economists, Portugal needs financial aid to the size of 80 Billion Euros.

After Greece and Ireland, Portugal became the third financially troubled country in the Euro zone to request financial assistance from Europe’s Bailout Fund and the IMF.

The era of financial trauma in the Euro zone began in December 2009, after newly elected Greek Prime Minister George Papandreou announced that his predecessors had hidden the actual size of the massive budget deficit. In a bid to regain the lost confidence in the region, the IMF urged European leaders to fix the banking problems and slash national deficits that have undoubtly led to stringent austerity measures.

Economists also say that strong policy responses so far that led to the weakening of Greek, Irish and Portuguese economies have contained the fear to some degree. However, markets are uncertain about the Greece capacity to pay back its debt of 285 million pounds, or $463.95.

As of now, Greece has more than 300 billion Euros of debt constituting to a sum of 140 percent of its total GDP. Recently, the EU and IMF Agreed to a 110 billion Euro bailout. According to Jose Manuel of the European Central Bank, a default would have extreme adverse consequences for the Greek economy.

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