European Sovereign Debt Crisis


DEFINITION of 'European Sovereign Debt Crisis'

The European sovereign debt crisis occurred during a period of time in which several European countries faced the collapse of financial institutions, high government debt and rapidly rising bond yield spreads in government securities. The European sovereign debt crisis started in 2008, with the collapse of Iceland's banking system, and spread to primarily to Greece, Ireland and Portugal during 2009. The debt crisis led to a crisis of confidence for European businesses and economies.


Loading the player...

BREAKING DOWN 'European Sovereign Debt Crisis'

The European sovereign debt crisis was brought to heel by the financial guarantees by European countries, who feared the collapse of the euro and financial contagion, and by the International Monetary Fund (IMF). Ratings agencies downgraded the debt of several eurozone countries, with Greek debt at one point being moved to junk status. As part of the loan agreements, countries receiving bailout funds were required to meet austerity measures designed to slow down the growth of public sector debt.

History of the European Sovereign Debt Crisis

The European sovereign debt crisis began at the end of 2009, when the peripheral eurozone member states of Greece, Spain, Ireland, Portugal and Cyprus were unable to repay or refinance their government debt, or bail out their beleaguered banks without the assistance of third-party financial institutions such as the European Central Bank (ECB), the International Monetary Fund (IMF) and the European Financial Stability Facility (EFSF). Seventeen eurozone countries voted to create the EFSF in 2010 specifically to address and assist the European sovereign debt crisis.

Some of the contributing causes of the sovereign debt crisis include the financial crisis of 2007-2008, the Great Recession of 2008-2012, as well as the real estate market crisis and property bubbles in several countries, and the aforementioned states’ fiscal policies regarding government expenses and revenues. This culminated in 2009 when Greece unveiled its previous government had grossly underreported its budget deficit, signifying a violation of EU policy and spurring fears of a euro collapse via political and financial contagion.

A 2012 report for the United States Congress summarizes: “The eurozone debt crisis began in late 2009, when a new Greek government revealed that previous governments had been misreporting government budget data. Higher than expected investor levels eroded investor confidence, causing bond spreads to rise to unsustainable levels. Fears quickly spread that the fiscal positions and debt levels of a number of eurozone countries were unsustainable."

In 2010, with increasing fear of excessive sovereign debt, lenders demanded higher interest rates from eurozone states with high debt and deficit levels, making it harder for these countries to finance their budget deficits when faced with overall low economic growth. Some affected countries raised taxes and slashed expenditures in order to combat the crisis, which contributed to social upset within their borders and a crisis of confidence among their leadership, particularly in Greece. During this crisis, several of these countries including Greece, Portugal and Ireland had their sovereign debt downgraded to junk status by international credit rating agencies, worsening investor fears.

Greece’s Case

In early 2010 these difficult developments reflected in rising spreads on sovereign bond yields between the affected peripheral member states of Greece, Ireland, Portugal and Spain, and most notably Germany. The Greek yield diverged in early 2010 with Greece needing eurozone assistance by May 2010. Greece received two bailouts from the EU over the following five years during which the country adopted EU-mandated austerity measures to cut costs while experiencing a further economic recession as well as social unrest. In June 2015 Greece, with divided political and fiscal leadership and a continued recession, was facing a sovereign default. However, on July 5, 2015 the Greek people voted against further EU austerity measures, with a possibility of Greece leaving the European Monetary Union entirely. The withdrawal of a nation from the EMU is unprecedented, and the speculated effects on Greece's economy if the currency is returned to the drachma range from total economic collapse to a surprise recovery.

Further Effects

Ireland followed Greece in requiring a bailout in November 2010, with Portugal next in May 2011. Italy and Spain were also vulnerable, with Spain requiring official assistance in June 2012 along with Cyprus. By 2014, Ireland, Portugal and Spain, due to various fiscal reforms, domestic austerity measures and other unique economic factors, all successfully exited their bailout programs requiring no further assistance. The road to full economic recovery is still underway. Cyprus, too, reported a slow but steady ongoing recovery, averting further financial crisis thus far.

  1. Contagion

    The spread of market changes or disturbances from one region ...
  2. Draghi Effect

    The calming effect of European Central Bank President, Mario ...
  3. Euro

    The official currency of the European Union's (EU) member states. ...
  4. Asian Financial Crisis

    Also called the "Asian Contagion", this was a series of currency ...
  5. Country Risk

    A collection of risks associated with investing in a foreign ...
  6. European Central Bank - ECB

    The central bank responsible for the monetary system of the European ...
Related Articles
  1. Investing Basics

    Sovereign Wealth Funds - Friend Or Foe?

    With $5.86 trillion in assets as of September 2013, SWFs have a great deal of clout in financial markets. But as the majority of SWFs are located in the Middle East and Asia, whether these largely ...
  2. Economics

    Sovereign Debt Overview

    The national or government debt is a combination of both internal and external debt. The external debt is referred to as Sovereign Debt. Sovereign Debt refers to bonds issued by a nation’s ...
  3. Credit & Loans

    How Countries Deal With Debt

    For many emerging economies, issuing sovereign debt is the only way to raise funds, but things can go sour quickly.
  4. Mutual Funds & ETFs

    An Introduction To Sovereign Wealth Funds

    Countries use sovereign wealth funds to stabilize their economies, but these investments can lack transparency.
  5. Bonds & Fixed Income

    The Risks Of Sovereign Bonds

    Sovereign debt can play an important role in providing international diversification to individual investors.
  6. Forex Education

    8 Basic Forex Market Concepts

    We go over some of the things you need to understand before you can trade currencies.
  7. Options & Futures

    Bond Spreads: A Leading Indicator For Forex

    Here we examine some telling patterns in the relation between countries' interest rates and their currency pairs.
  8. Investing

    Time to Bring Active Back into a Portfolio?

    While stocks have rallied since the economic recovery in 2009, many active portfolio managers have struggled to deliver investor returns in excess.
  9. Investing Basics

    Why Interest Rates Affect Everyone

    Learn why interest rates are one of the most important economic variables and how every individual and business is affected by rate changes.
  10. Economics

    Investing Opportunities as Central Banks Diverge

    After the Paris attacks investors are focusing on central bank policy and its potential for divergence: tightened by the Fed while the ECB pursues easing.
  1. In what ways does Bayesian probability support the probability default model when ...

    During the European debt crisis, several countries in the Eurozone were faced with high structural deficits, a slowing economy ... Read Full Answer >>
  2. How do you make working capital adjustments in transfer pricing?

    Transfer pricing refers to prices that a multinational company or group charges a second party operating in a different tax ... Read Full Answer >>
  3. How do mutual funds work in India?

    Mutual funds in India work in much the same way as mutual funds in the United States. Like their American counterparts, Indian ... Read Full Answer >>
  4. Marginal propensity to Consume (MPC) Vs. Save (MPS)

    Historically, because people in the United States have shown a higher propensity to consume, this is likely the more important ... Read Full Answer >>
  5. Do lower interest rates increase investment spending?

    Lower Interest rates encourage additional investment spending, which gives the economy a boost in times of slow economic ... Read Full Answer >>
  6. Who decides to print money in Russia?

    The Central Bank of the Russian Federation (CBRF), like its peers in most countries, is the governmental entity responsible ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Cyber Monday

    An expression used in online retailing to describe the Monday following U.S. Thanksgiving weekend. Cyber Monday is generally ...
  2. Bar Chart

    A style of chart used by some technical analysts, on which, as illustrated below, the top of the vertical line indicates ...
  3. Take A Bath

    A slang term referring to the situation of an investor who has experienced a large loss from an investment or speculative ...
  4. Black Friday

    1. A day of stock market catastrophe. Originally, September 24, 1869, was deemed Black Friday. The crash was sparked by gold ...
  5. Turkey

    Slang for an investment that yields disappointing results or turns out worse than expected. Failed business deals, securities ...
  6. Barefoot Pilgrim

    A slang term for an unsophisticated investor who loses all of his or her wealth by trading equities in the stock market. ...
Trading Center