The Political Reasons Why European Union Bailed out its 5 Countries

The Political Reasons Why European Union Bailed out its 5 Countries

In late 2009, the European economy was hit by a severe shock when the newly elected Greek movement of Papandreou discovered the true amount of the effective public deficit (Collignon, Esposito and Lierse 1). The subsequent loss of trust in the governance of Europe’s stability pact reduced the willingness to lend to highly indebted governments. The gnawing crises were a clear indicator that the information transmitted from political leaders was not successful in reducing the investors’ risk perceptions. Generally, the current sovereign debt crisis has put a price tag on the aim of unifying Europe. Bailouts of inconceivable amounts have been granted to Greece, Ireland, Cyprus and Portugal and have made it clear that the willingness to integrate European national societies has an effect on everyone (Koumparoulis 33). The main aim of this paper is to discuss the political reasons behind the five bailouts in the European Union (EU). The discussion in this case will highlight the bailouts in Greece, Ireland, Portugal, Cyprus and Spain. The main idea in this case is to explain the political reasons behind which the EU decided to bail out the mentioned countries after the financial crisis hit them.

From the beginning, the capacity of the euro-member countries to withstand negative macroeconomic and financial shocks was considered a major challenge for the success of the euro (Lane 49). Usually, while economically stable nations have to assist the crisis-struck countries, the receiving countries forgo important political and economic decision-making power, while being forced to implement rigid austerity measures that are highly unpopular. This puts many innocent citizens under painful economic strain. Ideally, unlike the crises in other countries, the Greek debt crisis has resulted to the Euro’s first financial crisis while pushing the Union to the brink of collapse (Honkapohja 1). The crisis has raised questions about the management of macroeconomic stabilization policies in the Euro area. To start with many questions have been asked on the main cause of the European debt crisis. In this case, were the bailouts warranted for any political or economic reasons?

Causes of the European Debt Crisis

The reasons behind the downfall of most of the Eurozone economies were largely similar. Across the region, the arrival of the Euro resulted in low interest rates and a stable currency, which prompted an economically hyperactive spending and consumer boom. The European debt crisis was caused by a combination of factors. First, the violation of European rules was a major factor that contributed to the economic crisis. For instance, when the European Union decided to form a monetary union, some countries including Cyprus and Greece gave unreal data about the economic and financial situation (Hodson and Quaglia 2). Whereas perhaps the EU knew about this, it ignored and accepted the accession of the countries in question to enlarge the European cartel. The Union has also gone ahead to accept high debt levels and increased budget deficit by many countries during the crisis.

Indecisive and slow action from the European officials was another factor that triggered the financial crisis (Lane 50). While the debt crisis was triggered by Greece, it transferred to other countries following the slow response from European leaders to solving the problem since their actions were not decisive and was always late. Similarly, apart from taking longer than expected, actions announced by European officials were not decisive and therefore did not resolve the matter from its root cause. The main solutions in this case were mainly in the form of bailout to the affected countries and loans to the troubled banks. While these methods offered a temporary solution, they lacked effective mechanisms to ease concerns in bond market or the formation of a fiscal union. Other factors that have been seen to contribute to the crisis include the problems in the banking sector, unmonitored rating agencies and political conflicts. Other factors contributing to the financial downturn were because of failures in individual countries (Honkapohja 2).

In Spain for instance, greedy banks handed out ever-cheaper mortgages (Stein 200). At one stage, the Spanish construction industry accounted for a quarter of the country’s GDP and was counting on the illusion that an ever-increasing number of foreigners and affluent Spaniards would snap up more and more retirement and holiday homes. The country suffered from extremely high unemployment, which prompted widespread social unrest. Spain’s banks were also faced by excesses of the previous poverty boom with balance sheets that were full of properties no one wanted to buy. As a result, the Spanish bailout of 100 billion Euro to assist the country’s financial sector did not take EU by surprise (Koumparoulis 33).

Following the European sovereign debt crisis that resulted in lending of money to European Union states, there has been a strong campaign to reform the functioning of the Eurozone in the event of a crisis. This resulted to the creation of a loan (bailout) in the media mechanism through the European Financial Stability Mechanism and European Financial Stability Facility (Field and Botti 66). Together with the International Monetary Fund, these bodies would lend money to the European states in financial crisis in the same way the European Central Bank lends money to the European banks.

According to the Financial Support Instruments, the members of the European Stability Mechanism (ESM) are entitled to a bailout if they are in a financial strain or their financial sector is a stability threat in need of recapitalization (Collignon, Esposito and Lierse 25). The bailouts are in this case conditional on the member states who must first sign a memorandum of understanding stating a program of the needed reforms or fiscal consideration to be implemented in order to restore the financial stability. As at March 2013, members have been subjected to another condition where they are obliged to have fully ratified the European Fiscal Compact when applying for the financial support.

In response to the looming crisis in its five member states, in early 2010, the European Union established a 440 billion euro bailout fund called the European Financial Stability Facility (EFSF) (Koumparoulis 33). The aim of the bailout was to stabilize financial markets and rescue not only the shareholders of Greek government debt, but also the holders of any EU government debts that seemed shaky. While the plan stressed it would adhere to all EU rules concerning bailouts, it did not specify how. After one year, the pretense of avoiding bailouts was abandoned. Nevertheless, the EU’s political leaders approved the creation of a European Stability Mechanism (ESM) in 2011 to replace the EFSF. As part of the new arrangements, the EU member states and the European parliament agreed to amend the relevant European treaty clauses forbidding bailouts. Significantly, such plans and actions and the talks of setting up a European Monetary Fund were justified by a number of European politicians and euro was adopted as a common currency for all the member states.

Greece and the Bailout

In early 2010, Greece entered a financial crisis that highlighted the challenges of a large currency union where member nations maintain responsibility for their own fiscal policies (Fahrholz and Wojcik 3). When the country was unable to devalue its currency to boost sales of products without injuring other member nations, Greece turned to member states for a bailout. For much of the world, the crisis in European sovereign debt markets traces back to the Greek national parliamentary elections that were held in 2010. The elections were called early because of a combination of corruption scandals and social unrest. Whereas the government reported a relatively manageable fiscal deficit estimated at 3.7% of the gross domestic product for 2009, the party leadership knew there was a need to rebalance government finances in light of the global economic downturn (Hubner 328). At this point, the bailout was important.

The opposition (Panhelenic Socialist Party) on the other hand took the opposite view and campaigned on a platform of increased government spending to restart the economy. The second Greek bailout was for instance activated after the Greek parliament passed additional public expenditure cuts and tax rises worth 28.4 billion euro. Moreover, in an attempt to contain the speculative activity against Spain, Italy and the wider Eurozone, France, Spain, Belgium and Italy introduced a temporary ban on the short selling of financial instruments in August 2011. The ban affected equities, convertibles and equity derivatives. This move encouraged Germany to renew its call for European Union wide restrictions, which greatly affected Greece’s financial position.

Clearly, Greece has a balance-of-payments problem. As a matter of fact, Greece has a long history of poor accounting practices dating back to the mid-1990s (Ryvkin 229). Although Eurostat has always had difficulties accessing reliable data from the Greek government, European bond traders hoped that participation in the euro zone would create both the opportunity and the incentive for Greece to get its fiscal house in order. The Greek bailout in this case focused on repairing debt overhang in the public sector through issuing more debt for the public sector.

Similarly, while various economists question whether it was the right policy course have condemned the bailout support package, some commentators argue that letting Greece default would have spread the crises to other members including Portugal or Spain. This would create a risk of a break-up among the EMU while causing a major financial crisis. In this view, Europe had to create a strong emergency financing mechanism, backed by higher degree of integration (Fahrholz and Wojcik 2).

Moreover, considering that domestic fiscal reforms may have significant distributional implications, societal groups must look for ways to pass the burden of fiscal adjustment costs onto other groups at the national level. Ideally, the bail-out in Greece was inevitable. A threat of default by one member in this case must result in sharing the costs of fiscal adjustment by the rest of the members.

Additionally, the country’s low private and public sector saving rates have resulted in persistent external current account deficits, which have cumulated into a large negative net external investment position (Stein 200). As a result, the EU member states took action to stop the crisis from spreading out from Greece. In early May 2013, the countries of the Eurozone agreed to a 110 billion Euro fund bilateral loans including 30 billion euro from the International Monetary Fund in order to take Greece out of the bond market.

Bailouts conditioned on austerity measures show the interest of the French to save Greece from default, the compromises between the preference of the Greek to avoid default without a bailout and the German preference to prevent moral hazard through spending cuts and the reorganization of Greek fiscal policies (Schich and Lind 2). Bailouts of debt-ridden governments would be problematical and might lead to a further enhancement of the role of central institutions. If a country could not fund its budget deficit and successfully appealed to the federal authorities for help, this would lead to inflationary pressures in case the request is met without a general increase in Europe-wide tax levels. A major element to prevent crisis in the future is to make the European Union Economies more integrated. Despite the bailouts in the country, the problems in Greece have highlighted debt problems in other European nations including Portugal, Italy and Spain.

Ireland and the Bailout

Ireland has had one of the most catastrophic experiences of financial crisis in the developed world. Along with other open and small economies, Ireland experienced an increase in credit extension, bank lending and other risky activities in the years preceding the international crisis of 2008. In 2010, Ireland’s financial crisis threatened the stability of the global financial system, precipitating an international bailout of 85 billion euro (Koumparoulis 35). In order to fight the scale of the losses in the banking system and the immediacy of the European sovereign debt crisis, the Irish government consented to a long-term adjustment program under the IMF’s extended fund facility. However, from its inception, the program lacked credibility both domestically and internationally and proved insufficient to place the country on a sustainable debt path without European’s further support.

The Irish bailout also aimed to resolve the problem of banks insolvencies and government debt overhang through loading more debt on taxpayers (Lane 50). Although Ireland’s financial crisis may have been largely homegrown, it threatened the stability of the global financial system and the survival of the euro currency. Consequently, most powerful states were willing to contain the looming crisis. On the other hand, while the program of financial support is sometimes portrayed as a compromise among a group of responsible technocrats, the political interests of a group of powerful states shaped the negotiations. As a result, the IMF’s negotiators were not able to act contrary to the interests of France, Germany and other large shareholders.

Largely, in the case of the European sovereign debt crisis, the European Commission and the European Central Bank argue that losses for the banking sector have to be prevented at all costs. In this case, they fear a financial catastrophe if governments are not bailed out due to losses for banks. Unlike the situation in Greece, excessive government borrowing was not a problem in Ireland (Koumparoulis 36). Nevertheless, Irish fiscal consolidation was one of the European Union’s greatest success stories.

Portugal and the Bailout

After Ireland and Greece, Portugal was the third Eurozone country to ask for international assistance (Field and Botti 78). In Portugal, a small country with an already fragile economy and financial unrest had severe consequences. After the revolution of April 25 1974, the living standards of the Portuguese had increased greatly. During the 1990s, productivity increased, private sector investment grew, generalized access to public education was achieved and a national health service was consolidated. Although Portugal had achieved better results than its neighboring countries in the Eurozone, the economic policies shared by all political parties did not have positive impact on the country’s growth. As a result, the first signs of global financial crisis were realized in Portugal in September 2007. At this point, the effects of mortgage crisis in the Eurozone had already become a liquidity crisis for the euro, hampering access to credit in the real economy (Collignon et. al 5). Consequently, the European Central Bank started its four-year-policy of putting more capital into the monetary system.

Another reason for Portugal’s bailout was because of the bursting of the subprime bubble that deteriorated the assets of the financial sector, bringing liquidity problems for financial institutions and causing a banking crisis (Hodson and Quaglia 940). For this reason, the stock markets plunged, damaging the assets of Eurozone countries. Since this indicated difficulties for government budget control and debt finance and sovereign debt crisis, the European Union had a reason to rescue and quell the situation.

Moreover, in Portugal, the lack of interbank liquidity led to the downfall of Banco Portugues de Negocios (BPN). In November 2008, the Portuguese government nationalized BPN in order to prevent systemic risk, but the confidence in the banking sector had already been shaken (Field and Botti 100). The structural deficits in Portugal over the years led to a debt burden, which was aggravated by two bailouts of national banks by the government. These banks had been accumulating losses from bad investments and fraud by their management board. By raising Portugal’s interest rates to levels beyond economical sustainability, the rating agencies led the country to the only short-term option; the EU-IMF bailout. Arguably, the path from financial to economic and political crisis in Portugal has been followed all the way. Nevertheless, Portugal felt the need for bailout because of the political frailty of the current political institutions of the Eurozone and their inability to deal with crisis and to think differently and experiment different approaches.

It is clear that all bailed-out Eurozone nations had gambled on the belief that a single currency would enable them borrow heavily at lower interest rates and that such a scenario would continue to be sustainable in the medium to long term. Nevertheless, the bailout in Portugal shows that there is no overarching debt crisis in the Eurozone. Rather, there is a crisis in several countries with more differences among them than European Union membership and the euro currency. The bailout of Portugal further demonstrates that it is not only about sovereign debts. It is about where money can be made within the global casino and what is to be gained by the rating agencies and the financial market investors.

Spain and the Bailout

The realization that Spain and Italy were also in major fiscal difficulties brought the crude characterization of the Eurozone crisis as one, which was simply down to poor domestic management by peripheral economies including Ireland, Portugal and Greece. After a growth period from 1995 to 2007 characterized by a 3.6 percent average annual increase of gross domestic product, Spain entered a period of recession that reached 3.7% GDP growth in 2009 and –0.3 percent in 2010 (Field and Botti 4). After a timid recovery in 2011 (0.4%), the economy again experienced a negative growth in 2012. This was characterized by simultaneous unemployment and evolution of budget deficit. Ironically, unlike other countries like Greece, Spain had been applauded for many years for being an example of economic success. Considering that the international crisis affected the Iberian country because of Spain’s structural economic problems, there was a need for its bailout.

Likewise, as part of the EU and the Eurozone, Spain lacks the ability to devaluate a national currency. At some point, the EU leaders insisted on austerity and Spain was also under pressure from the markets. While these conditions restricted the Zapatero government’s options, they did not determine the exact response. At all costs, Zapatero focused on avoiding a formal bailout of the Spanish economy by European authorities. Although he succeeded, it was at a very high cost. It is in this context of severe economic crisis that support for the government and the Socialists eroded and political change occurred (Spannaus 64).

Moreover, under pressure from the European institutions, change began in May 2010 when Zapatero announced austerity measures (Spannaus 65). At this time, Zapatero was reproached for a lack of leadership, the underestimation of the magnitude of the crisis, the delayed response, the drastic reduction of government spending and the cuts to the welfare state. The country had to be rescued from collapse nevertheless.

Spain’s business community had also long complained about local governments pressuring private companies to do business with them off the books and delay to send them bills. The Spanish government in this case knew that the greater their real overall public debt, the higher would be the interest rates demanded by financial markets and the more stringent the conditions attached to any bailout they might need. The bailout helped to ensure the constitutionality of the VRA’s special provisions (Field and Botti 5). The act acknowledges the possibility of the over broadness of its trigger by providing for the bailout process for non-discriminating jurisdictions.

The political disaffection of Spain citizens indicates grave problems for Spain’s democracy. Among the citizenry, there is the palpable feeling that corruption permeates the political system. In the case of Spain, the possibility of pure market-based enforcement is weakened by a number of factors including lack of credible self-imposed fiscal rules, the low regional debt level to provide a powerful market-based reaction and lack of transparency in the regional fiscal accounts. An indication that Spain is not suited to a pure market-based approach is also provided by the fact that market participants themselves mention the existence of the central government’s oversight as a primary factor for regional fiscal stability instead of providing an independent external discipline.

Cyprus and the Bailout

            In Cyprus, the financial crisis arose due to insufficient regulation, banking overreach, poor debt management and excessive government deficits (Jenkins 1). In March 2013, the president, Nicos Anastasiades consented to a rescue deal that would include the bail-in insured and uninsured depositors in all financial institutions.  The country in this case required a bailout for projected government deficits, government debt expiration and for supporting the financial system. Whereas the government wanted a bailout of 17 billion Euros, the European Central Bank and the Troika of the European Commission and the IMF were only willing to give ten billon Euro (Wignall and Slovik 2).

The main reason that led to Cyprus bailout was the extended delays from the exiting Christofias’ government and the persistence from the Troika that led to the bailout in order to cover the existing financial gap (Jenkins 2).            At this point, what Cyprus needs is solidarity and understanding from the rest of the Euro group. Europe must in this case appreciate that direct support of the banking sector will be required. Similarly, considering Cyprus as a country is small, the amount required to position the country on a recovery path is relatively small compared to the European Union (Honkapohja 4). The country should in this case be allowed to become a net recipient of EU funds from a net contributor to avoid the fallout of the country’s per capita GDP.

With the EU authorities providing the lion’s share of the bailout funds, any intervention by the US to block the deal could have seriously disrupted international relations among the world’s major economic powers (Honkapohja 8). It would have also implied that America was attempting to become a decision-maker on European issues. Where there has been no bailout, tax rises, massive job cuts and drastic reforms of benefits and welfare systems have been expedited across Europe.

Beyond bank bailouts, European governments responded during 2008 and 2011 global economic crisis by resorting to stabilizers and stimulus packages partly to offset the sudden contraction in private sector demand. While the expansionary fiscal policies prevented a steep decline in employment and output, they left governments with high debt burdens. In the process, the debt holders questioned the ability of Eurozone countries to service their national debt.


The prospect of sustainable economic development and political stability of any nation depends largely on the efficiency, strengths and the growth potentials of its social fabrics. The current fiscal problems faced by a number of European Union countries are of a severity. As a matter of principle, political interventions are what the left-liberal approach to human well-being is predicted on. The resolution of this situation will most likely involve a combination of fiscal pain and debt restructuring. Whereas important steps have already been taken to deal with the crisis, further methods including a burden-sharing arrangement for the recapitalization or orderly liquidation of systematically important cross-border financial institutions are required.

Generally, the European bailout has demonstrated that the world’s most powerful economies do not support unconditional bailouts and that the terms of such bailouts rarely go against their strategic and economic interest. Greece for instance received a large IMF loan as a percentage of its quota than other countries. The country’s program on the other hand lacked credibility and was not in a position to putting Greece on a sustainable debt path without further European support. The crisis in Greece was part of a broader European sovereign debt crisis which presented a stark choice for the IMF’s large shareholders. They would have to fund the largest bailout to allow the meltdown of the European banking system.

Works Cited

Collignon, Esposito and Lierse, Hanna. “European Sovereign Bailouts, Political Risk and the

Economic Consequences”. Journal of International Commerce, Economics and Policy, 4:2 (2013), 1-29.

Fahrholz and Wojcik, Cezary. “The Bail-Out! Positive Political Economics of Greek-Type

Crises in the EMU”. Journal of International Commerce, Economics and Policy, 3:2 (2012), 1-18.

Field and Botti, Alfonso. Politics and Society in Contemporary Spain: From Zapatero to Rajoy.

USA: Palgrave Macmillan, 2013. Print.

Honkapohja, Seppo. “The Euro Crisis: A View from the North”. Journal of Macroeconomics,

2013, 1-12

Hodson and Quaglia, Lucia. “European Perspectives on the Global Financial Crisis:

Introduction”. Journal of Common Market Studies, 47:5 (2009), 939-953.

Hubner, Kurt. Europe, Canada and the Comprehensive Economic and Trade Agreement. USA:

Routledge, 2011. Print.

Jenkins, Holman. “Cyprus Bailout Revisited”. The Wall Street Journal, 1-3.

Koumparoulis, Dimitrios. “The Role of both IMF and ECB in the current European Economic

Crisis: A Critical Essay”. International Journal of Economics, Finance and Management, 1:1 (2012), 33-37.

Lane, Philip. “The European Soverign Debt Crisis”. Journal of Economic Perspectives, 26:3

(2012), 49-68.

Ryvkin, Boris. “Saving the Euro: Tensions with European Treaty Law in the European Union’s

Efforts to Protect the Common Currency”. Cornell International Law Journal, 45 (2012), 228-255.

Schich and Lindh, Sofia. “Implicit Guarantees for Bank Debt: Where Do We Stand?” OECD Journal of Financial Market Trends, 1, (2012), 1-22.

Spannaus, Nancy. “Spain Forced To Seek Bailout; Glass-Steagall Push Intensifies”. EIR, 15

(2012), 64-66.

Stein, Jerome. “The Diversity of Debt Crises in Europe”. Cato Journal, 31:2 (2011), 199-215

Wignall and Slovik, Patrick. A Market Perspective on the European Sovereign Debt and Banking

Crisis. OECD Journal of Financial Trends, 2010:2 (2011), 1-28.

Use the order calculator below and get started! Contact our live support team for any assistance or inquiry.