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Wednesday, November 9, 2011

Understanding the European Union Financial Crisis

If a picture is worth 1,000 words, a video is worth 10,000 words.

But why is Germany letting Greece default by cancelling 50% of latters debt?

Before Euro became a common currency across Europe, German exports stood at around $487 billion in 1995. In 1999, the first year of the Euro being used as a currency the exports were at Euro 469 billion. Next year they increased to Euro 548 billion. And now they stand at Euro 1 trillion.

Using Euro as a common currency took away the cost of dealing with multiple currencies and thus helped Germany expand its exports to its European neighbors big time. Also with a common currency at play, exchange rate fluctuations which play an important part in the export game, no longer mattered and what really mattered was the cost of production.

Since the beginning of the Euro in 1999, Germany has become some 30 per cent more productive than Greece. Very roughly, that means it costs 30 per cent more to produce the same amount of goods in Greece than in Germany. That is why Greece imports $64 billion and exports only $21 billion.

So the way it works is that German banks lend to other countries in Europe at low interest rates and they, in turn, buy German goods and services which are extremely competitively priced as well as of good quality. This, of course, helps Germany.

And that is why Germany is interested in rescuing these countries or at least showing that it is trying to do something about it. Because if these countries in Europe collapse, then German exports will collapse as well.

One solution bandied around is that these countries which are in severe debt to Germany should be asked to stop using the Euro as its currency. But if they stop using the Euro as a currency, then the huge export advantage which Germany has had because of the Euro will also end.

Moral of the story? Germany is jammed in from both sides!

How the whole thing happened explained in a picture:

Understanding the European crisis

Who will lose money?

More data and numbers?