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The reasons why Europe’s crisis is not other peoples affairs2012-01-02Hit:4549

The reasons why Europe’s crisis is not other people"s affairs

Written By Sung-min Kim, a professor at KAIST business school

Recently, European leaders announced comprehensive plans for overcoming European financial Crisis after tedious mutual agreement process. This year, these plans are already the third comprehensive plan. Nevertheless, the market response to these plans does not seem to be very friendly, and for the following reasons.

Belatedly rushing around policies

To begin with, policies so far focus on only reducing the extent of budget deficit, but they cannot cultivate a debtor nation’s ability to pay debt. In order to make debt level manageable, one thing is to reduce the extent of debt; another is to increase the extent of income.

Sadly, ways for increasing the extent of income of European financial vulnerable countries such as Greece are not specified on the policies. Using the way of reducing the extent of debt leads debtors’ income to decrease. In case of Greece, the expectation that ratio of debt to income will consistently increase until 2020 is dominant.

The reason that Korea could rapidly overcome the currency crisis is due to the increase of exports under the circumstance of weak won. But, since currencies in European financial vulnerable countries such as Greece are unified to Euro currency, the countries cannot possibly secure a competitive power by weakening their local currency

Then, other ways are drastically reducing the nominal price of production factors or increase the productivity. Yet, it is impossible for European financial vulnerable countries to increase the productivity revolutionarily. So, drastically reducing wage is the only way.

Secondly, policies could be effective when they are ahead of the market expectations; this policy is also ‘rushing around belatedly’ as the same as previous policies. The policies for overcoming the crisis in Europe bring back memories of the comprehensive polies in Korean government from October to December in 1997. At that time, although each policy was very breakthrough, policies could not be successful after taking everything into consideration.

What does European crisis suggest us?

Firstly, it consumes a number of time and cost for individual or country to settle the crisis caused by excessive debt. In case of Korean economy, excessive household debt can be a problem.

Negligence in household debt is a catastrophe.

Secondly, when reducing debt, reducing the extent of debt as well as the ability to pay debt should be considered at the same time. In relation to this point, the most deplorable thing in Korea is that household’s ability to pay debt would be weakened remarkably because of much lowered income arising from an aging society.

Negligence in household debt could lead a big crisis in recent future. We have to keep in mind that settling the crisis consumes a number of time and cost when household’s ability to pay debt is deadly weakened. Therefore, it is very urgent that taking right steps in advance to deal with the situation at the point when household’s ability to pay debt is no more weakened.


Contact : Lee, Sohyun ( sohyun.c.lee@kaist.ac.kr )