Global Financial Crisis and the Economies of the World

Introduction

The global financial crisis of 2008 had a major impact on the finances of many leading economic powers of the world. The major western economies, where the crisis originated, suffered the most due to the crisis. Other than the major financial centres of the world like USA and UK, a number of European countries suffered a lot due to the crisis. Baltic countries like Latvia, Estonia, and Lithuania were no exception to the crisis that followed the global financial crisis. Many of the economic variables like GDP and Exchange Rates took a beating duet the crisis that followed the global financial crisis of 2008. The current literature review focuses on the impact that the global financial crisis had on the six major economic variables, viz. GDP, Money Supply, balance of payments, exchange rates, FDI and Interest rate. During the analysis, special attention will be paid to the impact on the Baltic countries.

Impact on the Specific Economic Variables

GDP

One of the major impacts that the global financial crisis of 2008 had was on the Gross Domestic Product (GDP) of countries that were deeply impacted by the crisis. Since GDP reflects the total production activity in a country for a year, the global financial crisis resulted in a drastic fall in the GDPs of all the major economies of the world.

As the three Baltic countries are located at the same location, the global financial crisis had a similar impact on the GDPs of these three countries. For the year 2009, the GDPs of all the three Baltic countries experienced negative growth rates. Latvia and Estonia experienced negative GDP growth rates with their GDP growth figures standing at -3.3% and -3.7%. Lithuania was the only Baltic country which escaped the global financial crisis without any major impact on its GDP growth rate. The GDP growth rate of Lithuania during the year that followed the global financial crisis grew at an impressive rate of 2.9%.

In a research done on the impact of global financial crisis on the economies of major Baltic countries and their subsequent recovery from the crisis, some interesting findings came out. Some of the findings that were outlined in the study are as follows. After the end of the global financial crisis, the GDPs of many major economies that were deeply impacted started to grow back. While the economies of Asian countries like India and China that had the least impact of the global financial crisis grew quickly, the economies of countries like USA which were drastically hit by the crisis took a lot of gap before experiencing positive growth rates. The GDP growth rates of some Baltic countries started to grow back quickly. Lithuania and Estonia experienced positive GDP growth rates of 1.4 percent and 2.3 percent for the year 2010. One of the main reasons for the quick turnaround of these two economies is the better economic management by their governments. One the other hand, the economy of Latvia struggled to quickly recover after the global financial crisis. The growth rate of the country’s GDP was still at experiencing a negative growth rate of -0.3% for the year 2010.  An obvious lack of good attempts on the part of its management was one of the main reasons for the failure of the economy of Latvia to quickly recover after the global financial crisis.

Exchange Rates

The exchange rates of the currencies of all the major economies of the world have moved drastically during and after the global financial crisis of 2008. Kohler (2010) has done a study on the impact that the global financial crisis had on the values of the major currencies in the world. Unlike the other major financial crisis the world has seen before the 2008 crisis like the Asian crisis of 1997-98 and the Russian debt default of 1998, all the major currencies of the world got heavily depreciated due to the impact of the crisis. Currencies that did not form the main part of the crisis too were impacted after the global financial crisis.

Staehr (2013) has done an extensive study on the impact of the global financial crisis on the currencies of the Baltic countries and the Austerity measures that were taken by those governments. The currencies of the major Baltic countries that were majorly impacted due to the crisis were no exception to the crisis. However, the governments of these Baltic countries have taken quick steps to prevent any major damage to their currencies. Governments of these three major Baltic countries have immediately implemented Austerity policies that aimed at consolidating the public finances of these countries before they cause any serious damage. As part of the Austerity policies implemented by the governments of these countries, the exchange rate pegs of the countries were also retained without altering them. Maintaining the exchange rate pegs without allowing them to float freely limited the rate of movement of these currencies and prevented any major damage to their economies.

Balance of Payments

Balance of payments refers to the method used by countries to monitor their international transactions between their individuals and organizations with that of the people and organizations living in other countries. While a positive balance of payments is considered good for economy, a negative balance of payments is not considered adversarial for the economy in the long-term. Balance of payments of any country is divided into three major components, viz. current account, capital account, and the financial account. The global financial crisis of 2008 had a severe impact on the balance of payments position of all the countries that were impacted hard. As the economies of the countries were impacted due to the fall in the trade levels, they reduced the imports and exports of goods into their countries. The resulting deficit made countries to look for alternative ways to fund their trades with other countries. Some of the countries that have faced severe balance of payments crisis were the Asian countries that were dependent upon making money through their exports to the well-developed western countries.

Many European countries which depended upon exports to run their economies like Germany too faced severe balance of payments crisis. The Baltic countries too were not immune to the balance of payments crisis faced by the countries. EU has done an extensive study on the balance of payments crisis faced by some of the Baltic countries and published a report on the steps taken by different parties involved to avoid it from growing into major crisis (European Commission 2012). Among all the Baltic countries, Latvia was a country that faced severe balance of payments. The economy of Latvia which experienced a significant boom between the years 2000 to 2007 entered a phase of severe recession. The recession made it difficult to meet its payment obligations. In order to meet its payments obligations, the Latvian government entered into an exclusive agreement with EU and IMF. The medium term financial assistance program was known as balance of payments assistance program and was intended at making it easy for Latvia to meet it payments obligations. The Balance of Payments assistance program was started in the year 2009 and was expected to continue for a period of three years. The balance of payments assistance provided by EU and IMF resulted in the quick recovery of the Latvian economy and avoiding any crisis related to the default of payments to the countries from which it imported goods.

Money Supply

Many countries around the world have faced a severe crisis related to money supply due to the global financial crisis of 2008. As most of the money was absorbed into the housing sector before the boom, the crisis resulted in all the money available in the economy to dry up quickly. As a result, many companies faced a lot of difficulties in raising the required resources to fund their businesses activities leading to an overall recession in the economy.

European countries including the Baltic countries too were not immune to the housing bubble that was engulfing the whole world. During the boom period between the years 2000 to 2007, a number of countries in the Baltic area have started to give liberal housing loans at a liberal rate. A large section of the money in the economy was sucked into the housing sector. After the year 2008, Latvia was the hardest hit among all the Baltic countries due to the decrease in the money that was available for circulation. As the currencies of Latvia and other European countries were pegged to the Euro, the fall in the value of Euro compounded the issue further. A number of policy makers and economists opined at that time that the only way to avert a major crisis related to money supply was through the process of delinking the currency from that of Euro. However, the crisis was averted without any need to delink the currencies and by taking proper assistance from international organizations like EU and IMF. Governments of Baltic countries have also resorted to some other policies like fiscal consolidation as a way of averting a major crisis due to the lack of easy supply of money in the economies.

Inflation

One of the key effects on the common people due to the global financial crisis of 2008 was the decrease in the supply of money and the resulting high levels of inflation. Inflation is considered dangerous in any economy as it impacts the poor people of the society more than the rich. Many countries in the world experienced double digit inflation numbers after the global financial crisis of 2008. As a result consumers felt it difficult to buy goods and services in the economy. Central banks of the countries which were mainly impacted by the global financial crisis came out with a number of measures to reduce the impact of inflation on the common people. One of the most common and effective solutions that were implemented by central banks around the world was quantitative easing that involved artificially pumping vast amounts of money into the country’s economy. Central banks also took a number of other steps like imposing limits on exports of goods that prevented any scarcity of goods in the country’s that put the inflation under control. Baltic countries which were closely integrated with the global economy too faced problems related to double digit inflation. Kattel and Raulda (2013) have done an extensive study on the effect of inflation on the Baltic countries during the financial crisis and the steps taken by the governments to control it. Similar to the other crisis that resulted due to the global financial crisis, Latvia was the only Baltic country that suffered with a heavy inflation figure of 15.3 percent after the global financial crisis. Estonia and Lithuania too faced inflation rates of 10.6 percent and 11.1 percent respectively. In the years that followed the global financial crisis, the steps taken by the governments like fiscal consolidation and a positive balance of payments situation controlled the inflation rates. However, the rates of inflation continued their upward trajectory by the time of the end of the global financial crisis in the year 2010.

FDI

FDI is very crucial for the development of the business in any country. During the financial crisis of 2008, many countries experienced a fall in the FDI rates as the capital dried up all over the world due to the liquidity crisis. In a study conducted by Yucel (2014), it was found that FDI has a positive impact on the economies of Baltic crisis since the end of the Russian financial crisis and the fall of the Soviet Union. However, the countries experienced a temporary slump in their exchange rates during the global financial crisis as the flow of capital dried up from the Asia and the Americas. The fiscal consolidation and other steps taken by their governments have however resulted in the regrowth of FDI. FDI inflow levels have grown back to the levels of 20 % of the GDP in Estonia, 8.5 percent in Latvia, and 6 percent in Lithuania.

Conclusion

The global financial crisis had a drastic impact on all the major economies of the world including the Baltic countries. While some of the Baltic countries escaped the crisis with limited or no impact due to the clever policies implemented by their governments, others like Latvia could not escape the crisis.

 

This free paper is uploaded for the benefit of all the visitors to our site. Our professional essay writers strive to help students to get the best grades. Contact our support department to get the best quality assignment help. 

 

References

European Commission 2012, EU Balance-of Payments of assistance for Latvia foundations of success. Retrieved from : <http://ec.europa.eu/economy_finance/publications/occasional_paper/2012/pdf/ocp120_en.pdf>.

Kattel, R, & Raudla, R 2013, The Baltic republics and the crisis of 2008-2011, Europe-Asia Studies, vol. 65, no. 3, pp. 426-449.

Kohler, M 2010, Exchange rates during financial crisis, BIS Quarterly Review, pp. 102-131.

Staehr, K 2013, Austerity in the Baltic states during the global financial crisis, Review of European Economic Policy, vol. 48, no. 5, pp. 122-138.

Yucel, GE 2014, FDI and economic growth: The case of Baltic countries, Research in World Economy, vol. 5, no. 2, pp. 115-134.