Worried about the worldwide crisis? Our experts explain what's going on

Q&A: All you need to know

Click to follow
The Independent Online

So, give it to me straight – just how bad is all this?

It's bad, but it's also August, a month when most of the world's bosses are away and traders are left to speculate.

This eurozone crisis has been bubbling for some time, but people were briefly distracted by President Obama trying to sort out his deficit problems. Now he seems to have got some sort of agreement, investors are looking more carefully at Europe again. The summit last month to agree the £90bn Greek bailout was meant to have halted the spread of the sovereign debt crisis. But it hasn't been ratified yet and investors – the big institutions, fund managers and hedge funds – are scared that the problems have spread to Italy and Spain, which both saw the cost of their borrowing soar last week to over 6 per cent. The problem is that all the European banks have lent huge amounts of money to each other – Italy has lent Spain $31bn, Germany has lent $238bn to Spain and Italy has borrowed $511bn from France. The worry is that it is like a pack of cards – once one goes they will all fall. And the banks are scared that if political leaders agree a new package many of them will be forced to take losses on their loans.

What are the problems?

Bingeing. Individuals (especially in Britain) and governments did it on the easy credit of the years before 2007. Banks binged on this, and on the short-termism aimed at maximising bonuses by selling financial products that were – even to themselves – the proverbial pigs in pokes. And the eurozone meant that the bingers could not, when the reckoning came, take the traditional medicine of devaluing their currency, since they no longer had one to devalue. Result, when reality dawned: misery.

What is being done to tackle them?

Retrenchment, by consumers and governments – although not nearly thoroughly enough in some places, such as Greece, where civil servants were retiring on two-thirds-salary pensions before their mid-fifties. Nor have welfare and defence spending come down fast enough in the US and Britain. But big (although for many, not nearly big enough) public spending cuts are now coming. That creates its own problem, by lowering growth which is, in the end, the only long-term solution to the mess we're all in. The magic bullet is to get the private sector expanding at a time when banks are still trying to repair their finances, and so are not lending very much.

How much of the present market turmoil is due to speculation, and how much to underlying economic weaknesses?

The big economic picture hasn't changed much over the past week or so but the perception has. There has been trouble brewing for months but it's only now investors have realised just how murky the picture has become. Big investors have woken up to the fact that there isn't a magic wand out there which is going to whisk all the debts away – the debts cannot all be repaid and someone is going to lose a lot of money. There are also signs the US is not growing as fast as hoped. There are worries too that China, which has fuelled so much growth from Brazil to the UK, is building up inflation. While it's deeply annoying watching speculators hold the world to ransom, there's usually more than a little truth in what their actions are saying. Right now the message is that they want leadership from the politicians.

Why haven't lessons been learnt from the last financial crisis?

Contrary to what many think, what we are now seeing is not a new crisis, but the painful, down-the-line symptoms of the original one. Remember the phrase "toxic debt"? In round one, it was the banks' debts. The present round two is national indebtedness (plus what's left of the banks' indebtedness), and we don't yet know how much of this could be "toxic". Last time, the banks were bailed out by governments. Now, the search is on for a durable source of funds, or institutions to bear the losses, which will satisfy the markets.

The US downgrade – what, practically, does this mean?

The US has the same economy and the same debt it did a week ago, so changing the label on its bonds may make little difference. However, many investors only want bonds with an AAA rating; so with less demand, the US may have to pay higher interest rates to tempt buyers in the future. That could raise borrowing costs not just for the government, but across the economy – and that prospect might hit the stock market.

And who the hell is Standard & Poor's, anyway?

It is one of the three big ratings agencies. Its job is to look at investments and company debt and decide precisely how safe this is for investors to buy into. It has been around since 1860, and started by rating the railroad companies – the equivalent to the high technology firms of today. It is far from infallible, and it was only a few years ago that it gave US sub-prime loan investments a clean bill of health.

Is there no good economic news?

Not much. But the US job figures released last week showed unemployment falling faster than expected in July. There were 117,000 new jobs created in that month – still only enough to shave 0.1 per cent off the national jobless rate, which is down to "just" 9.1 per cent. In the UK, we've also seen unemployment gradually dwindling – the figures for the last quarter showed a fall from 7.8 to 7.7 per cent.

Where will this all end?

The hope – certainly of European governments – was that, in the current cliché, "the can could be kicked down the road" long enough for the banks to recover sufficiently to swallow a lot of their bad loans to the likes of Greece, and that, in 18 months or so, economic growth would begin to remove jitters, replenish revenues, and restore an upward swing to the whole economic cycle. That – if leaders can signal a clear enough road map – may still happen, and is our best hope. The worst scenario is that the markets are not calmed and there is a continuing run on the weakest elements – adding, with every passing day, to the final cost of the crisis. Oh, for a modern Franklin D Roosevelt who will stare down fear and panic, call a time-out, and begin the repair job.

Is Italy a basket case?

No. The banks are much sounder than Britain's (because more conservative), manufacturing industry in the north is strong and flexible, and the rate of family savings puts many countries to shame. But the national debt is enormous, and growth is sluggish to non-existent: when he came to power, Silvio Berlusconi, inset, promised a new economic miracle, but has utterly failed to deliver it, or the long-overdue reforms which alone could help Italy rediscover its creativity and make the most of its great human resources. Now his end is clearly approaching, and the slow-motion death of his corrupt and long-dysfunctional coalition is doing the nation no favours at all.

Britain's not in the eurozone – so why are we at risk?

Because half our exports go to Europe and our banks have lent about £200bn to European countries. If the eurozone countries can't halt this latest bloodbath, then the fear is that our banks will reduce the amount of credit they are prepared to extend to UK customers. The UK is also a contributor to the European Financial Stability Facility, which was set up to provide liquidity to eurozone countries with problems.

Are the countries in trouble now really cheap places to visit?

The top-five list of places Brits visit reads like a gazetteer of economies in trouble – Spain, France, the US, Ireland, Italy. Greece and Portugal have also seen a surge in visitors from the UK in search of a bargain. £1 will buy you $1.64, up five cents in three weeks but still down on a peak of $1.67 in May. The pound has strengthened steadily against the euro in the past month, buying €1.14. Countries such Greece, where spending cuts and tax rises are biting, will be more expensive than those enjoying at least some growth, such as Italy.

Is the euro done for in the end? And, if so, what will happen when it collapses?

If you look at the different rates being charged to countries for borrowing debt, then a break-up could be on the cards. All currency unions have eventually broken up unless – like the US and the UK – they had political union first. If it is to survive, then it needs fiscal union, its own treasury and central bank. It can only be saved if Germany is prepared to be paymaster, and countries such as Spain and Italy persuade the markets that they really are putting austerity budgets in place. More likely is that it would shrink – Spain would return to the peseta and Greece to the drachma. It's also likely exchange controls would be brought back and the exchange rate of those countries would initially fall – in that way they will get the devaluation that many believe they need.

When will the US economy start to grow again?

The world's largest economy has slowed down sharply this year, and still hasn't recovered to its level before the credit crisis began in 2007. Unemployment of 9.1 per cent and government cuts are pulling down demand. The Federal Reserve is pinning its hopes on falling fuel prices and an end to manufacturing disruptions from the Japanese quake. But Wall Street thinks the days of 3 per cent annual growth are gone for the foreseeable future.

In how bad a state is Britain's economy?

Ministers believe our economy is better-protected than others because of its austerity package of huge public spending cuts and reducing borrowing. But economic growth is sluggish and there is little action the Government can take to ease credit conditions because interest rates are already very low.

So are we still all in this together?

As the fresh crisis erupted last week, there were reports that David Cameron and George Osborne want to relieve some pressure on the highest earners by cutting the 50p rate of tax, on incomes over £150,000, to 45p – hardly an endorsement of the coalition's promise that "we're all in this together". The Lib Dems want VAT cuts and tax cuts for lower earners to balance the "sweeteners". At the same time, this Government and the last's crackdown on bankers' bonuses has hardly worked.

We have been warned about financial Armageddon before, but my mortgage stayed the same, cash machines still worked and I still got paid. Why should I care?

Not everyone was so lucky last time around. The recession which followed the financial crash of 2009 cost a million jobs in the UK. As for mortgages, millions found it hard to switch lender or even get a new home loan, post-credit crunch. If a major country defaults on its debt or the US heads into recession, the economy, the banking sector and most people's personal finances will take a major hit. But if you are about to retire in the next year you may wish to hold off converting your pension into an annuity until the crisis is over.

Is there anywhere safe to put my spare cash?

New rules mean that deposits up to £85,000 are automatically protected. People with more than this amount may be best spreading their money among different savings providers to ensure they stay under the £85,000 limit. What's more, in difficult times many savers turn to National Savings certificates and Premium Bonds, which are fully backed by the Government and so your money should be safe.

Should I put my money in gold?

There's been something of a gradual run on gold in recent years, as there often is when cracks show in the global economy, and other forms of investment suddenly appear less reliable. The value of gold is now more than five times what it was 10 years ago.

So, is there any reason at all that I shouldn't mix myself a nice draught of hemlock tonight?

It's not all bad. The sun has been out, the Proms are running all summer, the England cricket team are marching on victorious, the Edinburgh Festival is giving us some laughs, there's a bank holiday in three weeks' time, it is less than a year until the Olympics, Downton Abbey returns next month – and there are still 139 shopping days until Christmas.

Comments