nep-eec New Economics Papers
on European Economics
Issue of 2014‒01‒17
nineteen papers chosen by
Giuseppe Marotta
University of Modena and Reggio Emilia

  1. Sovereign Debt Markets in Turbulent Times: Creditor Discrimination and Crowding-Out By Fernando Broner; Aitor Erce; Alberto Martin; Jaume Ventura
  2. Was there a « Greenspan Conundrum » in the Euro area? By G. LAMÉ
  3. Sovereign risk contagion in the Eurozone: A time-varying coefficient approach By Ludwig, Alexander
  4. Comparative Institutional Advantage in the European Sovereign Debt Crisis By Alison Johnston; Bob Hancké; Suman Pant
  5. The single supervisory mechanism - Panacea of quack banking regulation? Preliminary assessment of the evolving regime for the prudential supervision of banks with ECB involvement By Tröger, Tobias H.
  6. Euro membership and fiscal reaction functions By Weichenrieder, Alfons J.; Zimmer, Jochen
  7. Examination of European Union Economic Cohesion: A Cluster Analysis Approach By Mazurek, Jiří
  8. Trust in government and fiscal adjustments By Bursian, Dirk; Weichenrieder, Alfons J.; Zimmer, Jochen
  9. The Role of Indicator Selection in Nowcasting Euro Area GDP in Pseudo Real Time By A. Girardi; R. Golinelli; C. Pappalardo
  10. The credit crunch and firm growth in the euro area: 2005-2011. A quantile panel analysis. By Sophia Dimelis; Ioannis Giotopoulos; Helen Louri
  11. Trust me! I am a European Central Banker By Bursian, Dirk; Fürth, Sven
  12. Business cycle synchronization and vertical trade integration: A case study of the Eurozone and East Asia By Ayako Saiki; Sunghyun Henry Kim
  13. Bank and sovereign debt risk By Paries, Matthieu Darraq; Faia, Ester; Palenzuela, Diego Rodriguez
  14. German Economic Models, Transnationalization and European Imbalances By Hans-Michael Trautwein; Finn Marten Körner
  16. Taxes, banks and financial stability By Gropp, Reint
  17. Central Bank Communication in the Financial Crisis: Evidence from a Survey of Financial Market Participants By Bernd Hayo; Matthias Neuenkirch
  18. Avoiding monocultures in the European Union: the case for the mutual recognition of difference in conditions of uncertainty By Richard Bronk; Wade Jacoby
  19. Does Monetary Policy cause Randomness or Chaos? A Case Study from the European Central Bank By Sanderson, Rohnn

  1. By: Fernando Broner; Aitor Erce; Alberto Martin; Jaume Ventura
    Abstract: In 2007, countries in the Euro periphery were enjoying stable growth, low deficits, and low spreads. Then the financial crisis erupted and pushed them into deep recessions, raising their deficits and debt levels. By 2010, they were facing severe debt problems. Spreads increased and, surprisingly, so did the share of the debt held by domestic creditors. Credit was reallocated from the private to the public sectors, reducing investment and deepening the recessions even further. To account for these facts, we propose a simple model of sovereign risk in which debt can be traded in secondary markets. The model has two key ingredients: creditor discrimination and crowding-out effects. Creditor discrimination arises because, in turbulent times, sovereign debt offers a higher expected return to domestic creditors than to foreign ones. This provides incentives for domestic purchases of debt. Crowding-out effects arise because private borrowing is limited by financial frictions. This implies that domestic debt purchases displace productive investment. The model shows that these purchases reduce growth and welfare, and may lead to self-fulfilling crises. It also shows how crowding-out effects can be transmitted to other countries in the Eurozone, and how they may be addressed by policies at the European level.
    Keywords: Sovereign debt;Europe;Spillovers;Financial crisis;Bond issues;Investment;Economic models;sovereign debt, rollover crises, secondary markets, economic growth
    Date: 2013–12–27
  2. By: G. LAMÉ (Insee)
    Abstract: This paper implements an affine term structure model that accommodates "unspanned" macro risks for the Euro area, i.e. distinct from yield-curve risks. I use an averaging-estimator approach to obtain a better estimation of the historical dynamics of the pricing factors, thus providing more accurate estimates of the term premium incorporated into the Eurozone's sovereign yield curve. I then look for episodes of the monetary cycle where long yields display a puzzling behavior vis-à-vis the short rate and its expected average path in contrast with the Expectation Hypothesis. The Euro-area bond market appears to have gone through its own "Greenspan conundrum" between January 1999 and August 2008. The term premium substantially contributed to these odd phenomena.
    Keywords: Affine term structure models, unspanned macro risks, monetary policy, expectation hypothesis, term premium
    JEL: C51 E43 E44 E47 E52 G12
    Date: 2013
  3. By: Ludwig, Alexander
    Abstract: This paper analyzes sovereign risk contagion in the Eurozone using an extension to the canonical model for contagion proposed by Pesaran and Pick (2007) and Metiu (2012) to allow for time-varying coefficients. This becomes necessary due to changes in the risk pricing of sovereign bonds since the onset of the recent crisis period and due to the presence of contagion in typically bounded time intervals. Controlling for changes in the risk pricing by investors, we detect several channels of pure contagion between 2008 and 2012. Further, we find that the bailout-programs for Greece, Ireland and Portugal led to a disruption in contagion of sovereign risk from these countries to Spain, Italy, France and Belgium as was desired by policymakers. For all countries considered, we observe an increase in the relevance of general risk aversion towards sovereign debt since May 2010. This development partially replaced the significance of country-specific credit risk factors in explaining bond yield spreads. Our model extension yields a device that is suitable to determine whether policy interventions are required and to judge their success ex-post. --
    Keywords: contagion,credit events,Eurozone,financial crisis,sovereign risk,time-varying approach
    JEL: C32 E44 G01 G15
    Date: 2013
  4. By: Alison Johnston; Bob Hancké; Suman Pant
    Abstract: Excessive fiscal spending is commonly cited as a primary cause of the current European sovereign debt crisis. We develop an alternative hypothesis which better accounts for systemic differences towards EMU countries’ exposure to market speculation: the rise of competitiveness imbalances which contributed to national imbalances in total borrowing. We outline that one driver of competitiveness divergence is a country’s capacity to limit sheltered sector wage growth, relative to wage growth in the manufacturing sector. We posit that corporatist institutions which linked sectoral wage developments together in the surplus countries provided them with a comparative wage advantage vis-à-vis EMU’s debtor nations, explaining why the EMU core has emerged relatively unscathed from market speculation during the crisis despite that fact that some of these countries had poor fiscal performances during EMU’s early years. Using a panel regression analysis, we demonstrate that rising differentials between public and manufacturing sector wage growth, as well as wage governance institutions which weakly coordinate exposed and sheltered sectors, are significantly correlated with export decline. We also find that weak governance institutions are significantly associated with more prominent export decline inside a monetary union, compared to outside of monetary union.
    Keywords: European Monetary Union, European Debt Crisis, Corporatism, Sectoral Wage Bargaining
    Date: 2013–09
  5. By: Tröger, Tobias H.
    Abstract: This paper analyzes the evolving architecture for the prudential supervision of banks in the euro area. It is primarily concerned with the likely effectiveness of the SSM as a regime that intends to bolster financial stability in the steady state. By using insights from the political economy of bureaucracy it finds that the SSM is overly focused on sharp tools to discipline captured national supervisors and thus underincentives their top-level personnel to voluntarily contribute to rigid supervision. The success of the SSM in this regard will hinge on establishing a common supervisory culture that provides positive incentives for national supervisors. In this regard, the internal decision making structure of the ECB in supervisory matters provides some integrative elements. Yet, the complex procedures also impede swift decision making and do not solve the problem adequately. Ultimately, a careful design and animation of the ECB-defined supervisory framework and the development of inter-agency career opportunities will be critical. The ECB will become a de facto standard setter that competes with the EBA. A likely standoff in the EBA's Board of Supervisors will lead to a growing gap in regulatory integration between SSM-participants and other EU Member States. Joining the SSM as a non-euro area Member State is unattractive because the current legal framework grants no voting rights in the ECB's ultimate decision making body. It also does not supply a credible commitment opportunity for Member States who seek to bond to high quality supervision. --
    Keywords: prudential supervision,banking union,regulatory capture,political economy of bureaucracy,Single Supervisory Mechanism (SSM),European Central Bank (ECB),European Banking Authority (EBA)
    JEL: G21 G28 H77 K22 K23 L22
    Date: 2013
  6. By: Weichenrieder, Alfons J.; Zimmer, Jochen
    Abstract: The paper uses fiscal reaction functions for a panel of euro-area countries to investigate whether euro membership has reduced the responsiveness of countries to shocks in the level of inherited debt compared to the period prior to succession to the euro. While we find some evidence for such a loss in prudence, the results are not robust to changes in the specification, such as an exclusion of Greece from the panel. This suggests that the current debt problems may result to a large extent from preexisting debt levels prior to entry or from a larger need for fiscal prudence in a common currency, while an adverse change in the fiscal reaction functions for most countries does not apply. --
    Keywords: debt sustainability,fiscal reaction function,euro area
    JEL: H62 E62
    Date: 2013
  7. By: Mazurek, Jiří
    Abstract: In the past years majority of EU members experienced the highest economic decline in their modern history, but impacts of the global financial crisis were not distributed homogeneously across the continent. The aim of the paper is to examine a cohesion of European Union (plus Norway and Iceland) in terms of an economic development of its members from the 1st of January 2008 to the 31st of December 2012. For the study five economic indicators were selected: GDP growth, unemployment, inflation, labour productivity and government debt. Annual data from Eurostat databases were averaged over the whole period and then used as an input for a cluster analysis. It was found that EU countries were divided into six different clusters. The most populated cluster with 14 countries covered Central and West Europe and reflected relative homogeneity of this part of Europe. Countries of Southern Europe (Greece, Portugal and Spain) shared their own cluster of the most affected countries by the recent crisis as well as the Baltics and the Balkans states in another cluster. On the other hand Slovakia and Poland, only two countries that escaped a recession, were classified in their own cluster of the most successful countries.
    Keywords: cluster analysis; cohesion; European Union; economics
    JEL: C38 O11 O52 O57
    Date: 2014–01–08
  8. By: Bursian, Dirk; Weichenrieder, Alfons J.; Zimmer, Jochen
    Abstract: The paper looks at the determinants of fiscal adjustments as reflected in the primary surplus of countries. Our conjecture is that governments will usually find it more attractive to pursue fiscal adjustments in a situation of relatively high growth, but based on a simple stylized model of government behavior the expectation is that mainly high trust governments will be in a position to defer consolidation to years with higher growth. Overall, our analysis of a panel of European countries provides support for this expectation. The difference in fiscal policies depending on government trust levels may help explaining why better governed countries have been found to have less severe business cycles. It suggests that trust and credibility play an important role not only in monetary policy, but also in fiscal policy. --
    Keywords: trust,debt sustainability,fiscal reaction function,euro area,EU
    JEL: H62 E62
    Date: 2013
  9. By: A. Girardi; R. Golinelli; C. Pappalardo
    Abstract: Building on the literature on regularization and dimension reduction methods, we have developed a quarterly forecasting model for euro area GDP. This method consists in bridging quarterly national accounts data using factors extracted from a large panel of monthly and quarterly series including business surveys and financial indicators. The pseudo real-time nature of the information set is accounted for as the pattern of publication lags is considered. Forecast evaluation exercises show that predictions obtained through various dimension reduction methods outperform both the benchmark AR and the diffusion index model without pre-selected indicators. Moreover, forecast combination significantly reduces forecast error.
    JEL: C53 C22 E37 F47
    Date: 2014–01
  10. By: Sophia Dimelis (Bank of Greece); Ioannis Giotopoulos (Bank of Greece); Helen Louri (Bank of Greece)
    Abstract: This paper explores the effects of bank credit on firm growth before and after the recent financial crisis outbreak, taking into account different structural characteristics of the banking sector and the domestic economy. The econometric method of panel quantiles is used on a large sample of 2075 firms operating in the euro area (17 countries) for the period 2005-2011. The main results of this paper indicate a strong dependence of firm growth on credit expansion before the crisis. However, post-2008, the credit crunch seems to seriously affect only slow-growth firms and especially those operating in domestic bank-dominated economies. Furthermore, the classification of firms in groups by size yields interesting results: the credit crunch exhibits a strong impact on small firms only. Separate estimates for more and less financially developed economies show that the credit crunch matters mainly in countries with a lower degree of financial development. Moreover, our findings reveal that the degree of banking concentration affects firm growth in a negative way in most estimates. Finally, risk and financial stability matter for firm growth for the total sample and for domestic bank-dominated economies, while in general they do not matter when markets are dominated by foreign banks.
    Keywords: Credit Crunch; Firm Growth; Foreign Bank Penetration; Banking Concentration; Financial Crisis; Panel Quantile Regressions; Financial Development
    JEL: E51 L25 L10 G21
    Date: 2013–11
  11. By: Bursian, Dirk; Fürth, Sven
    Abstract: In the aftermath of the financial crisis, the ECB has experienced an unprecedented deterioration in the level of trust. This raises the question as to what factors determine trust in central banking. We use a unique cross-country dataset which includes a rich set of socio-economic characteristics and supplement it with variables meant to reflect a country's macroeconomic condition. We find that besides individual socio-economic characteristics, macroeconomic conditions play a crucial role in the trust-building process. Our results suggest that agents are boundedly rational in the trust-building process and that current ECB market operations may even be beneficial for trust in the ECB in the long-run. --
    Keywords: Central Banking,European Central Bank,Financial Crisis,Fiscal Crisis,Trust
    JEL: D1 E5 G21 H6
    Date: 2013
  12. By: Ayako Saiki; Sunghyun Henry Kim
    Abstract: Business cycle synchronization is an important condition for a currency union to be successful. Frankel and Rose (1998) showed empirically that increased trade would have a positive impact on business cycle correlation while acknowledging the theoretical ambiguity on the relationship. Based on their finding, they claimed that the Eurozone’s optimal currency criteria (OCA) can be satisfied ex-post. In this paper, we first investigate whether the Eurozone exhibits more synchronized business cycles since the adoption of the euro. Then, we attempt to link the business cycle synchronization with trade integration. Our new contribution is that we examine the role intra-industry trade (IIT), and vertical IIT (V-IIT), in business cycle synchronization using the data of two sets of countries, Eurozone and East Asia that have been going through distinctively different kinds of economic integration. Our main findings are as follows. First, our empirical results suggest that the business cycle correlation increased over time, in both the Eurozone and East Asia, but synchronization has been progressing much faster in East Asia. Also, with respect to trade, intra-regional trade intensity in various measures has risen in East Asia but fallen in the Eurozone in recent years, perhaps due to the rise of China as an important trade partner for Europe. Second, unlike Frankel and Rose (1998), we find that the impact of increased trade intensity on business cycle correlation is ambiguous. This could be due to the fact that trade among countries with different factor endowment – e.g. countries within East Asia, among the Eurozone’s old and new member states – may dampen the business cycle correlation via increased specialization in different industries that receive different shocks. Instead, IIT, in particular V-IIT, unambiguously increased business cycle correlation in both regions. Vertical IIT increased substantially over the last few decades in East Asia but not in the Eurozone, which is consistent with the rapid increase in business cycle correlation in East Asia.
    Keywords: Business cycle synchronization; global integration; intra-industry trade; currency union
    JEL: F15 F41 F42 F44
    Date: 2014–01
  13. By: Paries, Matthieu Darraq; Faia, Ester; Palenzuela, Diego Rodriguez
    Abstract: Euro area data show a positive connection between sovereign and bank risk, which increases with banks' and sovereign long run fragility. We build a macro model with banks subject to incentive problems and liquidity risk (in the form of liquidity based banks' runs) which provides a link between endogenous bank capital and macro and policy risk. Our banks also invest in risky government bonds used as capital buffer to self-insure against liquidity risk. The model can replicate the positive connection between sovereign and bank risk observed in the data. Central bank liquidity policy, through full allotment policy, is successful in stabilizing the spiraling feedback loops between bank and sovereign risk. --
    Keywords: liquidity risk,sovereign risk,capital regulations
    JEL: E5 G2
    Date: 2013
  14. By: Hans-Michael Trautwein (University of Oldenburg - International Economics & ZenTra); Finn Marten Körner (University of Oldenburg - International Economics & ZenTra)
    Abstract: Germany’s net exports and macroeconomic policy stance are controversial issues in current debates about the Eurozone debt crisis. This paper shows that both are characteristics of what has been described in a variety of political economy literatures as the German socio-economic model. We argue that the model has evolved in three stages, from the economic miracle of the post-war era through the era of “Germany Inc.” and Bundesbank hegemony to the present transnationalization of German industries and finance. The three stages of the German model – or Models D, mark I - III – correspond closely to the exchange rate regimes of Bretton Woods, the European Monetary System and European Monetary Union (EMU). We describe them in three analogous settings that specify their different working conditions under the respective exchange-rate regime, following a chronology of success, dynamic instability and transformation. We point out that, while the German economy has under-gone substantial changes, there are two different mindsets of model thinking in Germany that have been remarkably persistent in public debate. We refer to these two mindsets as ordoliberalism and neo-mercantilism. Ordoliberalism is the normative mindset of policy speakers and academic econo-mists, whereas neo-mercantilism is the practical mindset of policymakers and business leaders. We discuss the differences and complementary uses of these modes of German model thinking and draw attention to their flaws and inadequacies at the present stage of European integration and transnationalization of the German economy.
    Keywords: macroeconomic policy regimes, export-led growth, global imbalances, ordoliberalism, neo-mercantilism
    JEL: E61 F43 N14 O43
    Date: 2014–01
  15. By: Riccardo Fiorentini (Department of Economics (University of Verona)); Guido Montani (University of Pavia)
    Abstract: The European Council of 8 February 2013, with its decision to cut the EU budget to 1% of GDP, made a great mistake: it aggravated the recession of the European economy and, tacitly, admitted that a European recovery policy is impossible. In this paper the Authors show that with an annual EU budget of only 1.19% of GDP, a recovery plan of 2% of GDP is possible, in order to fill the gap in European aggregate demand for investment and consumption. The twofold aim of this exercise is to show that European parties and leaders can put forward an alternative economic policy to austerity and that European fiscal imbalance is one of the major causes of the crisis of democracy in Europe
    Keywords: Recovery, European Union, Federalism
    JEL: E62 F42 F55
    Date: 2013–03
  16. By: Gropp, Reint
    Abstract: In this note, a new concept for a European deposit guarantee scheme is proposed, which takes account of the strong political reservations against a mutualization of the liability for bank deposits. The three-stage model for deposit insurance outlined in the text builds on existing national deposit guarantee schemes, offering loss compensation on a European level and at the same time preventing excessive risk and moral hazard taking by individual banks. --
    Keywords: bank risk,banking union,deposit insurance
    Date: 2013
  17. By: Bernd Hayo (University of Marburg); Matthias Neuenkirch (University of Trier)
    Abstract: In this paper, we study whether central bank communication has a positive effect on market participants’ perception of central banks’ (i) credibility, (ii) unorthodox measures, and (iii) independence. We utilise a survey of more than 500 financial market participants from around the world who answered questions in reference to the Bank of England (BoE), the Bank of Japan (BoJ), the European Central Bank (ECB), and the Federal Reserve (Fed). We find that market participants believe that the Fed communicates best, followed by the BoE, ECB, and BoJ. Similar rankings are found on the issues of credibility, satisfaction with unconventional monetary policy, and possible deterioration in independence. Using ordered probit models, we show that central bank communication has a positive effect on how central banks are perceived and understood, as it enhances credibility, increases satisfaction with unorthodox measures, and fosters perceived independence of central banks.
    Keywords: Central Bank, Communication, Credibility, Financial Crisis, Financial Market Participants, Independence, Survey, Unconventional Monetary Policy
    JEL: E52 E58
    Date: 2014
  18. By: Richard Bronk; Wade Jacoby
    Abstract: The European Union is a unique blend of harmonised practice and mutual recognition of different regimes. In this paper, we conclude that arguments for continued diversity are more significant than the existing literature recognises. We build on the Varieties of Capitalism argument for trading on (rather than effacing) comparative institutional advantages, as well as Sabel and Zeitlin’s for the learning potential of ‘directly deliberative polyarchy’. We link these to the emphasis in non-EU focused literature on the lack of robustness implied by one-size fits all. Diversification of gene pool, model or policy regime is essential insurance against unforeseen threats. We also focus on dangers of epistemic closure implied by analytical monocultures in conditions of uncertainty, and on epistemological justifications for disciplined eclecticism in regulation and analysis. The relevance to banking and fiscal union and other policy areas is briefly considered, as are the dangers posed by an emerging German Consensus.
    Keywords: mutual recognition, policy diversity, analytical monocultures, German Consensus, uncertainty
    Date: 2013–09
  19. By: Sanderson, Rohnn
    Abstract: Using the HICP (Harmonized Index of Consumer Prices) the author tests the series for the makeup of its dynamic components both before and after the start of stage three of the European Central Bank’s (ECB) monetary policy directive. While it appears ECB is meeting its stated objective, it is perhaps more important to address the composition of the lag and volatility of monetary policy to see how a policy change alters the fundamental dynamic structure of an economic system. The HICP data provides a good natural experiment for assessing structural change. This is important because while a policy may achieve its goal(s), in doing so it may alter the fundamental nature of how that system behaves, potentially causing the system to be more volatile or more sensitive to exogenous shocks in the future. Changes to the fundamental nature of a dynamic system can mean that future policies, that are similar to the present policies, could have very different impacts on that very same system in terms of both long run and short run effects. The paper finds that while the ECB may be meeting its stated objectives, it may be potentially increasing the degree and severity of future short run deflationary/inflationary cycles from similar policies in the future due to the type of random and deterministic components in the system. More data and further study is needed to determine the long-term affects of monetary policy in economic systems as many economic cycles are indeed very long.
    Keywords: dynamic systems, Hurst exponent, chaos, long-term memory, monetary policy
    JEL: C50 E40 G18
    Date: 2013–12–18

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