nep-eec New Economics Papers
on European Economics
Issue of 2014‒02‒02
twenty papers chosen by
Giuseppe Marotta
University of Modena and Reggio Emilia

  1. Fiscal Devaluation in a Monetary Union By Philipp Engler; Giovanni Ganelli; Juha Tervala; Simon Voigts
  2. Primary surplus and debt projections based on estimated fiscal reaction functions for euro area countries By Martin Plödt; Claire Reicher
  3. Fiscal Integration in the Eurozone: Economic Effects of Two Key Scenarios By Dolls, Mathias; Fuest, Clemens; Neumann, Dirk; Peichl, Andreas
  4. Explaining the German trade surplus: An analysis with an estimated DSGE model By Vogel, Lukas; Kollmann, Robert; Ratto, Marco; Roeger, Werner; In 't Veld, Jan
  5. Haircuts for the EMU Periphery: Virtue or Vice? By Neck, Reinhard; Blüschke, Dmitri
  6. Determinants of Internal and External Imbalances within the Euro Area By Georg Dettmann
  7. The Interest Rate Pass-Through in the Euro Area During the Global Financial Crisis By Wollmershäuser, Timo; Hristov, Nikolay; Hülsewig, Oliver
  8. Estimating simple fiscal policy reaction functions for the euro area countries By Martin Plödt; Claire Reicher
  9. Determinants of sovereign debt yield spreads under EMU: Pairwise approach By Fazlioglu S.
  10. The ECB's Unconventional Monetary Policies: Have they lowered market borrowing costs for banks and governments? By SZCZERBOWICZ, Urszula
  11. What Can Break-Even Inflation Rates Tell Us about the Anchoring of Inflation Expectations in the Euro Area? By Lemke, Wolfgang; Strohsal, Till
  12. Tweets, Google Trends and Sovereign Spreads in the GIIPS By Theologos Dergiades; Costas Milas; Theodore Panagiotidis
  13. On the Self-Fulfilling Prophecy of Changes in Sovereign Ratings By Ingmar Schumacher
  14. On Creditor Seniority and Sovereign Bond Prices in Europe By Westermann, Frank; Steinkamp, Sven
  15. Feeding the Global VAR with theory: Is German wage moderation to blame for European imbalances? By Bettendorf, Timo
  16. The Impact of Growing Public Debt on Economic Growth in the European Union By Mencinger, Jernej; Aristovnik, Aleksander; Verbic, Miroslav
  17. Fiscal Divergence and Current Account Imbalances in Europe By Schnabl, Gunther; Wollmershäuser, Timo
  18. The European Commission's Scoreboard of Macroeconomic Imbalances: The impact of preferences on an early warning system By Knedlik, Tobias
  19. Point and Density Forecasts for the Euro Area Using Many Predictors: Are Large BVARs Really Superior? By Berg, Tim Oliver; Henzel, Steffen
  20. Financial stability and economic performance By Jérôme Creel; Paul Hubert; Fabien Labondance

  1. By: Philipp Engler; Giovanni Ganelli; Juha Tervala; Simon Voigts
    Abstract: Between 1999 and the onset of the economic crisis in 2008 real ex-change rates in Greece, Ireland, Italy, Portugal and Spain appreciated relative to the rest of the euro area. This divergence in competitiveness was reflected in the emergence of current account imbalances. Given that exchange rate devaluations are no longer available in a monetary union, one potential way to address such imbalances is through a fiscal devaluation. We use a DSGE model calibrated to the euro area to investigate the impact of a fiscal devaluation, modeled as a revenue-neutral shift from employers' social contributions to the Value Added Tax. We find that a fiscal devaluation carried out in `Southern European countries' has a strong positive eect on output, but a mild effect on the trade balance of these countries. In addition, the negative eect on `Central-Northern countries' output is weak.
    Keywords: Fiscal Devaluation, Fiscal Policy, euro area, currency union, current account
    JEL: E32 E62 F32 F41
    Date: 2014–01
  2. By: Martin Plödt; Claire Reicher
    Abstract: We project the path of the public debt and primary surpluses for a number of countries in the euro area under a fiscal rule based on a set of estimated fiscal policy reaction functions. Our fiscal rule represents a fiscal analogue to a well-known monetary policy rule, and it is calibrated using country-specific as well as euro area-wide parameter estimates. We then forecast the dynamics of the fiscal aggregates under different convergence, growth, and interest rate scenarios and investigate the implications of these scenarios in projecting the future path of fiscal aggregates. We argue that our forecasting methodology may be used to deliver insights into the medium-run effects of different fiscal policy rules and to provide some early warning of future fiscal pressures
    Keywords: fiscal rules, fiscal policy, euro area, forecasting
    JEL: H62 H63 H68
    Date: 2014–01
  3. By: Dolls, Mathias; Fuest, Clemens; Neumann, Dirk; Peichl, Andreas
    Abstract: The 2008-09 crisis has shown that some euro area member countries were unable to sufficiently stabilize their economies which has given rise to a debate about deeper fiscal integration in Europe. In this paper, we analyze the redistributive and stabilizing effects of two scenarios of fiscal integration in the Eurozone, namely the introduction of i) a joint tax and transfer system that replaces 10 per cent of national systems and ii) a system of fiscal equalization that equalizes 10 per cent of differences in taxing capacity. Based on the European tax-benefit calculator EUROMOD and representative household micro data for the current 17 euro area member states, our conceptual experiment shows that a joint tax and transfer system would only lead to moderate gains in terms of stabilization while redistribution would flow especially towards the Eastern European member states. In contrast, a fiscal equalization mechanism that redistributes revenues across countries could even lead to destabilizing effects.
    Date: 2014–01–24
  4. By: Vogel, Lukas; Kollmann, Robert; Ratto, Marco; Roeger, Werner; In 't Veld, Jan
    Abstract: The paper estimates a structural model to analyse the drivers of Germany's external surplus since the start of EMU. The analysis suggests that the most important factors behind the build-up of Germany's external surplus have been the disappearance of country risk premia in the context of EMU, which has led to the convergence of interest rates in the euro area, strong growth in emerging economies with the associated increase in the demand for German exports, exogenous changes in savings behaviour and wage moderation/labour market reform in Germany. Germany's trade surplus has reduced net exports in the rest of the euro area and the rest of the world alike, but spillover for GDP is likely to be positive. --
    JEL: F41 C54 F32
    Date: 2013
  5. By: Neck, Reinhard; Blüschke, Dmitri
    Abstract: We use a dynamic game model of a two-country monetary union to study the impacts of an exogenous fall in aggregate demand, the resulting increase in public debt, and the consequences of a sovereign debt haircut for a member country or bloc of the union. In this union, the governments of participating countries pursue national goals when deciding on fiscal policies, while the common central bank s monetary policy aims at union-wide objective variables. The union considered is asymmetric, consisting of a core with lower initial public debt, and a periphery with higher initial public debt. The periphery may experience a debt relief ( haircut ) due to an evolving high sovereign debt. Calibrating the model to the Euro Area, we calculate numerical solutions of the dynamic game between the governments and the central bank using the OPTGAME algorithm. We show that a haircut as modeled in our study is disadvantageous for both the core and the periphery of the monetary union. Moreover, the cooperative solution is preferable to the noncooperative equilibrium solution (both without and with a haircut ), providing an argument for coordinated fiscal policies in a monetary union. --
    JEL: E61 E62 E58
    Date: 2013
  6. By: Georg Dettmann (Department of Economics (University of Verona))
    Abstract: The widening of global current account balances has been an important subject of academic debate in recent years. Several authors have pointed out that there has been a direct link between the world financial crisis in 2007/ 09 and the so called euro crisis since 2010. Structural imbalances, similar to the ones that caused the global financial crisis, might have also been the underlying cause for the events that finally triggered the euro crisis. The current state of literature focuses on the current account side of the problem rather than onto the financial accounts. The purpose of this paper is to show that the capital flows that were created by the particular structure of the EMU were not sustainable. Therefore we will conduct a simplified three country model that shows the capital flows into the EMU and inside the EMU. We find that the core EMU countries served as intermediaries for external investors. We show how this caused the imbalances in the according financial accounts and that a rebalancing of internal current accounts will not be sufficient to stop the Target2 balances from diverging. The EMU ended in an equilibrium in which a system that seemed to have come to a halt after the beginning of the euro crisis is still going on, and there is no mechanism for the core countries to stop the unbalanced capital flows. We will start by elaborating how the same trade shock that hit the US in a symmetrical way, hit the single EMU member statesí Balance-of-Payments asymmetrically. The current reforms only aim on the current account side of the problem and leave out the distortions in the financial accounts. A rebalancing of current accounts will not be sufficient, as long as the bilateral linkages with external trade partners are not balanced with the according financial accounts.
    Keywords: Euro Crisis, Intra-EMU Imbalances, Sovereign Debt Crisis, Current Account Imbalances, Target2, Balance-of-Payment Crisis
    JEL: E42 E58 F32 F34
    Date: 2014–01
  7. By: Wollmershäuser, Timo; Hristov, Nikolay; Hülsewig, Oliver
    Abstract: This paper uses panel vector autoregressive models and simulations of an estimated DSGE model to explore the reaction of Euro area banks to the global financial crisis. We focus on their interest rate setting behavior in response to standard macroeconomic shocks. Our main empirical finding is that the pass through from changes in the money market rate to retail bank rates became significantly less complete during the crisis. Model simulations show that this result can be well explained by a significant increase in the frictions that the banks business is subject to. --
    JEL: E40 E43 E52
    Date: 2013
  8. By: Martin Plödt; Claire Reicher
    Abstract: We formulate and estimate a simple fiscal policy reaction function for the euro area and individual euro area countries. Our reaction function allows for primary surpluses to feature three components: an anti-cyclical response of primary surpluses to the output gap, a response to the debt-GDP ratio, and an exogenous fiscal policy shifter. In line with the cyclical adjustment literature and in contrast with much of the previous time-series literature, we find a consistently strong anti-cyclical response of primary surpluses to the output gap for the euro area. We also find a consistently strong positive response of primary surpluses to the debt-GDP ratio. Our estimates are robust to different output gap measures and to different assumptions regarding the order of integration of observables. In addition, we provide statistical evidence in favor of our specification of a fiscal policy reaction function which features persistent fiscal policy shocks as opposed to an alternative specification found in the literature which features fiscal policy smoothing. Altogether, our results help to reconcile widely differing estimates from the literature, and we argue that our results may therefore provide guidance to forecasters and policymakers
    Keywords: fiscal reaction function, fiscal policy, fiscal rule, euro area, primary surplus
    JEL: E62 H61 H62
    Date: 2014–01
  9. By: Fazlioglu S. (GSBE)
    Abstract: This study aims at providing an empirical analysis of long-term determinants of sovereign debt yield spreads under European EMU (Economic and Monetary Union) through pairwise approach within panel framework. Panel gravity models are increasingly used in the cross-market correlation literature while to our knowledge, this is the first empirical study employing the method in the bond market literature. Accordingly, sovereign yield spreads are positively related to differential government debt ratio while negatively related to relative economic growth performance, differential liquidity of the individual debt markets as well as governance quality. Moreover, non-linear dynamic panel estimates indicate that markets seem to ignore fundamentals after the emerge of EMU while the very same risk factors are revalued by the markets after the 2008/2009 financial crisis. Furthermore, markets price fiscal indebtedness more among the EMU members than among the non-EMU members. Finally, the results of the dynamic panel model are robust to different estimation techniques such as GMM as well as sample selection.
    Keywords: Single Equation Models; Single Variables: Models with Panel Data; Longitudinal Data; Spatial Time Series; Interest Rates: Determination, Term Structure, and Effects; National Debt; Debt Management; Sovereign Debt;
    JEL: H63 E43 C23
    Date: 2013
  10. By: SZCZERBOWICZ, Urszula
    Abstract: This paper evaluates the impact of the European Central Bank's (ECB) unconventional policies on bank and government borrowing costs. We employ event-based regressions to assess and compare the effects of asset purchases and exceptional liquidity announcements on the money markets, covered bond markets, and sovereign bond markets. The results show that (i) exceptional liquidity measures (3-year loans to banks and setting the ECB deposit rate to zero) significantly reduced persistent money market tensions and that (ii) asset purchases were the most effective in lowering the refinancing costs of banks and governments in the presence of high sovereign risk. In particular, we show how the interdependence between sovereign and bank risk amplifies the effectiveness of the ECB's asset purchases: bank-covered bond purchases diminish sovereign spreads while sovereign bond purchases reduce covered bond spreads.
    Date: 2014–01
  11. By: Lemke, Wolfgang; Strohsal, Till
    Abstract: We assess whether euro area inflation expectations, as measured by break-even inflation rates (BEIRs), have remained anchored during the financial crisis. Since autumn 2008, the volatility of BEIRs has increased considerably. We treat observed BEIRs as a sum of `genuine BEIRs' and additional `noise' components, the latter picking up influences related to market illiquidity or demand-supply imbalances, but not reflecting genuine inflation expectations and inflation risk premia. We estimate a bivariate VAR with short-term and long-term BEIRs, allowing for measurement noise in both. Anchoring of inflation expectations is analyzed by means of the pass-through of shocks from shorter to longer-term expectations. We find that, according to the pass-through results, inflation expectations remained well-anchored during the crisis period. Moreover, measurement noise accounts for up to 30% of the increase in volatility of BEIRs. --
    JEL: E31 E52 C32
    Date: 2013
  12. By: Theologos Dergiades; Costas Milas; Theodore Panagiotidis
    Abstract: We examine whether the information contained in social media (Twitter & Facebook) and web search queries (Google) influences financial markets. Using a multivariate system and focussing on Eurozone’s peripheral countries, the GIIPS (Greece, Ireland, Italy, Portugal and Spain), we show that social media discussion and search-related queries for the Greek debt crisis provide significant short-run information primarily for the Greek-German government bond yield differential even when other financial control variables (default risk, liquidity risk and international risk) are accounted for, and to a much lesser extent for Portuguese and Italian sovereign yield differentials.
    Keywords: Google, social media, Greek crisis, frequency domain analysis, GIIPS.
    JEL: C10 G01 G02
    Date: 2013–10
  13. By: Ingmar Schumacher
    Abstract: We empirically investigate the dynamic interactions between sovereign ratings and the macroeconomic environment using a Panel VAR on annual data for European countries from 1996 to 2013. Our results provide evidence for a significcant two-way interaction between the macroeconomic environment and changes in sovereigns' ratings. Thus, rating changes are able to exacerbate a country's boom-bust cycle.
    Keywords: sovereign ratings, Panel VAR, self-fulfilling prophecy
    JEL: E6 C33
    Date: 2014–01–06
  14. By: Westermann, Frank; Steinkamp, Sven
    Abstract: The recent increase of interest rate spreads in Europe and their apparent detachment from underlying fundamental variables has generated a debate on multiple equilibria in the sovereign bond market (see De Grauwe and Ji (2012)). We critically evaluate this hypothesis, by pointing towards an alternative explanation: the increasing share of senior lenders (IMF, ECB, EFSF, etc.) in the total outstanding government debt of countries in crisis. We illustrate the close relationship between senior tranche lending including Target2 balances and recent developments in the sovereign bond market, both graphically and in a formal regression analysis. --
    JEL: F34 G12 H81
    Date: 2013
  15. By: Bettendorf, Timo
    Abstract: This paper analyses the importance of German wage moderation in the context of European imbalances. Using information from a New Keynesian small open economy model with labor market frictions, we derive sign restrictions for a wage markup shock. This information enables us to identify a German wage markup shock by imposing restrictions on the impulse response functions of German variables in a Global VAR model. We find that negative German wage markup shocks do generally cause an improvement of the domestic trade balance and a deterioration of foreign trade balances in the Euro Area. However, they account only for a limited proportion of trade balance forecast error variances. Hence, German wage moderation cannot be the lone driver of European imbalances. --
    JEL: F41 F32 F10
    Date: 2013
  16. By: Mencinger, Jernej; Aristovnik, Aleksander; Verbic, Miroslav
    Abstract: The paper attempts to empirically explore the transmission mechanism regarding the short-term impact of public debt and growth. We examine and evaluate the direct effect of higher indebtedness on economic growth for countries in the EU which are in the epicentre of the current sovereign debt crisis. In comparison to similar empirical studies, our research will add to the existing literature by extending the sample of countries and providing the latest empirical evidence for a non-linear and concave (i.e. inverted U-shape) relationship. The empirical analysis primarily includes a panel dataset of 25 sovereign member states of the EU. Our sample of EU countries is divided into subgroups distinguishing between so-called ‘old’ member states, covering the period 1980–2010, and ‘new’ member states, covering the period 1995–2010. In order to account for the impact of the level of the debt-to-GDP ratio on the real growth rate of GDP, we employ a panel estimation on a generalized economic growth model augmented with a debt variable, while also considering some methodological issues like the problems of heterogeneity and endogeneity. The results across all models indicate a statistically significant non-linear impact of public debt ratios on annual GDP per capita growth rates. Further, the calculated debt-to-GDP turning point, where the positive effect of accumulated public debt inverts into a negative effect, is roughly between 80% and 94% for the ‘old’ member states. Yet for the ‘new’ member states the debt-to-GDP turning point is lower, namely between 53% and 54%. Therefore, we may conclude that the threshold value for the ‘new’ member states is lower than for the ‘old’ member states. In general, the research may contribute to a better understanding of the problem of high public debt and its effect on economic activity in the EU.
    Keywords: fiscal policy, public debt, economic growth, panel analysis, turning points, EU
    JEL: C33 E62 H63 O40
    Date: 2014–01
  17. By: Schnabl, Gunther; Wollmershäuser, Timo
    Abstract: Since the breakdown of the Bretton Woods System diverging current account positions in Europe have prevailed. While the Southern and Western European countries have tended to run current account deficits, the current accounts of the Central and Northern European countries, in particular Germany, have tended to be in surplus. The paper scrutinizes the role of diverging fiscal policy stances for current account imbalances in Europe since the early 1970s under alternative institutional monetary arrangements (floating exchange rates, European Monetary System, and European Monetary Union). It sheds light on the interaction of fiscal and monetary policies with respect to their impact on the current account and analyses the role of exchange rate changes and credit facilities as adjustment mechanisms for current account imbalances. Panel regressions reveal a robust impact of fiscal policy divergence on current account imbalances, which to a large extent is independent from the exchange rate regime, but which turns out to be contingent on the monetary policy stance. --
    JEL: E62 E52 F32
    Date: 2013
  18. By: Knedlik, Tobias
    Abstract: The European Commission s Scoreboard of Macroeconomic Imbalances is a rare case of a publicly released early warning system. It allows the preferences of the politicians involved to be analysed with regard to the two potential errors of an early warning system missing a crisis and issuing a false alarm. Such an analysis is done for the first time in this article for early warning systems in general by using a standard signals approach, including a preference-based optimisation approach, to set thresholds. It is shown that, in general, the thresholds of the Commission s Scoreboard are set low (resulting in more alarm signals), as compared to a neutral stand. --
    JEL: G01 F47 F53
    Date: 2013
  19. By: Berg, Tim Oliver; Henzel, Steffen
    Abstract: Forecast models with large cross-sections are often subject to overparameterization leading to unstable parameter estimates and hence inaccurate forecasts. Recent articles suggest that a large Bayesian vector autoregression (BVAR) with sufficient prior information dominates competing approaches. In this paper we evaluate the forecast performance of large BVAR in comparison to its most natural competitors, i.e. averaging of small-scale BVARs and factor augmented BVARs with and without shrinkage. We derive point and density forecasts for euro area real GDP growth and HICP inflation conditional on an information set which is appropriate for all approaches and find no consistent outperformance of the large BVAR. While it produces good point forecasts, the performance is poor when density forecasts are used to evaluate predictive ability. Moreover, the ranking of the different approaches depends inter alia on the target variable, the forecast horizon, the state of the business cycle, and on the size of the dataset. Overall, we find that a factor augmented BVAR with shrinkage is competitive in all setups. --
    JEL: C11 C52 E37
    Date: 2013
  20. By: Jérôme Creel (Ofce sciences-po,Escp Europe); Paul Hubert (Ofce sciences-po); Fabien Labondance (Ofce sciences-po)
    Abstract: This paper aims at establishing the link between economic performance, financial depth and financial stability in the European Union from 1998 to 2011. We use the standard framework both in terms of variables and econometric method of Beck and Levine (2004) to estimate these relationships. Our results suggest that the traditional result that financial depth positively influences economic performance (or components of aggregate dynamics like consumption, investment or disposable income) is not confirmed for European countries. Furthermore, we use different measures of financial instability (institutional index, microeconomic indicators, and our own statistical index derived from a Principal Component Analysis) and find that financial instability has a negative effect on economic growth.
    Keywords: Financial depth,Aggregate dynamics,Financial stability,Banks,Non-performing loans, CISS, Z-score,Principal component analysis
    JEL: G10 G21 O40
    Date: 2013–12

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