nep-eec New Economics Papers
on European Economics
Issue of 2015‒01‒03
sixteen papers chosen by
Giuseppe Marotta
Università degli Studi di Modena e Reggio Emilia

  1. How the Euro-Area Sovereign-Debt Crisis Led to a Collapse in Bank Equity Prices By Heather D. Gibson; Stephen G. Hall; George S. Tavlas
  2. The Euro Area Crisis: Politics over Economics By Orphanides, Athanasios
  3. On the real effects of financial pressure: Evidence from euro area firm-level employment during the recent financial crisis. By Fernandes, Filipa; Kontonikas, Alexandros; Tsoukas, Serafeim
  4. Estimating a DSGE model with Limited Asset Market Participation for the Euro Area By Alice Albonico; Alessia Paccagnini; Patrizio Tirelli
  5. An Empirical Assessment of Optimal Monetary Policy Delegation in the Euro Area By Chen, Xiaoshan; Kirsanova, Tatiana; Leith, Campbell
  6. Household saving behaviour and credit constraints in the euro area By Julia Le Blanc; Alessandro Porpiglia; Federica Teppa; Junyi Zhu; Michael Ziegelmeyer
  7. Exceptional policies for exceptional times: The ECB's response to the rolling crises of the Euro Area, and how it has brought us towards a new grand bargain By Pill, Huw; Reichlin, Lucrezia
  8. Real Effects of the Sovereign Debt Crisis in Europe: Evidence from Syndicated Loans By Acharya, Viral V; Eisert, Tim; Eufinger, Christian; Hirsch, Christian
  9. Effectiveness and Transmission of the ECB’s Balance Sheet Policies By JEF BOECKX; MAARTEN DOSSCHE; GERT PEERSMAN
  10. Sustainability vs. credibility of fiscal consolidation. A Principal Components test for the Euro Zone By Giuliana Passamani; Roberto Tamborini; Matteo Tomaselli
  11. Spillover Effects in Government Bond Spreads: Evidence from a GVAR Model By Britta Niehof
  12. A Decade of Labour Market Reforms in the EU: Insights from the LABREF database By Alessandro Turrini; Gabor Koltay; Fabiana Pierini; Clarisse Goffard; Aron Kiss
  13. Monnet’s Error? By Luigi Guiso; Paola Sapienza; Luigi Zingales
  14. What Happened in Cyprus? By Michaelides, Alexander
  15. Implementing monetary policy in a fragmented monetary union. By M. Vari
  16. Labor policies and capital mobility in theory and in EMU By Bertola, Giuseppe

  1. By: Heather D. Gibson; Stephen G. Hall; George S. Tavlas
    Abstract: We quantify the linkages among banks’ equity performance and indicators of sovereign stress by using panel GMM to estimate a three-equation system that examines the impact of sovereign stress, as reflected in both sovereign spreads and sovereign ratings, on bank share prices. We use data for a panel of five euro-area stressed countries. Our findings indicate that a long-run recursive relationship between sovereigns and banks operated during the euro-area crisis. Specifically, for the five crisis countries considered shocks to sovereign spreads fed-through to sovereign ratings, which affected commercial banks. Our results also point to the importance of using levels of equity prices -- rather than rates of return -- in measuring banks’ performance. The use of levels allows us to derive the determinants of long-run equity prices.
    Keywords: euro-area financial crisis, sovereign-bank linkages, banks’ performance, banking stability
    JEL: E3 G01 G14 G21
    Date: 2014–12
  2. By: Orphanides, Athanasios
    Abstract: This paper explores the dominant role of politics in decisions made by euro area governments during the crisis. Decisions that appear to have been driven by local political considerations to the detriment of the euro area as a whole are discussed. The domination of politics over economics has led to crisis mismanagement. The underlying cause of tension is identified as a misalignment of political incentives. Member state governments tend to defend their own interests in a noncooperative manner. This has magnified the costs of the crisis and has resulted in an unbalanced and divisive incidence of the costs across the euro area. The example of Cyprus is discussed, where political decisions resulted in a transfer of about half of 2013 GDP from the island to cover losses elsewhere. In the absence of a federal government, no institution can adequately defend the interests of the euro area as a whole. European institutions appear weak and incapable of defending European principles and the proper functioning of the euro. Political reform is needed to sustain the euro but this is unlikely to pass the political feasibility test with the current governments of Europe.
    Keywords: currency union; Cyprus; Deauville; euro; European integration; sovereign debt
    JEL: D72 E32 E65 F34 G01 H12 H63
    Date: 2014–06
  3. By: Fernandes, Filipa; Kontonikas, Alexandros; Tsoukas, Serafeim
    Abstract: Using a large panel of unquoted euro-area firms over the period 2003-11, this paper examines the impact of financial pressure on firms’ employment. The analysis finds evidence that financial pressure negatively affects firms’ employment decisions. This effect is stronger during the 2007-2009 financial crisis, especially for firms in the periphery area compared to their counterparts in the core European economies. We also find that impact of financial pressure on employment is more potent for firms classified as financially constrained and operating in periphery economies during the financial crisis.
    Keywords: Financial pressure, Firm employment, Euro area, Financial crisis,
    Date: 2014
  4. By: Alice Albonico; Alessia Paccagnini; Patrizio Tirelli
    Abstract: We estimate a medium scale DSGE model for the Euro Area to gain intuition on the importance of Limited Asset Market Participation (LAMP). Our results suggest that LAMP is sizeable (39% of households over the 1993-2012 sample) and important to understand EMU business cycle, especially, in the light of the recent financial crisis. In comparison with the representative households counterpart, the LAMP model is preferred on the grounds of both the Bayes factor and the average forecasting performance. Given the tighter credit standards we might expect in the near future, the high proportion of LAMP households is likely to remain an important feature of EMU. We also find that the LAMP model leads to conclusions about the main determinants of EMU business cycle that are substantially different from those obtained under the representative agent hypothesis. Given these results, the LAMP hypothesis should be part and parcel of empirical DSGE models of the Euro area.
    Keywords: DSGE, Limited Asset Market Participation, Bayesian Estimation, Euro Area, Business Cycle
    JEL: C11 C13 C32 E21 E32 E37
    Date: 2014–11
  5. By: Chen, Xiaoshan; Kirsanova, Tatiana; Leith, Campbell
    Abstract: We estimate a New Keynesian DSGE model for the Euro area under alternative descriptions of monetary policy (discretion, commitment or a simple rule) after allowing for Markov switching in policy maker preferences and shock volatilities. This reveals that there have been several changes in Euro area policy making, with a strengthening of the anti-inflation stance in the early years of the ERM, which was then lost around the time of German reunification and only recovered following the turnoil in the ERM in 1992. The ECB does not appear to have been as conservative as aggregate Euro-area policy was under Bundesbank leadership, and its response to the financial crisis has been muted. The estimates also suggest that the most appropriate description of policy is that of discretion, with no evidence of commitment in the Euro-area. As a result although both ‘good luck' and ‘good policy' played a role in the moderation of inflation and output volatility in the Euro-area, the welfare gains would have been substantially higher had policy makers been able to commit. We consider a range of delegation schemes as devices to improve upon the discretionary outcome, and conclude that price level targeting would have achieved welfare levels close to those attained under commitment, even after accounting for the existence of the Zero Lower Bound on nominal interest rates.
    Keywords: Great Recession; Financial Crisis; Zero Lower Bound; Discretion; Commitment; Great Moderation; Optimal Monetary Policy; Interest Rate Rules; Bayesian Estimation
    Date: 2014–11
  6. By: Julia Le Blanc; Alessandro Porpiglia; Federica Teppa; Junyi Zhu; Michael Ziegelmeyer
    Abstract: We study the role of household saving behaviour, of individual motives for saving and that of perceived credit constraints in 15 Euro Area countries. The empirical analysis is based on the Household Finance and Consumption Survey, a new harmonized data set collecting detailed information on wealth holdings, consumption and income at the household level. Since the data is from 2008-2011, strong conclusions as regards the present are diffcult to draw. This is because the crisis may have affected the data, especially in countries that were severely hit. Nevertheless we find evidence of some degree of homogeneity across countries with respect to saving preferences and the relative importance of different motives for saving. In addition, credit constraints are more heterogeneous across geographic regions and perceived to be binding for specific groups of respondents. Households living in Mediterranean countries report to be more subject to binding credit constraints than households living in Non-Mediterranean countries. Household characteristics and institutional macroeconomic variables are significant and economically important determinants of household saving preferences and credit constraints.
    Keywords: Household Finance and Consumption; Life Cycle Saving; Survey Data
    JEL: C8 D12 D14 D91
    Date: 2014–12
  7. By: Pill, Huw; Reichlin, Lucrezia
    Abstract: This paper provides an appraisal of European Central Bank (ECB) policy from the beginning of the financial crisis to the summer of 2014. It argues that, as the crisis unfolded, ECB policy can be characterized as an attempt at finding a middle way between “monetary dominance” embedded in the Treaty and “fiscal dominance”. This middle course was pragmatic response to the challenges being faced but it failed to offer a stable solution to the underlying solvency issues, while permitting (or even creating) a damaging set of dislocations, notably a fragmentation of Euro financial markets, with damaging consequences on the real economy. We argue that since Draghi’s pledge to do “whatever it takes” to sustain the euro in July 2012, the ECB has attempted to construct a new institutional framework. We conclude that, although there are promising developments in some areas such as banking union, without a “new bargain” on how to deal with the debt overhang which is the legacy of the crisis, the euro area is under threat.
    JEL: E5
    Date: 2014–10
  8. By: Acharya, Viral V; Eisert, Tim; Eufinger, Christian; Hirsch, Christian
    Abstract: This paper shows that the sovereign debt crisis and the resulting credit crunch in the periphery of the Eurozone lead to negative real effects for borrowing firms. Using a hand matched sample of loan information from Dealscan and accounting information from Amadeus, we show that firms with a higher exposure to banks affected by the sovereign debt crisis become financially constrained during the crisis. As a result, these firms have significantly lower employment growth, capital expenditures, and sales growth rates. We show that our results are not driven by country or industry-specific macroeconomic shocks or a change in the demand for credit of borrowing firms. Thus, the high interdependence of bank and sovereign health and the resulting credit crunch is one important contributor to the severe economic downturn in the southern European countries during the sovereign debt crisis.
    Keywords: credit contraction; European sovereign debt crisis; financing constraints; real effects
    JEL: E44 G21 G28
    Date: 2014–08
    Abstract: We estimate the effects of exogenous innovations to the balance sheet of the ECB since the start of the financial crisis within a structural VAR framework. An expansionary balance sheet shock stimulates bank lending, stabilizes financial markets, and has a positive impact on economic activity and prices. The effects on bank lending and output are smaller in the member countries that have been more affected by the financial crisis, in particular those countries where the banking system is less well-capitalized.
    Keywords: unconventional monetary policy, ECB balance sheet, euro area, VAR
    JEL: C32 E30 E44 E51 E52
    Date: 2014–07
  10. By: Giuliana Passamani; Roberto Tamborini; Matteo Tomaselli
    Abstract: Why did some countries in the Euro Zone between 2010 and 2012 - until the European Central Bank stepped in - experience a dramatic vicious circle between hard austerity plans and rising default risk premia? Were such plans too small, and hence non credible, or too large, and hence non sustainable? These questions have prompted theoretical and empirical investigations in the line of the so-called "self-fulfilling beliefs" where beliefs of unsustainability of fiscal adjustments, and hence default on debt, feed higher risk premia which indeed make fiscal adjustments less sustainable. Detecting the sustainability factor in the evolution of spreads is uneasy because it is largely non observable, and may be proxied by different variables. In this paper we present the results of a dynamic Principal Components Factor Analysis applied to a panel data set of the eleven major EZ countries from 2000 to 2013 consisting of each country's spread of long-term interest rate over Germany as dependent variable, and an array of leading fiscal and macroeconomic indicators of solvency fiscal effort and its sustainability. We have been able to identify the role of these indicators that combine themselves as significant latent variables in boosting spreads. Moreover the large joint deterioration of these variables is identifiably located between 2009 and 2012 and particularly for the group of countries under most severe default risk (with Italy and France as borderline cases).
    Keywords: Euro Zone debt crisis, Models of self-fulfilling beliefs, Principal Components Analysis
    Date: 2014
  11. By: Britta Niehof (University of Marburg)
    Abstract: This paper analyses the main drivers of sovereign bond spreads in a globalised world. Specifically, we account for international spillovers of bond spreads by adding an additional driver, namely, financial markets, and allowing interactions across countries and markets. We contribute to the VAR literature by taking a global VAR approach, which encompasses international linkages and spillovers and also deals with the issue of identifcation and the large dimensionality. We find significant spillovers across countries and across markets. Moreover, we reveal that bond spreads are driven by stock markets. Furthermore, highly indebted countries react more strongely to foreign shocks than do stable economies. European bond markets are primarily driven by European shocks, whereas U.S. shocks have a higher impact on European countries that are in crisis and other non-European OECD countries. Our results demonstrate that financial market participants, central bankers, and fiscal policymakers need to be aware of global interdependencies, as bond spread volatility is driven by different factors for each country.
    Keywords: New Keynesian Model, Philipps Curve, Taylor Rule, Stochastic Differential Equations
    JEL: C02 C63 E44 E47 E52 F41
    Date: 2014
  12. By: Alessandro Turrini; Gabor Koltay; Fabiana Pierini; Clarisse Goffard; Aron Kiss
    Abstract: This paper analyses the determinants and impact of labour market reforms in the European Union over the period of 2000-2011. The source of information on reforms is the LABREF database developed in DG ECFIN of the European Commission in cooperation with the Economic Policy Committee of the ECOFIN Council. The database collects information on measures adopted by EU Member States. Despite limitations of count data on reform events, the evidence permits a number of interesting insights. The 2008 crisis triggered increased policy activity in most policy domains in a large number of EU countries, in particular in domains with macro-structural relevance (employment protection legislation, unemployment benefits, wage setting). Reforms tend to be more frequently carried out in countries characterised by disappointing labour market outcomes and a high initial level of regulation or fiscal burden on labour. Econometric evidence on the effects of selected reforms on aggregate labour market outcomes is broadly supportive of common priors: tax and benefit reforms tend to be followed, after a time lag, by improved activity rates and lower unemployment.
    JEL: J20 J38 J48 J58 J68
    Date: 2014–07
  13. By: Luigi Guiso; Paola Sapienza; Luigi Zingales
    Abstract: Do partial steps toward European integration generate support for further steps or do they create a political backlash? We try to answer this question by analyzing the cross sectional and time series variation in pro-European sentiments in the EU 15 countries. The two major steps forward (the 1992 Maastricht Treaty and the 2004 enlargement) seem to have reduced the pro-Europe sentiment as does the 2010 Eurozone crisis. Yet, in spite of the worst recession in recent history, the Europeans still support the common currency. Europe seems trapped in catch-22: there is no desire to go backward, no interest in going forward, but it is economically unsustainable to stay still.
    Date: 2014–11
  14. By: Michaelides, Alexander
    Abstract: This is a case study of how a country nearly reached bankruptcy in March 2013, within five years from entering the Eurozone. The magnitude of the requested assistance is extremely large relative to GDP (100%) and studying this event provides useful lessons for avoiding such crises in the future. The crisis resulted from a worsening European economic environment (especially in Greece), bad choices with regards to public finances, weak corporate governance within the local banking sector, inadequate and/or difficult regulation of cross-border banking, worsening competitiveness, and bad political decisions at the European and, especially, the local (Cypriot) level. Local politics, reflected in short term political calculations and/or inadequate understanding of the magnitude of the crisis, delayed corrective action for 18 months until election time, making a bad situation almost impossible to deal with. Overconfidence can be one behavioural explanation for why local politicians ignored the dramatic costs of inaction.
    Keywords: bail-in; banking crisis; cost of inaction; Cyprus; European sovereign debt crisis; fiscal imbalances; sovereign debt; stress tests
    JEL: E00 E62 G00 H63
    Date: 2014–05
  15. By: M. Vari
    Abstract: This paper shows how interbank market fragmentation disrupts monetary policy implementation. Fragmentation is defined as the situation where some banks are cut from the interbank loan market. The paper incorporates fragmentation in an otherwise standard theoretical model of monetary policy implementation, where profit maximizing banks, subject to reserve requirements, borrow and deposit funds at a central bank. It shows that in the presence of fragmentation, excess liquidity arises endogenously and the interbank rate declines below the central bank main rate. The interbank rate is then unstable. The paper documents that this is what happened in the Euro-Area since 2008. The model is also well suited to analyze unconventional monetary policy measures.
    Keywords: Fragmentation, Excess liquidity, interbank market, TARGET2 imbalances.
    JEL: E42 E43 E52 E58 F32
    Date: 2014
  16. By: Bertola, Giuseppe
    Abstract: "Race-to-the-bottom" deregulation is to be expected when markets operate across the borders of countries that independently choose and enforce labor policies. Less obviously, in pre-crisis EMU reforms of labor market policies were uneven and related to international imbalances. That pattern is readily explained by this paper's model of financial integration between differently capital-abundant countries, within which labor policies benefit individuals with wealth/labor income ratios different from country's aggregate.
    Keywords: policy competition; public choice
    JEL: F36 J08
    Date: 2014–08

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