nep-eec New Economics Papers
on European Economics
Issue of 2016‒07‒09
seventeen papers chosen by
Giuseppe Marotta
Università degli Studi di Modena e Reggio Emilia

  1. The impact of the Great Recession on the European Union countries By Jesus Ferreiro; Catalina Galvez; Carmen Gomez; Ana Gonzalez
  2. The effectiveness of the European Central Bank’s Asset Purchase Programme By Maria Demertzis; Guntram B. Wolff
  3. Leading indicator properties of corporate bond spreads, excess bond premia and lending spreads in the euro area By Krylova, Elizaveta
  4. "From Antigrowth Bias to Quantitative Easing: The ECB's Belated Conversion?" By Jorg Bibow
  5. The effects of competitiveness on trade balance: The case of Southern Europe By Bajo Rubio, Oscar; Berke, Burcu; Esteve García, Vicente
  6. Euro currency risk and the geography of debt flows to peripheral European monetary union members By Ersal-Kiziler,Eylem; Nguyen,Ha Minh
  7. An analysis of the determinants of the impact of the Great Recession on the Eurozone countries By Carlos A. Carrasco; Jesus Ferreiro
  8. De facto exchange-rate regimes in Central and Eastern European Countries By Simón Sosvilla Rivero; Maria del Carmen Ramos Herrera
  9. Intraday Dynamics of Euro Area Sovereign Credit Risk Contagion By Lubos Komarek; Kristyna Ters; Jorg Urban
  10. How to explain errors in budget balance forecasts in euro area countries? Empirical evidence based on real-time data By Paloviita, Maritta; Ikonen, Pasi
  11. Measuring the natural rate of interest: International trends and determinants By Holston, Kathryn; Laubach, Thomas; Williams, John C.
  12. Flexibility versus stability. A difficult trade-off in the Eurozone By De Grauwe, Paul; Ji, Yuemei
  13. The potential role of Sovereign Wealth Funds in the context of the EU crisis By Lefteris Tserkezis; Christos N.Pitelis
  14. Capital markets union in Europe: Why other unions must lead the way By Acharya, Viral V.; Steffen, Sascha
  17. Does migration affect tax revenue in Europe? By Liliana Harding; Mihai Mutascu

  1. By: Jesus Ferreiro (Department of Applied Economics V, University of the Basque Country UPV/EHU); Catalina Galvez (Department of Applied Economics V, University of the Basque Country UPV/EHU); Carmen Gomez (Department of Applied Economics V, University of the Basque Country UPV/EHU); Ana Gonzalez (Department of Applied Economics V, University of the Basque Country UPV/EHU)
    Abstract: Although the Great Recession has been a global phenomenon affecting most developed (and emerging) economies, in the case of the European Union (EU), there are significant differences among EU individual countries and among EU groups of countries, like euro and non-euro countries regarding the depth and duration of the crisis. The paper analyses the effects of the economic and financial crisis on a set of seventeen economic and financial variables, comparing the economic performance of the EU economies before and after the onset of the crisis. The analysis confirms the hypotheses, first, of the existence of significant differences on the performance during the crisis of the EU economies, and, second, that the EU economies most affected by the crisis have been the euro countries, mainly those that join the euro after 1999. In this sense, and focusing on the Eurozone, the paper shows a rising divergence in the macroeconomic performance of euro countries, a divergence process that has been amplified during the Great Recession.
    Keywords: Great Recession, economic and financial crisis, Great Recession, European Union, Eurozone, convergence macroeconomic imbalances
    JEL: C22 O52 O57 P52
    Date: 2016–01–30
  2. By: Maria Demertzis; Guntram B. Wolff
    Abstract: The general macroeconomic situation and weak inflation dynamics justified quantitative easing (QE) in the euro area. Doubts have emerged about its effectiveness as inflation has remained weak. However, we do not know where inflation would have been without QE and the still large slack in the economy suggests that inflation might increase only in a few years. Two major channels through which QE operates are visible - a weaker exchange rate and lower long-term yields. Lending, investment and housing have somewhat increased. However, banks have not shed sovereign debt from their balance sheets at a significant scale. Bank profitability is squeezed by QE but we do not see a generalised financial stability risk as credit creation remains meager. Further monetary policy action is unlikely to generate strong benefits. It is important that other government action supports the ECB in achieving its goals. Executive summary For full references and footnotes, please see the PDF version of this publication. Central banks resort to quantitative easing when the normal monetary policy tool of lowering the short-term interest rate is constrained. This constraint typically arises from the zero-lower bound, ie the reluctance to cut nominal rates below zero. This can result in a real interest rate that, while negative, is still too high for an economy to quickly find its way back to full employment and equilibrium. Many indicators such as the low inflation rate, high unemployment rates, the current account surplus and high savings compared to weak investment suggest that the euro area is in such a situation. Quantitative easing attempts to address this situation through three different channels - lowering long-term interest rates to improve investment conditions and disincentivise savings (interest rate channel); purchasing relatively safe long-term assets thereby driving investors into riskier investments (portfolio rebalancing channel); and weakening the exchange rate (exchange rate channel). The main criticisms of the European Central Bank’s sovereign QE programme are that it is (i) unlawful in a monetary union without a joint treasury; (ii) ineffective and/or unnecessary; and (iii) associated with negative side effects in terms of financial stability and inequality. The design of the programme has dealt with the first criticism. This briefing focuses on the second criticism. We argue that the ECB’s QE programme is necessary given the general macroeconomic situation and the continuing weak inflation dynamics in the euro area. But the continuously weak inflation dynamics have raised doubts about its effectiveness. Assessing the effectiveness of QE is difficult without a counter-factual, but we show that QE had a strong effect on the exchange rate channel, weakening the euro-dollar exchange rate substantially. We also show that long-term interest rates fell substantially in anticipation of the programme. In relation to portfolio rebalancing, we show that banks have not shed sovereign debt from their balance sheets at a significant scale so the purchases have been from different parties. We show that investment has picked up slightly, housing markets in some countries have gained strength but credit creation is only slightly increasing. Finally, we show that the expansion of the ECB’s Public Sector Purchase Programme in March 2016 has had no visible effect on any variable. We document that QE has reduced the profitability of banks by narrowing their margins. The recent corporate QE, while lowering corporate yields, is further reducing margins for banks. We argue that further monetary policy measures are unlikely to bring strong benefits. One sensible avenue for monetary policy could be to enact the sovereign bond purchases from banks in order to reduce the exposure of banks to sovereign debt. More important, however, is government action. In particular, reducing the debt overhang, tackling banking fragilities and introducing reforms to create new business opportunities and fiscal measures in countries with fiscal space would help speed the recovery and increase inflation. 1 Introduction The decision to start quantitative easing in the euro area has been highly controversial. After a long period of deliberation, the European Central Bank decided in January 2015 on a sovereign QE programme that was implemented from March 2015 with monthly purchases of €44 billion. The amount purchased was increased in March 2016. The controversy over QE now is less about whether the ECB is empowered to use a monetary policy instrument that most central banks in advanced economies have used. It is rather about whether QE is effective as a tool to increase inflation to the target. In addition, there is increasing concern that QE and other non-conventional monetary policy measures produce unintended consequences in terms of financial instability or in terms of wealth inequality. Central banks resort to QE when the nominal short-term interest rate falls to zero.
    Date: 2016–06
  3. By: Krylova, Elizaveta
    Abstract: This paper analyses leading indicator properties of a broad set of credit spreads, compiled on the basis of information from both corporate bonds and bank loans for forecasting of real activity, unemployment, inflation and lending volumes in the euro area and in five major European economies. It also introduces a set of indicators for excess bond premia, adjusting corporate bond spreads for credit risk of the issuer and the term, coupon and liquidity premia. I find that the majority of macroeconomic indicators can be better predicted by the excess bond premia compared to non-adjusted indices; the rating-adjustment and time-varying parameter estimates seem to be particularly important. Although the predictive power of lending spreads is inferior to the predictive power of the excess bond premia, the forecasting performance of models which use the information from both lending and corporate bond spreads is always superior to models using only information from one source of external funding. JEL Classification: G12, C21, C22, E37, E44
    Keywords: credit risk, excess bond return, forecasting
    Date: 2016–06
  4. By: Jorg Bibow
    Abstract: This paper investigates the European Central Bank's (ECB) monetary policies. It identifies an antigrowth bias in the bank's monetary policy approach: the ECB is quick to hike, but slow to ease. Similarly, while other players and institutional deficiencies share responsibility for the euro's failure, the bank has generally done "too little, too late" with regard to managing the euro crisis, preventing protracted stagnation, and containing deflation threats. The bank remains attached to the euro area's official competitive wage-repression strategy, which is in conflict with the ECB's price stability mandate and undermines its more recent, unconventional monetary policy initiatives designed to restore price stability. The ECB needs a "Euro Treasury" partner to overcome the euro regime's most serious flaw: the divorce between central bank and treasury institutions.
    Keywords: Central Banking; Monetary Policy; Euro Crisis; Lender of Last Resort; Euro Treasury
    JEL: E30 E42 E52 E58 E61 E65
    Date: 2016–06
  5. By: Bajo Rubio, Oscar; Berke, Burcu; Esteve García, Vicente
    Abstract: According to the conventional wisdom, "peripheral" Southern European countries members of the euro area (Greece, Italy, Portugal, and Spain) suffer from a problem of competitiveness. Since devaluation is not possible because they are part of the euro, the adjustment should come through decreasing wages and prices in these countries, which, by improving the trade balance, should lead to recover the previous levels of employment and growth. In this paper, the authors estimate trade balance equations for the Southern European countries, both for total trade and for the trade performed with the European Union; and taking three alternative measures of the real exchange rate, i.e., based on consumption price indices, export prices and unit labour costs, respectively. Their main conclusion is that demand seems to be more relevant than relative prices when explaining the evolution of the trade balance.
    Keywords: trade balance,real exchange rate,competitiveness
    JEL: F31 F41
    Date: 2016
  6. By: Ersal-Kiziler,Eylem; Nguyen,Ha Minh
    Abstract: The pattern of debt flows to peripheral European Monetary Union members seems puzzling: they are mostly indirect and channeled through the large countries of the European Monetary Union. This paper examines to what extent the introduction of the euro and the elimination of the intra-area currency risk can explain this puzzle. A three-country dynamic stochastic general equilibrium framework with endogenous portfolio choice and two currencies is developed. In the equilibrium, the core members of the European Monetary Union emerge as the main group of lenders to the peripheral European Monetary Union members. Outside lenders are pushed from the periphery debt markets because of currency risk. The model generates a pattern of debt flows consistent with the data despite the absence of any exogenous frictions or market segmentations.
    Keywords: Currencies and Exchange Rates,Debt Markets,Financial Intermediation,Economic Theory&Research,Emerging Markets
    Date: 2016–06–30
  7. By: Carlos A. Carrasco (Department of Applied Economics V, University of the Basque Country UPV/EHU); Jesus Ferreiro (Department of Applied Economics V, University of the Basque Country UPV/EHU)
    Abstract: Although the financial and economic crisis that erupted in 2008 in the European countries can be considered as a common shock, however its impact on the European economies, in general, and the euro countries, in particular, has been very different. The objective of the paper is to analyze whether these differences are due to the existence and size of the macroeconomic imbalances registered before the crisis or, on the contrary, these differences are explained by intrinsic elements of each country. The paper shows that the impacts of the crisis are closely related with intrinsic features of each country or group of countries, and not only with the expected effects of a common shock to the European Union or the Eurozone member states.
    Keywords: Great Recession, economic and financial crisis, Eurozone, macroeconomic imbalances
    JEL: C22 O52 O57 P52
    Date: 2016–02–20
  8. By: Simón Sosvilla Rivero (Departamento de Economía Cuantitativa, Facultad de Ciencias Económicas y Empresariales, Universidad Complutense de Madrid.); Maria del Carmen Ramos Herrera (Departamento de Economía Cuantitativa, Facultad de Ciencias Económicas y Empresariales, Universidad Complutense de Madrid.)
    Abstract: This paper attempts to identify implicit exchange rate regimes for currencies of new European Union (EU) countries vis-à-vis the euro. To that end, we apply three sequential procedures that consider the dynamics of exchange rates to data covering the period from 1999:01 to 2012:12. Our results would suggest that implicit bands have existed in many sub-periods for almost all currencies under study. This paper provides new empirical evidence that strengthens the hypothesis of that the implemented policies differ from those announced by the monetary authorities, identifying the existence of de facto fixed monetary systems along large number of sub-periods for different currencies.
    Keywords: Exchange-rate regimes; Implicit fluctuation bands; Exchange rates.
    Date: 2015
  9. By: Lubos Komarek; Kristyna Ters; Jorg Urban
    Abstract: We examine the role of the CDS and bond markets during and before the recent euro area sovereign debt crisis as transmission channels for credit risk contagion between sovereign entities. We analyse an intraday dataset for GIIPS countries as well as Germany, France and central European countries. Our findings suggest that, prior to the crisis, the CDS and bond markets were similarly important in the transmission of financial shock contagion, but that the importance of the bond market waned during the crisis. We find flight-to-safety effects during the crisis in the German bond market that are not present in the pre-crisis sample. Our estimated sovereign risk contagion was greater during the crisis, with an average timeline of one to two hours in GIIPS countries. By using an exogenous macroeconomic news shock, we can show that, during the crisis period, increased credit risk was not related to economic fundamentals. Further, we find that central European countries were not affected by sovereign credit risk contagion, independent of their debt level and currency.
    Keywords: Contagion, credit default swaps, panel VAR, sovereign credit risk, sovereign debt crisis, spillover
    JEL: E44 G12 G14 G15
    Date: 2016–06
  10. By: Paloviita, Maritta; Ikonen, Pasi
    Abstract: The aim of this study is to explore budget planning in the euro area countries in 2004-2014. Our analyses are based on annual real-time data from the IMF World Economic Outlook publications. As forecasts made by different institutions are strongly correlated, our dataset reasonably reflects information available for policy makers in real-time. We examine whether real-time forecasts of overall budget balance, real GDP growth and output gap have been systematically biased. We also analyse forecast accuracy of potential output growth, which we construct using different vintages of real-time data. Our results indicate systematic biases in forecasts. Further, we study how real-time macroeconomic conditions affect budget planning. For comparison, we also consider how ex post economic conditions and ex post budget balance developments are related. We find robust evidence of mean reversion in budget balances, in both real-time and revised data. Mean reversion is related only to negative budget balances, and it is systematically stronger with respect to revised information. Finally, we analyse errors in budget balance forecasts. We provide robust evidence that revisions to current budget balance have contributed to errors in budget balance forecasts. We also find that forecasted macroeconomic conditions (potential output growth and real GDP growth) and their revisions have affected errors in budget balance forecasts. Overall, our results indicate that real-time uncertainty and revisions materially affect budget planning.
    Keywords: fiscal policy, real-time data, economic crisis
    JEL: E62 E32
    Date: 2016–06–17
  11. By: Holston, Kathryn (Board of Governors of the Federal Reserve System); Laubach, Thomas (Board of Governors of the Federal Reserve System); Williams, John C. (Federal Reserve Bank of San Francisco)
    Abstract: U.S. estimates of the natural rate of interest—the real short-term interest rate that would prevail absent transitory disturbances—have declined dramatically since the start of the global financial crisis. For example, estimates using the Laubach-Williams (2003) model indicate the natural rate in the United States fell to close to zero during the crisis and has remained there through the end of 2015. Explanations for this decline include shifts in demographics, a slowdown in trend productivity growth, and global factors affecting real interest rates. This paper applies the Laubach-Williams methodology to the United States and three other advanced economies—Canada, the Euro Area, and the United Kingdom. We find that large declines in trend GDP growth and natural rates of interest have occurred over the past 25 years in all four economies. These country-by-country estimates are found to display a substantial amount of comovement over time, suggesting an important role for global factors in shaping trend growth and natural rates of interest.
    JEL: C24 E43 E52 O40
    Date: 2016–06–20
  12. By: De Grauwe, Paul; Ji, Yuemei
    Abstract: The optimal currency areas (OCA) theory has been influential in pushing eurozone countries towards structural reforms to make product and labour markets more flexible. The underlying assumption of the OCA prescription for structural reform is that asymmetric shocks are permanent. However, when shocks are temporary it does not follow that more flexibility is the answer. When shocks are the result of business cycle movements, the way to deal with them is by stabilisation efforts. We provide empirical evidence that suggests that the biggest shocks in the eurozone were the result of business cycle movements. These were relatively well synchronised, except for their amplitude. We argue that efforts to stabilise the business cycles should be strengthened relative to the efforts that have been made to impose structural reforms, and consider the implications for the governance of the eurozone.
    Keywords: Business Cycles; optimal currency areas; Structural reforms
    Date: 2016–07
  13. By: Lefteris Tserkezis (National & Kapodistrian University of Athens); Christos N.Pitelis (National & Kapodistrian University of Athens, and University of Brunel)
    Abstract: The present study constitutes an inquiry into potential sources of funding for euro zone member states in the context of the present crisis and the role that they could play in overcoming it. Specifically, it emphasizes on the refinancing needs of Southern European member states over the following decade taking into account both the maturity profile of these nations’ debt and the relationship between short-term and long-term securities. On the side of the possible funding sources, emphasis is given on Sovereign Wealth Funds (SWF) and on their capacity to assist indebted European nations mainly through bond purchases, but also through other means like private equity or acquisitions. The ensuing relationship between Euro zone member states and SWF is analyzed both on purely economic and on political grounds, the analysis starting from the respective motives of both aforementioned sides, so that the possibility of an intervention by SWF in European debt markets can be properly assessed and its potential impact estimated.
    Keywords: Sovereign Wealth Funds, EU crisis
    Date: 2015–11–30
  14. By: Acharya, Viral V.; Steffen, Sascha
    Abstract: In 2016, the Eurozone is still coping with the consequences of two financial crises that revealed the shortcomings of an incomplete monetary union. The European economy suffered two severe recessions and a sustainable growth path is still elusive. Risks in the banking system and a severe banking sector debt-overhang played a major role in both crises as Eurozone firms are heavily reliant on bank financing. To foster economic growth in the Eurozone, the European Commission suggested the creation of a capital markets union, in which local capital markets are developed further and integrated across borders as alternative sources for corporate finance. In this paper, we argue that a capital markets union cannot work without a banking union and fiscal union in place.
    Date: 2016
  15. By: Mario Tonveronachi (Ragnar Nurkse School of Innovation and Governance, Tallinn University of Technology)
    Abstract: Europe is at a critical crossroads for the evolution of its overall political and institutional design. Its founding goal, the creation of the internal single market, is consistent neither with the existing setup, nor with the direction recently impressed to that evolution. The inconsistency between the fiscal, monetary and financial regulatory framework and the construction of the single market cannot be solved by reforming the EU treaties simply because there is no agreement on the new design. Following Minsky’s analysis, we single out the weaknesses and fragilities of that framework when the heterogeneous reality of the EU is taken into account. While constraints on fiscal and monetary reforms derive from the existing treaties, for financial regulation they come from mixing the international approach, which makes financial stability dependent on the financial morphology freely determined by financial markets, with the belief that the EU integration will come from the operation of private interests. We show that the current approach to financial regulation fails on both regards. Complying with the existing EU treaties, we propose a reform of ECB operations that would create the single financial market, at least for the euro area, and allow a reform of the existing fiscal rules capable of converting the current deflationary stance into a reflationary one. To complete the strengthening of the systemic cushions of safety, following the Minskyan approach a radical reform of financial regulation is presented that would combine higher financial resilience with finance more closely serving national economies. The three reforms would critically contribute to the consistency of the euro area design and make its membership attractive for the non-euro EU countries that currently strongly oppose entering into it, at least for those that do not want to go on playing the inshore-offshore game.
    Keywords: EU, Euro Area, ECB, fiscal rules, monetary policy, financial regulation
    JEL: E58 E61 G18 F02 F45 G18
    Date: 2016–01–30
  16. By: Elisabetta Montanaro (Ragnar Nurkse School of Innovation and Governance, Tallinn University of Technology)
    Abstract: The post-crisis political and theoretical developments have produced a profound reappraisal of central banks’ mandate in achieving and maintaining financial stability. This evolution has had important consequences for the institutional architecture of financial supervision and for the role assigned to central banks within it. The paper aims to analyse the rationale of this evolution and to what extent it has characterised the reforms introduced by EU countries after the crisis. The empirical analysis confirms the wider mandate for financial stability given to EU central banks, mainly in those countries whose structural vulnerabilities arise from high degree of financialisation. The reforms associated to this process always result from political choices: in this respect, the different path towards the new architecture, which has characterised the UK and Germany can be taken as the two most interesting cases. They show the complex interactions between political pressure, resistance and ambitions of the various existing authorities, and the country’s heritage, which characterise every stage of institutional reform, especially where significant supervisory failures have been found.
    Keywords: models of financial supervision; twin-peaks; central banks; financial reforms; Bank of England; Bundesbank; EU countries
    JEL: E58 G01 G28
    Date: 2016–01–30
  17. By: Liliana Harding (University of East Anglia); Mihai Mutascu (West University of Timisoara)
    Abstract: This paper analyses the effects of migration on per capita collected tax revenues. The panel data used includes 25 European Union (EU) countries and covers the period 1996-2010. The research contributes to the debate linking migration and tax, and finds evidence that net migration is a significant factor explaining tax revenues. In the case of EU countries, net migration accelerates to some extent the rise in collected tax, and strongly impacts on the level of tax revenues available per capita.
    Keywords: migration, tax payment, government revenue, European Union
    JEL: H20 F22 C23
    Date: 2016–06

This nep-eec issue is ©2016 by Giuseppe Marotta. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.