nep-eec New Economics Papers
on European Economics
Issue of 2017‒07‒16
fifteen papers chosen by
Giuseppe Marotta
Università degli Studi di Modena e Reggio Emilia

  1. Should euro area countries cut taxes on labour or capital in order to boost their growth? By B. Castelletti-Font; P. Clerc; M. Lemoine
  2. What is Driving Inflation and GDP in a Small European Economy: The Case of Croatia By Goran Jovičić; Davor Kunovac
  3. On the seemingly incompleteness of exchange rate pass-through to import prices: Do globalization and/or regional trade matter? By Antonia Lopez-Villavicencio; Valérie Mignon
  4. An anatomy of the Spanish current account adjustment: the role of permanent and transitory factors By Moral-Benito, Enrique; Viani, Francesca
  5. Are Covered Bonds Different from Asset Securitization Bonds? By João M. Pinto; Mafalda C. Correia
  6. Accounting for Wealth Inequality Dynamics: Methods, Estimates and Simulations for France (1800-2014) By B. Garbinti; J. Goupille-Lebret; T. Piketty
  7. A macro approach to international bank resolution By Dirk Schoenmaker
  8. Striking a balance: optimal tax policy with labor market duality By Gilbert Mbara; Ryszard Kokoszczynski; Joanna Tyrowicz
  9. Systemic Financial Sector and Sovereign Risks By Xisong Jin; Francisco Nadal De Simone
  10. Institutions and Political Party Systems: The Euro Case By Fernández-Villaverde, Jesús; Santos, Tano
  11. The Macro-Economic Impact of Brexit: Using the CBR Macro-Economic Model of the UK Economy (UKMOD) By Graham Gudgin; Ken Coutts; Neil Gibson; Jordan Buchanan
  12. The discontinuation of the EUR/CHF minimum exchange rate in January 2015: was it expected? By Michael Funke; Julius Loermann; Richhild Moessner
  13. General Equilibrium Effects of Immigration in Germany: Search and Matching Approach By Zainab IFTIKHAR; Anna ZAHARIEVA
  14. The Role of Gravity Models in Estimating the Economic Impact of Brexit By Graham Gudgin; Ken Coutts; Neil Gibson; Jordan Buchanan
  15. Government borrowing cost and budget deficits: is investment spending different? By Jemima Peppel-Srebrny

  1. By: B. Castelletti-Font; P. Clerc; M. Lemoine
    Abstract: The large imbalances within euro area have led to renew interest in tax policies that could reduce labour costs and thus improve competitiveness and growth. In this paper, we consider whether it would be more growth-enhancing for euro area countries to, instead, use capital income tax cuts.To address this issue, we focus on the open-economy dimension and make the simplifying assumption of complete insurance markets. Using a DSGE model calibrated for France within the euro area, we show that the increase in output resulting from tax cuts on capital income would indeed be higher than the increase in output resulting from tax cuts on labour, both in the short and long run. Importantly, the strong response of output to capital income tax cuts appears to be partly explained by the particularly high level of capital income taxes in France. Moreover, such tax cuts would be less efficient if they were expected to be only temporary. Finally, we illustrate our main points through a recent fiscal package implemented in France, which combines labour and capital income tax cuts. After briefly assessing this package, we find that investment and real output would have been more strongly boosted in the medium run if this package had been focused to a larger extent on reductions in capital income taxes.
    Keywords: Fiscal reforms, taxes, government spending, DSGE model.
    JEL: E62 E63 F42
    Date: 2017
  2. By: Goran Jovičić (The Croatian National Bank, Croatia); Davor Kunovac (The Croatian National Bank, Croatia)
    Abstract: In this paper we estimate and identify a small open economy Bayesian VAR model in order to disentangle the contribution of individual domestic, euro area-specific and global shocks to domestic macroeconomic developments. Our identification suggests that foreign (global and euro area - specific) shocks have a large impact on the variability of domestic variables - they account for approximately 40% of variation in GDP growth and around 50% of variation in inflation. Looking at the contribution of individual structural shocks our results emphasize two particular findings. First, low oil prices have played an important role for muted inflation in Croatia during the last two years while, at the same time, domestic real activity has not benefited much. We show how this finding depends crucially on the specific mix of economic shocks underlying the movements in oil prices (demand vs supply shocks). Second, our results suggest that the large-scale asset purchase programme launched by the ECB at the beginning of 2015 resulted in favourable, albeit limited, spillover effects on domestic economy.
    Keywords: Small open economy, BVAR with sign and zero restrictions, Oil prices, ECB monetary policy
    JEL: E30 E10 E50 Q43
    Date: 2017–04
  3. By: Antonia Lopez-Villavicencio; Valérie Mignon
    Abstract: This paper assesses the impact of globalization and regionalization on exchange rate pass-through (ERPT) into import prices in three core eurozone countries. To this end, we consider various indicators of globalization and rely on both aggregated (i.e., country level) and disaggregated (i.e., good level) data. Using quarterly data since 1992, we do not find compelling evidence that global factors cause a structural change in the degree of exchange rate pass-through. Indeed, increased trade openness or lower trade tariffs push up ERPT in some sectors, though results are quite sparse. However, regionalization, defined as a higher proportion of intra-EU imports' share in total imports, reduces the pass-through in a more generalized way. Most importantly, we show that ERPT incompleteness generally observed in the literature is in appearance only and not at play when intra-EU trade is controlled for. Overall, our findings show that ERPT is complete and significant in numerous sectors, meaning that exchange rate changes still exert important pressure on domestic prices.
    Keywords: exchange rate pass-through; import prices; globalization; eurozone.
    JEL: E31 F31 F4 C22
    Date: 2017
  4. By: Moral-Benito, Enrique; Viani, Francesca
    Abstract: This paper aims to identify how much of the recent current account adjustment in Spain can be explained by cyclical factors. For this purpose, we consider a variant of the External Balance Assessment (EBA) methodology with country-specific slopes and intercepts. The resulting residuals are negligible for most countries so that the positive analysis of current account decompositions provides a more informative assessment. According to our findings, around 60% of the 12 pp. adjustment of the Spanish external imbalance over the 2008-2015 period can be explained by transitory factors such as the output gap, the oil balance, and the financial cycle. The remaining 40% is explained by factors such as the cyclically-adjusted fiscal consolidation, population aging, lower growth expectations, or competitiveness gains, which can all be considered as more permanent phenomena.
    Keywords: current account, global imbalances.
    JEL: F21 F32
    Date: 2017–07–08
  5. By: João M. Pinto (Católica Porto Business School, Catholic University of Portugal); Mafalda C. Correia (Faculty of Economics – University of Porto and Sonae Financial Services)
    Abstract: This is the first study comparing the financial characteristics and pricing processes of asset securitization (AS) and covered bonds (CB). Using a sample of 6,191 AS bonds and 11,471 CB issued by Western European banks between January 1, 2000 and October 31, 2012, we find that AS and CB are not priced in integrated bond markets. Our results show that credit spreads are higher for ABS than for public CB in both pre- and crisis periods. Considering bonds backed by mortgages, we only find evidence of CB credit spreads being lower than those of AS bonds during the pre-crisis period. Both AS and CB credit spreads are driven by collateral type, credit rating is the most important pricing factor for AS bonds, and we document that not only specific effects related to issuance, but also macro factors and exogenous events are relevant drivers for CB credit spreads. Furthermore, while the first CB purchase programme led to lower mortgage CB credit spreads, the second programme did not have the ECB’s desired effects. Finally, we find that the ECB’s second programme reduces ABS spreads significantly for tranches issued by non-German banks.
    Keywords: debt pricing; asset securitization; covered bonds; financial crisis; quantitative easing
    JEL: F34 G01 G12 G21 G24
    Date: 2017–06
  6. By: B. Garbinti; J. Goupille-Lebret; T. Piketty
    Abstract: This paper combines different sources and methods (income tax data, inheritance registers, national accounts, wealth surveys) in order to deliver consistent, unified wealth distribution series for France over the 1800-2014 period. We find a large decline of the top 10% wealth share from the 1910s to the 1980s, mostly to the benefit of the middle 40% of the distribution. Since the 1980s-90s, we observe a moderate rise of wealth concentration, with large fluctuations due to asset price movements. In effect, rising inequality in saving rates and rates of return pushes toward rising wealth concentration, in spite of the contradictory effect of housing prices. We develop a simple simulation model highlighting how the combination of unequal saving rates, rates of return and labor earnings leads to large multiplicative effects and high steady-state wealth concentration. Small changes in the key parameters appear to matter a lot for long-run inequality. We discuss the conditions under which rising concentration is likely to continue in the coming decades.
    Keywords: saving rate, steady-state, wealth inequality.
    JEL: D31 E21 N34
    Date: 2017
  7. By: Dirk Schoenmaker
    Abstract: In the aftermath of the Great Financial Crisis, regulators have rushed to strengthen banking supervision and implement bank resolution regimes. While such resolution regimes are welcome as a means to reintroduce market discipline and reduce the reliance on taxpayer-funded bailouts, the effects on the wider banking system have not been properly considered. A macro approach to resolution is also needed, which should consider the contagion effects of bail-in and the continuing need for a fiscal backstop to the financial system. For bail-in to work, it is important that bail-inable bank bonds are largely held outside the banking sector, which is currently not the case. Stricter capital requirements could push them out of the banking system. The organisation of the fiscal backstop is crucial for the stability of the global banking system. Single-point-of-entry resolution of international banks is only possible for the very largest countries or for countries working together, including in terms of sharing the burden of a potential bank bailout. The euro area has adopted the burden-sharing approach in its banking union. This Policy Contribution recommends completing banking union. Other countries have taken a stand-alone approach, which leads to multiple-point-of-entry resolution of international banks headquartered in those countries and contributes to fragmentation of the global banking system.
    Date: 2017–07
  8. By: Gilbert Mbara (Group for Research in Applied Economics (GRAPE)); Ryszard Kokoszczynski (University of Warsaw; Narodowy Bank Polski); Joanna Tyrowicz (Group for Research in Applied Economics (GRAPE); University of Warsaw)
    Abstract: We develop a dynamic general equilibrium model in which firms may evade the employer contribution component of social security taxes by offering some workers "secondary contracts". When calibrated, the model yields estimates of secondary labor market participation consistent with empirical evidence for the EU14 countries and the US. We investigate the optimal mix of the avoidable and unavoidable components of labor taxes and analyze the fiscal and macroeconomic effects of bringing the composition to the welfare optimum. We find that partial labor tax evasion makes tax revenues more elastic, but full tax compliance need not be a welfare enhancing policy mix.
    Keywords: Laffer curve, tax evasion, labor market duality
    JEL: H2 H26 H3 E13 E26 J81
    Date: 2017
  9. By: Xisong Jin; Francisco Nadal De Simone
    Abstract: This study takes a comprehensive approach to systemic risk stemming from Luxembourg’s Other Systemically Important Institutions (OSIIs), from the Global Systemically Important Banks (G-SIBs) to which they belong, from the investment funds sponsored by the OSIIs, from the housing market, from the non-financial corporate sector and from the sovereign. All sectoral balance sheets are integrated and the resulting systemic contingent claims are linked into a stochastic version of the general government balance sheet to gauge their impact on sovereign risk. Explicitly modelling default dependence and capturing the time-varying non-linearities and feedback effects typical of financial markets, the approach evaluates systemic losses and potential public sector costs from contingent liabilities stemming directly or indirectly from the financial sector. Various vulnerability and risk indicators suggest the sovereign is robust to a variety of shocks. The analysis highlights the key role of a sustainable fiscal position for financial stability.
    Keywords: financial stability; sovereign risk; macro-prudential policy; banking sector; investment funds; default probability; non-linearities; generalized dynamic factor model; dynamic copulas
    JEL: C1 E5 F3 G1
    Date: 2017–06
  10. By: Fernández-Villaverde, Jesús; Santos, Tano
    Abstract: This paper argues that institutions and political party systems are simultaneously determined. A large change to the institutional framework, such as the creation of the euro by a group of European countries, will realign -after a transition period- the party system as well. The new political landscape may not be compatible with the institutions that triggered it. To illustrate this point, we study the case of the euro and how the party system has evolved in Southern and Northern European countries in response to it.
    Keywords: euro; Federalism; Party Systems; Political Institutions
    JEL: D72 F30 F40
    Date: 2017–07
  11. By: Graham Gudgin; Ken Coutts; Neil Gibson; Jordan Buchanan
    Abstract: This working paper uses the new CBR macro-economic model of the UK economy to investigate possible futures following the referendum decision to leave the EU. The paper briefly explains why we felt the necessity to build a new model and describes some of its key features. Since Brexit is a unique event with no precedent it is not possible to do a normal forecast in which a few assumptions are made about a limited range of exogenous variables. The best that can be done is to construct scenarios and two are presented here. The difficult part is to decide what scale of adjustment is needed to reflect the likely realities of Brexit. Analysis by HM Treasury of the potential impact of various outcomes for trade outside the EU is examined and found wanting. Instead the actual experience of UK export performance is examined for a long period including both pre- and post- accession years. This suggests a more limited impact of EU membership. While we include a scenario based on Treasury assumptions, a more realistic, although in our view still pessimistic, scenario assumes half of the trade loss of the Treasury. The results are presented through comparing these scenarios with a pre-referendum forecast. In the milder Brexit scenario there is a two per cent loss of GDP by 2025 but little loss of per capita GDP, less unemployment but more inflation. In the more severe, Treasury-based scenario the loss of GDP is nearer five per cent (two per cent for per capita GDP), inflation is higher and the advantage in unemployment less.
    Keywords: Brexit; H M Treasury; macroeconomic policy; fiscal and monetary policy; macroeconomic forecasts; macroeconomic models
    JEL: E12 E17 E27 E37 E47 E66 F17
    Date: 2016–05
  12. By: Michael Funke; Julius Loermann; Richhild Moessner
    Abstract: We derive risk-neutral probability densities for future euro/Swiss franc exchange rates as implied by option prices. We find that the credibility of the Swiss franc floor somewhat decreased as the spot exchange rate approached the lower bound of 1.20 CHF per euro. We also compare the forecasting performance of a random walk benchmark model with an error-correction model (ECM) augmented with option-implied break probabilities of breaching the currency floor. We find some evidence that the augmented ECM has an informational advantage over the random walk when using one-month break probabilities. But we find that one-month option-implied densities cannot predict the entire range of exchange rate realizations.
    Keywords: Swiss franc, forecasting, options, risk-neutral probability densities
    JEL: C53 F31 F37
    Date: 2017–07
  13. By: Zainab IFTIKHAR (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES)); Anna ZAHARIEVA (Center for Mathematical Economics, Bielefeld University)
    Abstract: In this study we develop and calibrate a search and matching model of the German labour market and analyze the impact of recent immigration. Our model has two production sectors (manufacturing and services), two skill groups and two ethnic groups of workers (natives and immigrants). Moreover, we allow for the possibility of self-employment, endogenous price and wage setting and fiscal redistribution policy. We find that search frictions are less important for wages of the low skilled, especially in manufacturing, whereas wages of the high skilled are more sensitive to their outside opportunities. Furthermore, employment chances of immigrant workers are up to four times lower than employment chances of native workers, especially in the high skill segment. Our results show that recent immigration to Germany, including refugees, has a moderate negative effect on the welfare of low skill workers in manufacturing (-0.6%), but all other worker groups are gaining from immigration, with high skill service employees gaining the most (+4.3%). This is because the productivity of high (low) skill workers is increasing (decreasing) and there is a higher demand for services. The overall effect of recent immigration is estimated at +1.6%. Finally, we observe that productive capacities of immigrant workers are underutilized in Germany and a policy implementing equal employment opportunities can generate a welfare gain equal to +0.9% with all worker groups (weakly) gaining due to the redistribution.
    Keywords: search frictions, immigration, general equilibrium, redistribution, welfare
    JEL: J23 J31 J38 J64
    Date: 2016–09–22
  14. By: Graham Gudgin; Ken Coutts; Neil Gibson; Jordan Buchanan
    Abstract: The predictions of the Treasury, OECD and IMF for the long-term impact of Brexit remain influential. They provide an important context for the Brexit negotiations and underpin the belief of Scottish and Irish nationalists that Brexit strengthens their case for independence or Irish unity. Because these predictions have received limited scrutiny they are examined in detail in this paper. The bases of the predictions are similar for each of the three organisations. In each case estimates are made of the impact of Brexit on trade and on foreign direct investment. This is followed by an estimate of the knock-on effect on productivity. The OECD and IMF also include an assessment of the impact of lower migration. The aggregate impact of these factors is then fed into a macro-economic model to obtain a forecast for GDP. Much of the final impact depends on the estimate for trade which, in each case, is assessed using a ‘gravity model’. Because gravity models are inaccessible to the general public, they are explained here in comprehensible terms. In addition the Treasury’s gravity model results are replicated and examined in detail. Our conclusion is that different versions of the model give a range of results and that most versions give a smaller trade impact than that reported by the Treasury, OECD or IMF. In particular, equations which estimate the average impact of EU membership on exports of goods tend to over-predict UK exports to the EU. This implies that the average impact of EU membership applies less to the UK than to the other EU member states. The further implication is that these official predictions of the impact of Brexit are overly pessimistic.
    Keywords: Brexit; Gravity Model; H M Treasury; IMF; Trade: macroeconomic forecasts; OECD
    JEL: C54 E24 E44 H24
    Date: 2017–06
  15. By: Jemima Peppel-Srebrny
    Abstract: Abstract The reasons for and underlying composition of government budget deficits are often disregarded both by the academic literature about the links between fiscal policy and interest rates and by the policy debate about fiscal sustainability. However, we show that, from the perspective of financial markets, not all budget deficits are created equal: bond markets do discriminate between deficits that are the result of higher government current spending and those that stem from higher government investment, penalising the former significantly more than the latter. To do so, we apply a reduced-form regression approach to a panel of 31 OECD economies from 1960 to 2014 with data from the European Commission on the decomposition of the government budget deficit into its current spending, investment spending and revenue components. Quantitatively, based on our preferred specifications, a higher deficit solely due to higher government investment would in fact decrease long-term government bond yields. These findings suggest that austerity policies should focus more on current spending than investment spending and that fiscal rules in individual countries and monetary unions should distinguish budget deficits that are the result of investment from those that are not.
    Keywords: Government budget deficits, government investment, fiscal policy, longterm interest rates, OECD countries
    JEL: E44 E62 H54 H62
    Date: 2017–06–19

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