nep-eec New Economics Papers
on European Economics
Issue of 2019‒06‒24
eleven papers chosen by
Giuseppe Marotta
Università degli Studi di Modena e Reggio Emilia

  1. Peripheral Europe beyond the Troika. Assessing the 'success' of structural reforms in driving the Spanish recovery By Luis Cárdenas; Paloma Villanueva; Ignacio Álvarez; Jorge Uxó
  2. The Bank-Sovereign Loop and Financial Stability in the Euro Area By Langedijk, Sven; Fontana, Alessandro
  3. Is there a zero lower bound? The effects of negative policy rates on banks and firms By Altavilla, Carlo; Burlon, Lorenzo; Giannetti, Mariassunta; Holton, Sarah
  4. Anatomy of a Sovereign Debt Crisis: CDS Spreads and Real-Time Macroeconomic Data By Alessi, Lucia; Balduzzi, Pierluigi; Savona, Roberto
  5. Banks' holdings of risky sovereign bonds in the absence of the nexus: Yield seeking with central bank funding or de-risking? By Frey, Rainer; Weth, Mark
  6. Structual change in times of increasing openness By Claudius Gräbner; Philipp Heimberger; Jakob Kapeller; Bernhard Schütz
  7. The procyclicality of banking: evidence from the euro area By Huizinga, Harry; Laeven, Luc
  8. The distributional effects of conventional monetary policy and quantitative easing: Evidence from an estimated DSGE model By Hohberger, Stefan; Priftis, Romanos; Vogel, Lukas
  9. Reconsidering the natural rate hypothesis By Robert Calvert Jump; Engelbert Stockhammer
  10. Fiscal policy and fiscal fragility: Empirical evidence from the OECD By El-Shagi, Makram; von Schweinitz, Gregor
  11. An analysis of the Eurosystem/ECB projections By Kontogeorgos, Georgios; Lambrias, Kyriacos

  1. By: Luis Cárdenas; Paloma Villanueva; Ignacio Álvarez; Jorge Uxó
    Abstract: Since 2014 the Spanish economy has recovered positive GDP growth, and the country has been growing well above the Eurozone average. This recovery has sparked an academic and political debate concerning the role that structural reforms, prescribed by the 'Troika', have played in peripheral Europe. For certain scholars and institutions, these structural reforms have allowed the market, through greater wage flexibility, to make the necessary adjustments to restore economic growth, resulting in a 'healthy' economic recovery. But, to what extent is this mainstream narrative solidly backed up by the empirical evidence? Can Spain be held up as an international example of the success of these reforms? The aim of this paper is to shed light on this debate. We consider that labor market reforms and wage devaluation policy are not the drivers of economic recovery. Instead, we offer an alternative explanation for recovery based on the theory of demand-led growth.
    Keywords: Spain, demand-led growth, structural reforms, wage devaluation
    JEL: E60 E12 J38
    Date: 2018
  2. By: Langedijk, Sven (European Commission); Fontana, Alessandro (European Insurance and Occupational Pension Authority)
    Abstract: We propose a simple model that captures the link between bank and sovereign credit risk. It allows evaluating policy options to address this ‘doom loop’ in which the government may need to raise debt to recapitalise banks, and an increase in government debt raises sovereign risk and in turn generates potential bank losses via their (sovereign) bond holdings. Hence, an initial shock originating either in the banking or sovereign sector is amplified by the feedback relation. We set up a framework based on detailed actual bank balance sheets and test the model on 35 large EU banking groups, across 7 European countries. The effects of the feedback loops in most cases more than double the effect of the initial shock on bank losses and the sovereign risk premium. We show that a single EU bank resolution mechanism, European Stability Mechanism (ESM) direct bank recapitalisations, and bondholder “bail-in” can be effective to dampen the bank-sovereign loop. Addressing the home bias in banks sovereign bond holdings by reducing excessive exposure to domestic sovereigns has only limited benefit in terms of lower crisis doom loop effects as contagion effects increase.
    Keywords: Credit Risk, Banks, Sovereign, Financial Stability, ESM, Direct Recapitalisation
    JEL: E44 G01 G21 H63 H81
    Date: 2019–05
  3. By: Altavilla, Carlo; Burlon, Lorenzo; Giannetti, Mariassunta; Holton, Sarah
    Abstract: Exploiting confidential data from the euro area, we show that sound banks can pass negative rates on to their corporate depositors without experiencing a contraction in funding. These pass-through effects become stronger as policy rates move deeper into negative territory. Banks offering negative rates provide more credit than other banks suggesting that the transmission mechanism of monetary policy is not hampered. The negative interest rate policy (NIRP) provides further stimulus to the economy through firms’ asset rebalancing. Firms with high current assets linked to banks offering negative rates appear to increase their investment in tangible and intangible assets and to decrease their cash holdings to avoid the costs associated with negative rates. Overall, our results challenge the commonly held view that conventional monetary policy becomes ineffective when policy rates reach the zero lower bound. JEL Classification: E52, E43, G21, D22, D25
    Keywords: corporate channel, lending channel, monetary policy, negative rates
    Date: 2019–06
  4. By: Alessi, Lucia (European Commission – JRC); Balduzzi, Pierluigi (Boston College); Savona, Roberto (Dipartimento di Economia e Management Università degli Studi di Brescia)
    Abstract: We construct a unique and comprehensive data set of 19 real-time daily macroeconomic indicators for 11 Eurozone countries, for the 5/11/2009{4/25/2013 period. We use this new data set to characterize the time-varying dependence of the cross-section of sovereign credit default swap (CDS) spreads on country-specific macro indicators. We employ daily Fama-MacBeth type cross-sectional regressions to produce time-series of macro-sensitivities, which are then used to identify risk regimes and forecast future equity market volatility. We document pronounced time-variation in the macro-sensitivities, consistent with the notion that market participants focused on very different macro indicators at the different times of the crisis. Second, we identify three distinct crisis risk regimes, based on the general level of CDS spreads, the macro-sensitivities, and the GIPSI connotation. Third, we document the predictive power of the macro-sensitivities for future option-implied equity market volatility, consistent with the notion that expected future risk aversion is an important driver of how CDS spreads impound macro information.
    Keywords: Sovereign crises; Real-time data
    JEL: G12
    Date: 2019–02
  5. By: Frey, Rainer; Weth, Mark
    Abstract: For the largest 55 German banks, we detect the presence of countercyclical yield seeking in the form of acquisition of high-yielding periphery bonds in the period from Q1 2008 to Q2 2011. This investment strategy is pursued by banks not subject to a bailout, banks characterised by high capitalisation, banks that rely on short-term wholesale funding, and trading banks. In the subsequent period up to 2014, these banks switched to a procyclical divestment strategy resulting in the sale of risky assets. Following the launch of the public sector purchase programme (PSPP) in 2015, a clear investment pattern can no longer be identified. Unlike existing evidence for banks domiciled in vulnerable countries, we find that the recourse to central bank finance is rather limited and does not affect the risk-taking behaviour of banks in the non-stressed country Germany. Yield-seeking strategies were predominantly pursued by healthy banks in Germany. This contrasts with the increases in domestic sovereign holdings in vulnerable countries which can be primarily regarded as the result of moral suasion or, for weakly capitalised banks, a kind of "indirect" moral suasion or "home-biased" gambling for resurrection.
    Keywords: sovereign-bank nexus,sovereign bond holdings,yield seeking,moral suasion,capital adequacy,expansionary monetary policy,home bias,Sovereign-bank nexus,sovereign bond holdings,yield seeking,moral suasion,capital adequacy,expansionary monetary policy,home bias
    JEL: G11 G21 F34 H81
    Date: 2019
  6. By: Claudius Gräbner; Philipp Heimberger; Jakob Kapeller; Bernhard Schütz
    Abstract: This paper analyzes the dynamics of structural polarization and macroeconomic divergence in the context of European integration, where the latter is understood primarily as an increase in economic and financial openness. In the process of estimating the dynamic effects of such an openness shock on 26 EU countries, we develop a taxonomy of European economies that consists of core, periphery and catching-up countries, as well as financial hubs. We show that these four country groups have responded in a distinct way to the openness shock imposed by European integration and argue that the latter should be seen as an evolutionary process that has given rise to different path-dependent developmental trajectories. These trajectories relate to the sectoral development of European economies and the evolution of their technological capabilities. We propose a set of interrelated policy measures to counteract structural polarization and to promote macroeconomic convergence in Europe.
    Keywords: Europe, path dependency, European integration, economic openness, competitiveness
    Date: 2018
  7. By: Huizinga, Harry; Laeven, Luc
    Abstract: Loan loss provisions in the euro area are negatively related to GDP growth, i.e., they are procyclical. Loan loss provisions tend to be more procyclical at larger and better capitalized banks. The procyclicality of loan loss provisions can explain about two-thirds of the variation of bank capitalization over the business cycle. We estimate that provisioning procyclicality in the euro area is about twice as large as in other advanced economies. This difference reflects a larger procyclicality of provisioning in euro area countries already prior to euro adoption, and the divergent growth experiences of euro area countries following the global financial crisis. JEL Classification: G20
    Keywords: accounting, bank capital, banks, financial regulation, financial stability, loan loss provisioning
    Date: 2019–06
  8. By: Hohberger, Stefan (European Commission – JRC); Priftis, Romanos (Bank of Canada); Vogel, Lukas (European Commission)
    Abstract: This paper compares the distributional effects of conventional monetary policy and quantitative easing (QE) within an estimated open-economy DSGE model of the euro area. The model includes two groups of households: (i) wealthier households, who own financial assets and are able to smooth consumption over time, and (ii) poorer households, who only receive labor and transfer income and live ‘hand to mouth’. We use the model to compare the impact of policy shocks on constructed measures of income and wealth inequality (net disposable income, net asset position, and relative per-capita income). Except for the short term, expansionary conventional policy and QE shocks tend to mitigate income and wealth inequality between the two population groups. In light of the coarse dichotomy of households that abstracts from richer income and wealth dynamics at the individual level, the analysis emphasizes the functional distribution of income.
    Keywords: Bayesian estimation; distributional effects; open-economy DSGE model; portfolio rebalancing; quantitative easing
    JEL: E44 E52 E53 F41
    Date: 2018–12
  9. By: Robert Calvert Jump; Engelbert Stockhammer
    Abstract: The natural rate hypothesis states that there exists an unemployment rate at which inflation is stable, and that this unemployment rate is independent of aggregate demand shocks. The hysteresis hypothesis, in contrast, states that the long run unemployment rate can be affected by aggregate demand shocks. While policy makers have warned of the risk of hysteresis since the 2008 financial crash, hysteresis effects are not incorporated into the macroeconometric models used by policy making institutions. This paper presents Bayesian estimates of hysteresis effects using unobserved components models of the type used by the European Commission and OECD. We demonstrate that the posterior probability of the natural rate hypothesis holding in Germany, France, and the UK is very low, lending empirical support to the hysteresis hypothesis. We suggest that the models used by the European Commission and OECD should be amended to reflect policy makers' views on hysteresis.
    Keywords: Unemployment, Hysteresis, NAIRU, Business Cycles
    JEL: E24 E60 E61
    Date: 2019
  10. By: El-Shagi, Makram; von Schweinitz, Gregor
    Abstract: In this paper, we use local projections to investigate the impact of consolidation shocks on GDP growth, conditional on the fragility of government finances. Based on a database of fiscal plans in OECD countries, we show that spending shocks are less detrimental than tax-based consolidation. In times of fiscal fragility, our results indicate strongly that governments should consolidate through surprise policy changes rather than announcements of consolidation at a later horizon.
    Keywords: fiscal multipliers,fiscal consolidation,local projections
    JEL: E62 H63
    Date: 2019
  11. By: Kontogeorgos, Georgios; Lambrias, Kyriacos
    Abstract: The Eurosystem/ECB staff macroeconomic projection exercises constitute an important input to the ECB's monetary policy. This work marks a thorough analysis of the Eurosystem/ECB projection errors by looking at criteria of optimality and rationality using techniques widely employed in the applied literature of forecast evaluation. In general, the results are encouraging and suggest that Eurosystem/ECB staff projections abide to the main characteristics that constitute them reliable as a policy input. Projections of GDP - up to one year - and inflation are optimal - in the case of inflation they are also rational. A main finding is that GDP forecasts can be substantially improved, especially at long horizons. JEL Classification: C53, E37, E58
    Keywords: Eurosystem/ECB forecasts, forecast errors, forecast evaluation
    Date: 2019–06

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