nep-eec New Economics Papers
on European Economics
Issue of 2019‒09‒09
ten papers chosen by
Giuseppe Marotta
Università degli Studi di Modena e Reggio Emilia

  1. Trade and Capital Flows: Substitutes or Complements? An Empirical Investigation By Belke, Ansgar H.; Domnick, Clemens
  2. Taking stock of the functioning of the EU fiscal rules and options for reform By Kamps, Christophe; Leiner-Killinger, Nadine
  3. On the Effects of the ECB’s Funding Policies on Bank Lending and the Demand for the Euro as an International Reserve By Heather D. Gibson; Stephen G. Hall; Pavlos Petroulas; George S. Tavlas
  4. On the stability of Stock-bond comovements across market conditions in the Eurozone periphery By Thomas J.Flavin; Dolores Lagoa-Varela
  5. Interest Rate Bands of Inaction and Play-Hysteresis in Domestic Investment: Evidence for the Euro Area By Belke, Ansgar H.; Frenzel Baudisch, Coletta; Göcke, Matthias
  6. Shocking aspects of monetary policy on income inequality in the euro area By Jérôme Creel
  7. Negative interest rates, excess liquidity and retail deposits: Banks’ reaction to unconventional monetary policy in the euro area By Selva Demiralp; Jens Eisenschmidt; Thomas Vlassopoulos
  8. A Crash Course on the Euro Crisis By Markus K. Bunnermeier; Ricardo Reis
  9. Determinants of Productivity Gap in the European Union: A Multilevel Perspective By Bruno, Randolph Luca; Douarin, Elodie; Korosteleva, Julia; Radosevic, Slavo
  10. The macroeconomic impact of the euro By Akhmadieva, Veronika; Smith, Ron P

  1. By: Belke, Ansgar H. (University of Duisburg-Essen); Domnick, Clemens (University of Duisburg-Essen)
    Abstract: This paper examines the linkages between the trade of goods and financial assets. Do both flows behave as complements (implying a positive correlation) or as substitutes (negative correlation)? Although a classic topic in international macroeconomics, the empirical evidence has remained relatively scarce so far, in particular for the Euro area where trade and financial imbalance played a prominent role in the build-up of the European sovereign debt crisis. Consequentially, we use a novel dataset, providing estimates for financial flows and its four main categories for 42 countries and covering the period from 2002-2012, to test the so-called trade-finance nexus. Since theoretical models stress that both flows might be influencing each other simultaneously, we introduce a novel time-varying instrumental variable based on capital control restrictions to estimate a causal effect. The results of the gravity regressions support theories that underline the complementarity between exports and capital flows. When testing the trade-finance nexus for different types of capital flows, the estimated coefficient is most pronounced for foreign direct investment, in line with theories stressing informational frictions. Robustness checks in the form of different estimation methods, alternative proxies for capital flows and sample splits confirm the positive relationship. Interestingly, the trade-finance nexus does not differ among countries belonging to the EMU, the European Union or among core and peripheral Euro area countries.
    Keywords: capital flows, economic integration, Heckscher-Ohlin paradigm, interaction between trade integration and capital mobility, trade
    JEL: F14 F15 F21 F41
    Date: 2019–08
  2. By: Kamps, Christophe; Leiner-Killinger, Nadine
    Abstract: This paper reviews developments in fiscal rules in the European Union (EU) from the entering into force of the Treaty on European Union (the “Maastricht Treaty”), which laid the foundations for the euro, until today. It seems safe to say that fiscal positions in the EU and the euro area are now more favourable than they would have been in the absence of the Maastricht Treaty and the Stability and Growth Pact (SGP). However, the aggregate picture masks significant cross-country heterogeneity, with less progress where it would be needed most. Furthermore, the design of the rules has not always followed economic logic and has often been the product of political constraints, giving rise to some flaws in the framework from the outset. Repeated attempts to adjust the fiscal framework to a multitude of circumstances over the past 25 years have made it overly complex and incoherent. The paper concludes that, in its current shape, the SGP is an insufficient disciplining device in economic good times, with the consequence that there are no fiscal buffers, particularly in high-debt countries, to support growth in economic troughs. This, together with the absence of a central fiscal stabilisation instrument, puts the burden of stabilisation mostly on the single monetary policy. The paper also reviews reform options on how to render the fiscal framework more effective in bringing about sounder public finances and avoiding the procyclicality observed over the past two decades. JEL Classification: H11, H50, H6
    Keywords: Economic and Monetary Union (EMU), fiscal rules, Stability and Growth Pact (SGP)
    Date: 2019–08
  3. By: Heather D. Gibson (Bank of Greece); Stephen G. Hall (University of Leicester, Bank of Greece and University of Pretoria); Pavlos Petroulas (Bank of Greece); George S. Tavlas (Bank of Greece and University of Leicester)
    Abstract: The euro-area financial crisis that erupted in 2009 was marked by negative confidence effects that had both domestic and international ramifications. Domestically, bank lending declined sharply. Internationally, the demand for the euro as a reserve currency fell precipitously. We investigate the effects of ECB policies on banks’ lending, taking account of national and regional spillovers. We also assess the effects of ECB policies on euro reserve holdings. The results suggest that those policies were important for rebuilding confidence, thus supporting both bank lending and the use of the euro as a reserve asset.
    Keywords: euro area financial crisis, monetary policy operations, European banks, spatial panel model
    JEL: E3 G01 G14 G21
    Date: 2019–08–08
  4. By: Thomas J.Flavin (Economics, National University of Ireland, Maynooth); Dolores Lagoa-Varela (Universidade da Coruña, Spain)
    Abstract: We analyze the relationship between returns on equity and long-term government bonds in the crisis-hit Eurozone peripheral economies. In particular, we are interested in the stability of the relationship across differing market conditions and if long-term bonds act as a safe haven for equity investors during periods of financial distress. Employing a Markov-switching vector autoregression model with three regimes, we find that the stock-bond relationship varies across market conditions and across countries. Overall we observe increased comovement during the crisis regimes at the market level, with the relationship between the financial sectors and the domestic sovereign bond being its most important driver across countries.
    Keywords: : Stock-bond relationship; Eurozone peripheral countries; financial crisis; safe haven.
    JEL: G01 G11 C32
    Date: 2019
  5. By: Belke, Ansgar H. (University of Duisburg-Essen); Frenzel Baudisch, Coletta (Justus Liebig University, Giessen); Göcke, Matthias
    Abstract: The interest rate represents an important monetary policy tool to steer investment in order to reach price stability. Therefore, implications of the exact form and magnitude of the interest rate-investment nexus for the European Central Bank's effectiveness in a low interest rate environment gain center stage. We first present a theoretical framework of the hysteretic impact of changes in the interest rate on macroeconomic investment under certainty and under uncertainty to investigate whether uncertainty over future interest rates in the Euro area hampers monetary policy transmission. In this non-linear model, strong reactions in investment activity occur as soon as changes of the interest rate exceed a zone of inaction, that we call 'play' area. Second, we apply an algorithm describing path-dependent play-hysteresis to estimate investment hysteresis using data on domestic investment and interest rates on corporate loans for 5 countries of the Euro area in the period ranging from 2001Q1 to 2018Q1. We find hysteretic effects of interest rate changes on investment in most countries. However, their shape and magnitude differ widely across countries which poses a challenge for a unified monetary policy. By introducing uncertainty into the regressions, the results do not change much which may be due to the interest rate implicitly incorporating uncertainty effects in investment decisions, e.g. by risk premia.
    Keywords: European Central Bank, interest rate, investment, monetary policy, non-ideal relay, path-dependence, play-hysteresis, uncertainty
    JEL: C32 E44 E49 E52 F21
    Date: 2019–08
  6. By: Jérôme Creel (Observatoire français des conjonctures économiques)
    Abstract: This paper examines the distributional effects of monetary policy, either standard, nonstandard or both, on income inequality in 10 EA countries over the period 2000-2015. We use three different indicators of income inequality in a Panel VAR setting in order to estimate IRFs of inequality to a monetary policy shock. Results suggest that: (i) the distributional effects of ECB’s monetary policy have been modest and (ii) mainly driven in times of conventional monetary policy measures, especially in peripheral countries, while, overall, (iii) standard and non-standard monetary policies do not significantly differ in terms of impact on income inequality.terms of impact on income inequality.
    Keywords: Euro area; Monetary policy; Income distribution; Panel Var
    JEL: E62 E64 D63
    Date: 2019–09
  7. By: Selva Demiralp (Koç University); Jens Eisenschmidt (European Central Bank); Thomas Vlassopoulos (European Central Bank)
    Abstract: Negative interest rate policy (NIRP) is associated with a particular friction. The remuneration of banks´ retail deposits tends to be floored at zero, which limits the typical transmission of policy rate cuts to bank funding costs. We investigate whether this friction affects banks’ reactions under NIRP compared to a standard rate cut in the euro area. We argue that reliance on retail deposit funding and the level of excess liquidity holdings may increase banks’ responsiveness to NIRP. We find evidence that banks highly exposed to NIRP tend to grant more loans. This confirms studies pointing to higher risk taking by banks under NIRP and contrasts results that associate NIRP with a contraction in bank loans. Broader coverage of our loan data and the explicit consideration of banks’ excess liquidity holdings are likely reasons for this different result compared to some earlier literature. We are the first to document the importance of banks’ excess liquidity holdings for the effectiveness of NIRP, pointing to a strong complementarity of NIRP with central bank liquidity injections, e.g. via asset purchases.
    Keywords: Negative rates, bank balance sheets, monetary transmission mechanism
    JEL: E43 E52 G11 G21
    Date: 2019–09
  8. By: Markus K. Bunnermeier (Princeton University); Ricardo Reis (London School of Economics; Centre for Macroeconomics (CFM))
    Abstract: The financial crises of the last twenty years brought new economic concepts into classroom discussions. This article introduces undergraduate students and teachers to seven of these models: (i) misallocation of capital inflows, (ii) modern and shadow banks, (iii) strategic complementarities and amplification, (iv) debt contracts and the distinction between solvency and liquidity, (v) the diabolic loop, (vi) regional flights to safety, and (vii) unconventional monetary policy. We apply each of them to provide a full account of the euro crisis of 2010-12.Length: 51 pages
    Date: 2019–08
  9. By: Bruno, Randolph Luca (University College London); Douarin, Elodie (University College London); Korosteleva, Julia (University College London); Radosevic, Slavo (University College London)
    Abstract: The paper explores the determinants of productivity gap within the European Union in four industrial manufacturing sectors (computers, chemicals, basic metals and food) of strong macroeconomic significance and varied 'Research and Development' (R&D) intensity. Our analysis reveals that some of the most important factors determining productivity gap across the EU are related to technology gap variables - R&D intensity and R&D embedded in purchased equipment and machinery - and how they interact. While the signs for both R&D and embedded R&D are as expected and our results emphasise the relevance of technology for closing the productivity gap, this is not the case with the interaction between these two variables. The estimates for the interaction terms are indeed very significant and consistently negative in three out of four sectors. This negative relationship suggests that there is no complementarity between these two modes of technology acquisition - R&D and embedded R&D investments - which are however each separately crucial for catching up. In policy terms, this situation suggests that there is a lack of coordination between R&D policy and technology transfer (FDI, trade and industrial policy). Given that, our results also show a widening productivity gap between the countries of the EU periphery (South and East) and the rest of the sample.
    Keywords: productivity, technology gap, multilevel analysis, European Union
    JEL: L60 O33
    Date: 2019–08
  10. By: Akhmadieva, Veronika (Birkbeck, University of London); Smith, Ron P (Birkbeck, University of London)
    Abstract: This paper examines whether the establishment of the euro caused structural breaks in the main macroeconomic relationships of member countries. It compares eight original members of the common currency with four European countries that did not join. The analysis constructs counterfactuals using both single equation models and a six equation vector autoregression with foreign exogenous variables, VARX*, explaining output, inflation, equity prices, exchange rates and short and long interest rates. It considers which equations changed the most and the most likely dates for any structural break.
    Keywords: euro, structural-breaks, GVAR
    JEL: C5 E5 F4
    Date: 2019–08

This nep-eec issue is ©2019 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.