Euro Area Economies Research Articles

Credit Supply or Demand? The Changing Role of Structural Market Forces in Bank Lending*

ABSTRACT Recent crises have shown that disruptions in credit markets can have serious macroeconomic consequences. This paper aims to assess the structural drivers of the bank lending market to non-financial corporations using the structural VAR methodology in a small, open, and bank-based euro area economy – Slovakia. The results show that credit demand shocks (loans demanded by firms) are at least as important as credit supply shocks (loans supplied by banks) in the lending market, and that this importance changes over the cycle. These findings have important policy implications, as responding to these shocks may require different policy measures.

The Optimal Quantity of CBDC in a Bank-Based Economy

We show that the estimated effect of digital euro news on bank stock valuations and lending depends on the bank’s deposit reliance and the central bank digital currency (CBDC) design features. Using a quantitative DSGE model calibrated to the euro area economy that replicates such evidence, we find that CBDC issuance yields nontrivial welfare trade-offs between, on one side, the positive expansion of liquidity services and the improved stabilization of deposit funding and lending and, on the other side, a negative bank disintermediation effect. The optimal amount of CBDC lies between 15 and 45 percent of quarterly GDP. (JEL E23, E42, E58, F33, G14, G21)

Household Excess Savings and the Transmission of Monetary Policy

Household savings rose above trend in many developed countries after the onset of COVID-19. Given its link to aggregate consumption, the presence of these "excess savings" has raised questions about their implications for the transmission of monetary policy. Using a panel of euro-area economies and high-frequency monetary policy shocks, we document that household excess savings dampen the effects of monetary policy on economic activity and inflation, especially during the pandemic period. To rationalize our empirical findings, we build a New Keynesian model in which households use savings to self-insure against counter-cyclical unemployment and consumption risk.

Measuring the macroprudential policy stance in the euro area with a semi‐structural model

AbstractThis article proposes a methodology for measuring the macroprudential policy stance based on a forward‐looking distance‐to‐tail metric derived from a large‐scale semi‐structural model. The model reflects the dynamics of 89 significant euro area banks and 19 euro area economies and two endogenous amplification mechanisms: the real economy banking sector and solvency funding feedback loops. Our results reveal a slight tightening of the macroprudential policy stance from 2017 to the end of 2019 that partially stemmed from adjusting macroprudential capital buffers and the phase‐in of other systemwide banking sector policies reflecting macroprudential intentions. This trend is abruptly interrupted at the onset of the Covid‐19 pandemic, when pronounced macrofinancial uncertainty led to a substantial increase in tail risks and reappears in 2021. Our assessment also reveals a high degree of co‐movement in macroprudential stances across the euro area countries.

Does one (unconventional) size fit all? Effects of the ECB’s unconventional monetary policies on the euro area economies

This paper assesses the macroeconomic impact of ECB’s unconventional monetary policies (UMPs) in the euro area. We show that: (i) the relevance of the transmission channels has changed over time, with portfolio re-balancing becoming more important than the signalling effect after June 2014; (ii) there exists a substantial heterogeneity in the transmission to core and peripheral economies. By leveraging on these findings, we identify UMP shocks in a time-varying SVAR with “dynamic” restrictions and we quantify the macroeconomic impact of ECB’s measures via counterfactual analyses. We find that, absent those measures between 2014 and 2018, output growth would be on average 0.27 pp lower in peripheral countries, whereas inflation would drop on average by 0.2 pp in core economies.

Towards a European Framework for Fiscal Standards: Data Collection, Description and Institutional Analysis

The fiscal rules of the Stability and Growth Pact have consistently failed to enforce good fiscal governance and contain rising debt ratios across euro area economies. This article illustrates the unsustainable nature of Greek fiscal policy prior to the global financial crisis and argues for the adoption of fiscal standards to improve fiscal policy. This will require a common and transparent framework for debt sustainability analysis. An evaluation of the euro area’s newest member along the lines of sustainable fiscal governance shows that Croatia is in a stronger fiscal position than Greece was after adopting the euro. Moreover, the resilience and crisis management methods of the Eurozone as a whole have improved significantly. To safeguard against future crises and prepare euro area economies for the fiscal strain of ageing populations and climate change, however, the Eurozone needs to transition from fiscal rules to fiscal standards.

Does government spending cointegrate with bank lending? Evidence from Eurozone panel data

PurposeOur purpose is the examination of the effects of fiscal policy on private lending for the Eurozone countries. The emphasis is on the identification of the time path of government spending and bank lending.Design/methodology/approachFiscal policy is a main factor of macroeconomic stability for the euro area economy. This paper, investigates the impact of government spending on bank lending. For this reason, we present a dynamic theoretical model with a perfectly competitive banking sector, estimated using panel cointegration for the Eurozone countries from 2000Q1 to 2022Q2.FindingsOur findings highlight that, in the long run, consistent management of government spending can have a beneficial multiplicative impact on bank lending for housing and business reasons. This finding is stronger in magnitude for business versus housing lending. The high level of homogeneity of our results across Eurozone countries has positive implications for a common fiscal policy in the future. Finally, authorities should know that policy adjustments are quicker in housing lending when compared to business lending.Originality/valueIn this paper, we contribute to the existing literature, concentrating on the investigation of any existence of long-run and short-run relationships between government spending and bank lending. Additionally, our analysis allows one to investigate the contribution of each Eurozone member state in the short-run and long-run model’s dynamics, providing significant outcomes for the implementation of economic policy and the need for fiscal discipline in the Eurozone.

The impact of oil shocks on the stock market

This paper investigates the reaction of real stock returns and their volatility in the three main euro area economies (France, Germany and Italy), the U.K. and the U.S. to oil price changes caused by different shocks in the supply-side and demand-side of the global crude oil market, including the shock on the demand for oil inventories. Our findings suggest that the impact of oil supply and aggregate demand shocks on real stock returns and volatility are not altered when oil inventories are explicitly considered in the modeling of global crude oil market. However, the effects of oil-specific demand shocks on real stock returns are modified by the inclusion of oil inventories in the model, stressing the importance of the uncertainty channel in the link between the oil and stock markets. Finally, oil inventory shocks have a negative impact at medium time horizons on real stock returns, as the surge in the price of oil causes depletion of inventories.

The impact of the heterogenous fiscal policy stance of euro-area member states on ECB monetary policy

This article assesses the influence of the fiscal stance of different euro-area members on the monetary policy actions of the European Central Bank. This issue has increased in relevance due to the widening disparities in the levels of debt across euro-area member states. We utilise a thick modelling approach that includes various GMM model specifications for the five largest euro area economies using quarterly projections data from 2002 to 2022. The findings indicate that the fiscal deficits of different euro area countries did not consistently exert a substantial impact on monetary policymaking. This conclusion holds even after the COVID-19 shock, with projected inflation remaining the most consistently significant indicator.

What Drives House Prices in Europe?

AbstractBoom‐and‐bust cycles in the housing market pose a threat to macroeconomic and financial stability, thus calling for a timely assessment of imbalances. This work sheds light on the drivers of house price dynamics in some euro area economies, investigating the risks of overheating. We show that an Error‐Correction‐Model (ECM) featuring a long‐run relationship between house prices and income and short‐run effects of interest rates and housing supply fits the data well in most cases. We then propose a novel model‐based misalignment indicator and find that extrapolative house price expectations play an important role in the build‐up of speculative bubbles.

Forecasting GDP growth: The economic impact of COVID‐19 pandemic

AbstractThe primary goal of this study is to effectively measure the impact of a severe random shock, such as the COVID‐19 pandemic on aggregate economic activity in Greece, seven other euro area economies, three Scandinavian countries, and the United States. The class of linear and quantile predictive regression models is proposed for the analysis of real gross domestic product (GDP) growth, and a Bayesian approach for model selection is developed, by using a computationally flexible Markov chain Monte Carlo stochastic search algorithm that explores the posterior distribution of linear and quantile models, and identifies the relevant predictor variables. Penalized likelihood regression models are also implemented to tackle the issue of model selection. The model confidence set approach is applied and verifies that the selected models identified by the stochastic search algorithm belong to the set of superior models. Our analysis confirms that the outbreak of the pandemic had a profound effect on the economies under study, and reveals that different predictor variables are able to explain different quantiles of the underlying real GDP growth distribution for analyzed countries, suggesting that the quantile modeling approach improves the ability to adequately explain real GDP series compared with the standard conditional mean approach that explains only the average of the relationship between real GDP growth and several predictor variables.

A methodological framework for exploring SME finance with SAFE data.

Research on small and medium-sized enterprises (SMEs) access to bank finance is vital for the euro area economy. SMEs heavily represent the European business sector, employing around 100 million people and accounting for more than half of the Gross Domestic Product. Research studies in the field often rely on the ECB/EC Survey on the Access to Finance of Enterprises (SAFE). Many studies employ probit or logit models with categorical dependent variables derived from SAFE. The research findings show that hardly any study employs the simpler linear probability model (LPM), with a dominant lack of research providing evidence that justifies the model selection process and suitability. However, it is well known that different econometrics models can lack consistency and frequently yield different results. Yet, the literature has no consensus on the best econometric approach. In addition, there is a lack of robustness tests in the literature to ensure model validity, underlining the need for a comprehensive review of the methodological framework that dominates SAFE data use. This paper addresses the identified research gap by introducing a robust methodological framework that helps researchers identify and choose an appropriate categorical model when using SAFE data. The study adds significant value to the extant literature by identifying four criteria that need to be considered when selecting the appropriate model among three common binary dependent models: LPM, probit and logit models. The findings show that the probit model was appropriate is all cases but that the LPM should not be disregarded, as it can be used in two cases: when considering the interaction between monetary policy and debt to assets and monetary policy and innovation. The use of the LPM is justified as a less complex econometric model, allowing for clearer communication of the results. This innovative, robust approach to choosing the appropriate econometric categorical dependent model when employing SAFE data contributes to support policy effectively.

Current Account Balances’ Divergence in the Euro Area: An Appraisal of the Underlying Forces

Abstract This paper revisits the crucial issue of current account imbalances and focuses on the determinants of their gaps between eurozone Member States. We conduct robust estimations of the current account balances for a panel of ten founding euro area economies and construct a measure that allows us to diagnose why some countries have started to diverge from the eurozone mean in the last two decades. Our findings show evidence of remaining differences in countries’ economic development, meaning that real macroeconomic convergence has failed in the zone. Price and cost competitiveness, as well as fiscal balances, have also participated in this growing macroeconomic divergence. Overall, while the European authorities cannot influence the part of the current account gaps due to demographic factors, the role of fiscal redistribution and investment at the euro area level could help achieve macroeconomic convergence and thus reduce current accounts’ divergence in the zone.

Monetary-fiscal policy relations in the euro area: The impact on the primary balance

With this paper, our objective is to empirically study public debt sustainability by estimating a fiscal reaction function where the primary balance relative to GDP is assumed to be a function of the public debt to GDP ratio of the previous year and of other macroeconomic variables. In particular, we take into account the effects of the lagged real long term interest rate and of the lagged inflation rate on the primary budget of the governments to account for monetary policy influences. We resort to the fixed effects and to the random effects models for a panel of 12 euro area economies from 1996 to 2020. We find statistical evidence for sustainable debt policies and detect that both monetary policy variables are positively correlated with the primary balance to GDP ratio. This holds both for the fixed and for the random effects estimation, when those variables are included simultaneously.

El impacto de los programas de compra de deuda soberana. El diferencial de rentabilidad entre España y Portugal

Rationale Against a backdrop of weaker global and euro area activity, in 2023 to date the Spanish economy has shown notable resilience compared with other European economies. This article aims to illustrate some of the factors explaining this greater strength. Takeaways •The differences between the sectoral composition of the Spanish economy and that of the euro area seem to explain in part the greater buoyancy of activity in Spain. •Spain has less trade exposure to China (whose recent slowdown is one of the main factors behind the global economic slowdown) than the other euro area economies. •The Spanish economy continuing to outperform the euro area over the coming quarters will depend on how lower expected growth in manufacturing is passed-through to services or whether tourism loses momentum.

Euro area inflation linked debt: An evaluation

How would the fiscal burden of Euro area (EA) countries have evolved without the issuance of inflation linked bonds (ILBs)? Could debt management through ILBs have decreased their sovereign debt-to-GDP ratio? By exploiting a new dataset on ILBs and the market value of debt in Germany, France, Italy and Spain in 2014–2022, I calculate the holding period return for investors in both nominal and real debt. Based on the government budget constraint, I conduct simulations that demonstrate the significant first-order effects of debt structure choices. Without ILBs the fiscal burden of the largest EA economies would have decreased by around 1% of GDP but in the case of Italy, it would have increased. Timing was also a relevant factor. Germany effectively controlled the cost of funds by managing its share of real debt, while Spain increased it by issuing ILBs when it was expensive. Slight ILB share adjustments could have alleviated their fiscal burden: Germany by 0.9%, France by 3%, Italy by 7%, and Spain by 1.8%.

Reversal interest rate and macroprudential policy

Could a monetary policy loosening in a low interest rate environment have unintended recessionary effects? Using a non-linear macroeconomic model fitted to the euro area economy, we show that the effectiveness of monetary policy can decline in negative territory until it reaches an endogenous turning point, where monetary policy becomes contractionary. The framework demonstrates that the risk of hitting the rate at which the effect reverses depends on the capitalization of the banking sector. The possibility of the reversal interest rate gives rise to a novel motive for macroprudential policy. We show that macroprudential policy in the form of a countercyclical capital buffer, which prescribes the build-up of buffers in good times, substantially mitigates the probability of encountering the reversal rate and increases the effectiveness of negative interest rate policies. This new motive emphasizes the strategic complementarities between monetary policy and macroprudential policy.

Regime-based debt sustainability analysis: Evidence from euro area economies

This paper empirically studies non-linearities in debt sustainability analysis by resorting to the modern estimation technique of panel smooth transition regression (PSTR). We assess euro area debt sustainability by analysing the reaction of the primary balance to changes in public debt, relative to GDP respectively, in annual frequency from 2000–2019 in a panel framework. The PSTR allows to estimate the existence of a threshold in the behaviour of the reaction function, refrains from the country-wise perspective and applies a regime-switching model to detect non-linearities. Data is segregated into different regimes endogenously via a logistic regression. Our results show that there are two different regimes in the euro area: a high and a low debt regime. The estimated reaction coefficient for the low debt regime is statistically insignificant, whereas it is positive and statistically significant for the high debt regime. Further, for a sub-sample of highly indebted economies we find a statistically significant negative (positive) reaction coefficient for the low (high) debt regime.

Global models for a global pandemic: The impact of COVID-19 on small euro area economies

We analyse the COVID-19 pandemic shock on small open economies (SOEs) in the euro area in a unified modelling framework: the Euro Area and the Global Economy model. We find strong negative international spillovers affecting each of the modelled SOEs, stemming not only from the rest of the euro area, but also from the United States and the rest of the world. A lower bound on nominal interest rates in the euro area amplifies these spillovers, especially within the euro area. Furthermore, we find some positive spillovers from the fiscal measures implemented in the Euro area to combat the pandemic, including the new Next Generation EU instrument.

The Spectre of Financial Dominance in the Eurozone

Differently from previous crises, the European institutions responded promptly to the Covid-19 pandemic by implementing an appropriate policy mix. However, this policy mix has proven to be insufficient for reducing the risks of financial instability in the European Union due to the temporary horizon of the centralised fiscal policy and the persistence of adverse shocks. In fact, the impact of the pandemic was exacerbated by the dramatic consequences of the war in Ukraine. The possible inefficiencies in implementing the Next Generation-EU (NG-EU) and an inadequate response to the Ukraine crisis could trigger, at best, the revival of financial and fiscal dominance in the euro-area economies. However, by using a simple model referred to the post-pandemic and war period, we show that the overburdening of the European Central Bank’s role would come with high costs. Hence, we argue that it is necessary to pursue sustainable development based on the successful implementation of the NG-EU and the related transformation of the one-shot centralised fiscal policy into a recurrent policy tool.