Recent monetary and financial developments in Europe.

Bagnai, Alberto ; Turcu, Camelia

This symposium is a collection of papers presented at the 16th Annual Conference of the International Network for Economic Research (INFER), held in Pescara, Italy from 29 May to 31 May 2014, in partnership with the Department of Economics at the Gabriele d'Annunzio University, located in Chieti and Pescara, Italy, and the Italian Association for the Study of Economic Asymmetries based in Rome, Italy. It was a successful event, witnessing the participation of 87 delegates from 20 countries, and featuring the stimulating keynote addresses of eminent speakers such as Josef Brada, Gianni De Fraja, Gary Jefferson, Dominick Salvatore, and Mathias Thoenig.

The INFER Annual Conference is a general economic conference, open to every field of the economic discipline, in compliance with INFER's mission to foster pluralism and cross-fertilization among the different specializations and schools of thoughts. The topics covered at the 16th annual conference ranged from financial regulation to household behavior, from spatial economics to economics of gender, and many more. After the conference, we were invited to edit a symposium with papers analyzing the European economy in a comparative perspective. We were glad to accept this invitation, which led to the selection of papers that we briefly present in this introduction.

In order to underline the relevance and timeliness of these papers, it is useful to remind the reader that the debate on the eurozone crisis has recently undergone a crucial shift in perspective. Mainstream economists have eventually conceded that private rather than public debt had been the root cause of the crisis, and that external, rather than fiscal, imbalances should have been monitored to prevent it (Baldwin and Giavazzi, 2015). This view not only had been already expressed by heterodox economists such as Frenkel and Rapetti (2009), Cesaratto and Stirati (2010), and Dejuan et al (2013), but it had also been endorsed in its essence by the most orthodox European institutions. For example, ECB (2011) stressed the role of private debt in the build-up of the crisis, and EU (2011) forcefully pointed out the need to monitor external imbalances and private debt. As a matter of fact, the 'new consensus' on the Eurozone crisis is therefore not completely new, and it is not a consensus either, because its proponents do not take into account a recent body of literature on the role played by the single currency in fostering imbalances and allocative inefficiencies (Fernandez-Villaverde et al, 2013; Ghosh et al, 2014; Gopinath et al, 2015). Yet, the shift away from the formerly prevailing austerity narrative is at any rate a significant step forward in the debate. It allows us to focus on more relevant topics than government 'profligacy' only: the sources of external imbalances, the role of the banking system, the effectiveness of monetary policy transmission, and the reliability of fiscal policy forecasts. These are precisely the issues considered by the papers included in this symposium.

Agniezska Gehringer tackles the issue of Eurozone external imbalances from a fresh perspective, by considering the impact of the sectoral structure of member countries on their current account balances. Her approach finds its theoretical roots in Giavazzi and Spaventa's (2010) analysis of current account sustainability. She develops empirically their model for 20 EU countries by taking into account the distinction between the manufacturing sector as a whole and two service sectors groups disaggregated further on into five categories. Using Pooled OLS as well as an IV methodology, she studies the impact of these sectors' relative weight on the medium-run current account dynamics. Two results stand out; first, an increase in the share of construction over total value added has a large and highly significant negative effect on the current account balance; second, euro adoption has a large and significant negative impact on the current account balance of GIIPS countries (Greece, Ireland, Italy, Portugal, and Spain). When the sectoral and the geographic dimension interact, the adverse effect of the non-tradable, low-productivity construction sector on the current account is significant only in the GIIPS countries. This prompts interesting considerations on whether financial integration in the Eurozone actually did promote sustainable economic growth.

Candida Ferreira investigates the relation between banking performance and per capita income growth in all current EU member states by considering three indicators: a bank market concentration measure, the equity to total asset ratio, and a measure of bank efficiency. The analysis is conducted for the period 1999-2013 using dynamic GMM. While the evidence on market concentration and on efficiency, though insightful, is somewhat mixed, the equity to total asset ratio consistently shows a strong negative impact on per capita income growth. As the author points out, this result confirms that an increase in bank leverage makes more financial resources available to promote economic growth. Yet, at the same time, this raises once more the issue of whether economic growth in the Eurozone has been, at least in part, the result of 'too much finance' (to quote Arcand et al., 2015). The banking crisis that is affecting the Eurozone, and especially Italy, the cradle of the 'austerity tale' (Helgadottir, 2015), provides some insights in this respect.

Aurelien Leroy and Yannick Lucotte deal with yet another aspect of European financial integration--its relation to the effectiveness of monetary policy transmission. This topic became particularly timely with the progressive fulfillment of Krugman's (1998) prophecy that the Eurozone 'will slip inexorably into deflation', and that 'by the time the central bankers finally decide to loosen up, it will be too late'. Draghi (2014a) has blamed financial fragmentation as one of the major challenges to monetary policy in the Eurozone. The authors investigate this fragmentation by examining a number of cyclical and structural determinants of the pass-through from the ECB policy rate to the bank lending rates prevailing in the Eurozone member countries. This is done over the period 2003M1-2013M12, using a panel ECM framework and a panel interaction VAR approach. The degree of competition is shown to have a positive influence on the effectiveness of monetary policy transmission. As the authors point out, the persistence of a low-growth environment intensifies balance sheet stress and undermines the transmission mechanism of monetary policy. In particular, the transmission from the money market to bank lending rates has been deeply affected by the crisis and has led to pass-through heterogeneity in the euro area. The latter remarks suggest the need for a more active role for banking and financial integration and for fiscal policy in promoting the recovery of the Eurozone, as recognized by Draghi (2014b) himself.

Patricia Martins and Leonida Correia raise the issue of whether fiscal forecasts of EU members have provided the correct basis for taking an adequate policy stance. They perform a detailed analysis of the forecasted changes in budget balance and public debt provided by national budgetary plans. The forecast errors are related to a number of variables, ranging from the forecast error for real GDP growth to institutional and political variables, such as political instability, and to the adoption of multiannual budgetary frameworks. The authors study 15 EU members, using panel data models, with country and time fixed effects. Their results, based on several alternative models, suggest new directions in which the domestic institutions could be improved, thus enhancing their compliance with the fiscal targets set out by the stability and growth pact.

As underlined by the articles of this special issue, the recent crisis has strongly called into question the functioning of the EMU and the design of existing economic policies. The presence of persistent heterogeneity within the euro area and the cohesion problems that could have been spotted raise the question of the distribution of gains and of sharing the costs associated with the single currency (Senegas, 2010). The eurozone crisis made clear that European governance mechanisms had to be overhauled. As a result, fiscal policy coordination was strengthened and new rescue instruments were introduced. Moreover, better financial and banking supervision could be implemented further on, taking account of the existing financial and external debt heterogeneities, and of the contribution of countries and financial institutions to the overall risk. This can be related to the European Banking Union framework (Breuss, 2015) that could break the vicious circle of bank failures and public intervention. Further options such as a partial debt pooling in the short run, or more significant long-run measures such as the introduction of a fiscal union or of a political union have also often been mentioned (Melitz and Vori, 1993; De Grauwe, 2006; De Grauwe, 2013; Belke and Gros, 2015). This is in line with the speech delivered recently by Draghi (2015): 'A more complete union in Europe will not only create a more prosperous and resilient euro area economy for its own citizens, but will also be in the best interests of the global economy'. The authors hope the reader will enjoy reading the papers included in this symposium and will find in them suggestions for further research.

doi:10.1057/ces.2016.8; published online 17 March 2016

Acknowledgements

The authors thank Comparative Economic Studies for providing an authoritative outlet to these conference papers. Financial support from the Department of Economics at the Gabriele d'Annunzio University and the Italian Association for the Study of Economic Asymmetries is gratefully acknowledged.

REFERENCES

Arcand, J, Berkes, E and Panizza, U. 2015: Too much finance? Journal of Economic Growth 20(2): 105-148.

Baldwin, R and Giavazzi, F. 2015: The Eurozone Crisis: A Consensus View of the Causes and a Few Possible Solutions, Voxeu.org. 7 September. London: CEPR Press.

Belke, A and Gros, D. 2015: Banking Union as a Shock Absorber. Ruhr Economic Papers 542, RGS Econ: Duisburg-Essen.

Breuss, F. 2015: The crisis in restrospect. In: Badinger, H and Nitch, V (eds). Handbook of Economics of European Integration. Chapter 22. Routledge: Londen.

Cesaratto, S and Stirati, A. 2010: Germany and the European and global crises. International Journal of Political Economy 39(4): 56-86.

De Grauwe, P. 2006: Flaws in the design of the eurosystem? International Finance 9(1): 137-144.

De Grauwe, P. 2013: Design Failures in the Eurozone: Can they be fixed? LEQS Paper 57, London School of Economics: London.

Dejuan, O, Febrero Panos, E and Uxo Gonzalez, J. 2013: Post-keynesian views of the crisis and its remedies. Routledge: London and New York.

Draghi, M. 2014a: Financial Integration and Banking Union. Speech at the Conference for the 20th Anniversary of the Establishment of the European Monetary Institute. Brussels, Belgium, 12 February.

Draghi, M. 2014b: Unemployment in the Euro Area. Speech at the Annual Central Bank Symposium. Jackson Hole, WY, 22 August.

Draghi, M. 2015: Euro area economic outlook, the ECB's monetary policy and current policy challenges. Statement at the thirty-second meeting of the International Monetary and Financial Committee, Lima, 9 October.

ECB. 2011: The financial crisis in the light of the euro area accounts: A flow-of-funds perspective. Monthly Bulletin October.

EU. 2011: Regulation No 1176/2011 of the European Parliament and of the Council on the prevention and correction of macroeconomic imbalances, 16 November.

Fernandez-Villaverde, J, Garicano, L and Santos, T. 2013: Political credit cycles: The case of the eurozone. Journal of Economic Perspectives 27(3): 145-166.

Frenkel, R and Rapetti, M. 2009: A developing country view of the current global crisis: What should not be forgotten and what should be done. Cambridge Journal of Economics 33(4): 685-702.

Ghosh, AR, Qureshi, MS and Tsangarides, CG. 2014: Friedman Redux: External Adjustment and Exchange Rate Flexibility. IMF Working Papers 14/146, International Monetary Fund: Washington.

Giavazzi, F and Spaventa, L. 2010: Why the current account may matter in a monetary union: Lessons from the financial crisis in the Euro area. CEPR Discussion Papers 8008, Centre for Economic Policy Research: London.

Gopinath, G, Kalemli-Ozcan, S, Karabarbounis, L and Villegas-Sanchez, C. 2015: Capital Allocation and Productivity in South Europe. NBER Working Paper No. 21453, National Bureau of Economic Research: Cambridge, MA.

Helgadottir, O. 2015: The bocconi boys go to brussels: Italian economic ideas, professional networks and European austerity. Journal of European Public Policy 23(3): 392-409.

Krugman, P. 1998: The euro: beware what you wish for. Fortune December.

Melitz, J and Vori, S. 1993: National insurance against unevenly distributed shocks in a European monetary union. Recherches Economiques de Louvain/Louvain Economic Review 59(1-2): 81-104.

Senegas, M-A. 2010: La theorie des zones monetaires optimales au regard de l'euro: Quels enseignements apres dix annees d'union economique et monetaire en Europe? Revue d'economie politique 120(2): 379-419.