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Can the Euro Hold? Michael A Landesmann. IDEAS Tenth Anniversary Conference, Chennai, 24-26 January 2012. Main Issues. Why has the crisis in the Eurozone escalated that much? Where are we at the moment? Is there a policy master-plan? Is the Euro-zone going to pull through? In which shape? - PowerPoint PPT Presentation
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Wiener Institut für Internationale Wirtschaftsvergleiche
The Vienna Institute for International Economic Studies
www.wiiw.ac.at
IDEAS Tenth Anniversary Conference, Chennai, 24-26 January 2012
Can the Euro Hold?
Michael A Landesmann
Ó wiiw
2
Main Issues
Why has the crisis in the Eurozone escalated that much?
Where are we at the moment? Is there a policy master-plan?
Is the Euro-zone going to pull through? In which shape?
What is the predicament of Europe’s ‘periphery’?
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3
Why has the crisis in the Eurozone escalated that much?
Pronounced developments of external imbalances within the Euro-zone, driven by financial market integration and – mostly – fast private sector debt accumulation
Policy-mechanisms to deal with these imbalances non-existent or in-effective: financial markets insufficiently (and nationally) regulated; real exchange rates diverge persistently driven by capital inflows (interest rate convergence before the crisis); relative price adjustment very slow – hence rebalancing through incomes; no established crisis management mechanism at EU/Euro level (ECB mandate, no pooling of debt responsibility; no fiscal stabilisation function)
Banks very weak; no effective re-capitalisation; implicit liability of states – sovereign debt problem and feed-back processes; national segmentation of responsibility
Fiscal policies, deleveraging and weak banks generate stagnation; sustainability of debt of both private and public sectors judged (by markets) as unresolved
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Portugal
0
50
100
150
200
250
20002001200220032004200520062007200820092010
Spain
0
50
100
150
200
250
20002001200220032004200520062007200820092010
Public and private debt in % of GDP
Greece
020406080
100120140160
20002001200220032004200520062007200820092010
Ireland
0100200300400500600
20002001200220032004200520062007200820092010
Source: wiiw Annual Database incorporating Eurostat statistics.
Public debt Private debt Corporations Banks Households
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Romania
01020304050607080
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Croatia
020406080
100120140160
20002001200220032004200520062007200820092010
Public and private debt in % of GDP
Bulgaria
0
50
100
150
200
2000200120022003200420052006200720082009
Source: wiiw Annual Database incorporating Eurostat statistics.
Public debt Private debt Corporations Banks Households
Poland
01020304050607080
2000 2001 2002 2003 2004 20052006 2007 2008 2009 2010
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Where are we at the moment? Is there a policy master-plan?
Exclusive focus on fiscal consolidation: Germany sees this as a pre-condition for any move towards joint action/mutualisation on the debt problem and widening ECB’s mandate – focus to bring long-term public debt ratios down (constitutional amendments; tightening of fiscal control)
Recapitalisation of banks asked for, but happens through shrinkage of balance sheets – credit crunch
Some moves towards EU-wide regulatory and supervisory bodies; but lacking teeth so far; in the short-run more national segmentation of banking
Measures to monitor development of competitiveness in the future; details to be worked out; unlikely to be very effective
No growth strategy, except lip-service to change revenue and expenditure structures in ‘growth enhancing’ manner; plus liberalisation
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Is the Euro-zone going to pull through? In which shape?
Economic issues:
- recession(s) 2012/13; then medium-term stagnation/low growth
- unfolding of fiscal consolidation; widening of ECB activity – important transitory role; slow build-up of EFSF/ESM (role vis-a-vis banking system and sovereign debt); Greek default – contagion effects – ‘ring-fencing’; access to capital markets will remain/become very problematic for a range of countries (IT,SP,PO,GR,HU, Ro,...)
Political issues:
- How are polities going to react? espec. in high austerity countries
- Technocratic handling of the crisis; reaction against MerkMontozy; tensions in and towards inter-governmental processes; reactions in national parliaments/polities; field for populist/nationalist parties; little debate on alternative strategies
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What is the predicament of Europe’s ‘periphery’? In many countries (Southern and Eastern periphery) high debt levels of private
sectors (corporate and household sectors) – deleveraging processes; public sector debt has significantly increased
Foreign banks in retrenchment – credit constraints severe; cross-border banking goes through a process of re-nationalisation
Current accounts adjust strongly – mechanisms different in fix- and flex-exchange rate countries; big differences across countries in underlying strength of export sector; in a range of economies strong legacy of distorted tradable/non-tradable sector structures
The strong slowing down/contraction of German, Italian etc. growth affects peripheral region strongly
FDI and inward capital flows sharply down – ‘catching-up model’ (‘downhill capital flows’) will have to be significantly rethought (stronger focus on industrial policy; emphasis on tradable sector; less reliance on fixed exch. regimes; EMU?)
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Composition of the current account of the balance of payments, 1995-2009
-25.0
-20.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
15.0
Goods&Services Income Transfers Current account
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
Note: ASIA-6 excl. Taiwan.Source: IMF International Financial Statistics and IMF WEO October 2010.
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Net private financial flows in % of GDP, 1993-2009
Source: IMF Balance of Payments Statistics. ASIA-6 excl. Taiwan.
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
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Is the Eurozone/the EU likely to disintegrate?
Analytical approaches to this question: Bolton/Roland; Alesina et al; Rodrik
- heterogeneity issues; impact of international liberalisation; importance of EU wide public goods (and scale effects in their supply); problems with transfer Union; role of mobility
2008-2012 crisis is an historical threshold event for the EU:
- weakness of the institutional/policy set-up has become very apparent
- a large number of institutional reforms are emerging: fiscal policy frameworks (‘fiscal compact’; six-pack); EU wide regulation and supervision; increased tax base of EU?; evolution of crisis and risk management (EFSF/ESM; Bank Risk Fund?; sovereign default procedures); widening of ECB mandate also de jure?
Political commitment of European elites (is it changing?); popular resentment towards crisis management/technocratic/legitimacy issues
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‘... As it is, men have devised ways to impoverish themselves and one another; and prefer collective animosities to individual happiness.’
J.M. Keynes: The Economic Consequences of the Peace, 1920
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Economic Integration and Emerging Economies: Main lines of the argument
International financial markets integration can strongly accentuate the possibility of external and internal imbalances
Exchange rate regimes are very important in this context
Catching-up processes can be seriously derailed due to the build-up of imbalances
Impact on distorting economic structures (domestic savings behaviour, capital allocations across tradable/non-tradable sectors, asset prices, competitiveness, etc.)
The setting for catching-up economies in (EU)rope is special: affects not only EU members but also economies in the neighbourhood (e.g. Balkans)
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Comparing emerging market economies (EMEs)
European EMEs:CE-5; B-SEE (B-3, SEE-2; WB-6); EU-COH; Turkey
Non-European EMEs: ASIA-6 (w/o China, India); LATAM-8; MENA-6 (non-oil)
Focus areas: specific characteristics of European integration; European vs. global capital market integration; evolution of disequilibria; policy environment and policy choices
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Comparing emerging market economies (EMEs) CE-5: Czech Republic, Hungary, Poland, Slovakia, Slovenia B-3: Estonia, Latvia, Lithuania SEE-2: Bulgaria, Romania WB-6: Albania, Bosnia and Herzegovina, Croatia,
Former Yugoslav Republic of Macedonia, Montenegro, Serbia B-SEE: B-3 + SEE-2 + WB-6 EU-COH: Greece, Portugal, Spain, Ireland Turkey
ASIA-6: Indonesia, Korea, Malaysia, Philippines, Taiwan, Thailand LATAM-8: Argentina, Brazil, Chile, Columbia, Ecuador, Mexico, Peru,
Uruguay MENA-6: Egypt, Jordan, Lebanon, Morocco, Syria, Tunisia
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Capital market integration and emerging economies
The question of ‘downhill’ vs. ‘uphill’ capital flows in the global economy (see e.g. Prasad/Rajan/Subramanian, 2006; Gourinchas/Jeanne, 2009; Abiad/Leigh/Mody, 2009)
The issue of financial and monetary integration and catching-up economies (‘threshold’ effects, ‘institutional anchoring’)
The nature of external disequilibria and the composition of capital (in)flows; role of exchange rate regimes
Which disequilibria are ‘sustainable’ and under which external circumstances?
The available spaces for policy choices
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The European integration model of catching-up
targeted at integration with the EU/Euro area associated with very far-reaching internal and external
liberalization (trade, capital transactions, financial market integration, labour mobility)
benefits: ‘downhill’ capital inflows, trade integration, ‘technology’ transfer; institutional convergence
the model worked - ‘convergence process’ – but emergence of severe structural imbalances in important groups of European EMEs; heterogeneity of pre- and post-crisis experience of European EMEs
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Growth - GDP at constant pricesAverage annual growth rates, 1995-2010, in %
Source: IMF World Economic Outlook, October 2010. EBRD and wiiw Annual Database incorporating national statistics, Eurostat..
av. 1995-2002 av. 2002-2008 av. 2008-2010 -6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
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Quarterly GDP developments3rd quarter 2008 = 100
2005
Q1
2005
Q2
2005
Q3
2005
Q4
2006
Q1
2006
Q2
2006
Q3
2006
Q4
2007
Q1
2007
Q2
2007
Q3
2007
Q4
2008
Q1
2008
Q2
2008
Q3
2008
Q4
2009
Q1
2009
Q2
2009
Q3
2009
Q4
2010
Q1
2010
Q2
2010
Q3
2010
Q4
80.0
85.0
90.0
95.0
100.0
105.0
110.0
LATAM-8 ASIA-6 EU-15 EU-COH CE-5 SEE-2 + HR B3
MENA-6
MENA-6
Source: Eurostat, wiiw calculations.
B-3
SEE-2 + HR
EU-COHCE-5
LATAM-8ASIA-6
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Differentiating features of EMEs
Degree of openness: - trade integration; financial market integration
Private sector borrowing and debt External disequilibria: current accounts, composition of capital
flows; real exchange rate developments Sectoral ‘distortions’ (tradable/non-tradable sectors); FDI
allocation Fiscal policy during the crisis; public debt development Recovery from the crisis: level and trend effects
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Openness indicators: trade and financial integration, 2007in % of GDP
Exports plus Imports0.0
50.0
100.0
150.0
Note: Assets and liabilities: EU-COH: 618.1%; ASIA-6 excl. Taiwan, MENA-6 excl. Lebanon.
Source: IMF International Financial Statistics.
Assets and liablities 0.0
50.0
100.0
150.0
200.0
250.0
300.0
0.0
50.0
100.0
150.0
200.0
250.0
300.0
Exports plus Imports Assets and liablities
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
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Financial integration - Changes in: (i) assets plus liabilities; (ii) credit to private sector in % of GDP (percentage point change), 2001-2007
Note: Assets and liabilities: EU-COH: 265.82%; WB-6: 212.14%. Source: IMF International Financial Statistics. ASIA-6 excl. Taiwan, MENA-6 excl. Lebanon.
Assets and liabilities -50.0
0.0
50.0
100.0
150.0
200.0
Credit to private sector-10.0
0.0
10.0
20.0
30.0
40.0
50.0
60.0
0.0
50.0
100.0
150.0
200.0
250.0
300.0
Exports plus Imports Assets and liablities
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
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Foreign bank ownership, 1998-2005(assets owned by foreign banks as % of banking system assets)
Note: ASIA-6 excl. Taiwan, MENA-6 excl. Syria.Source: from Claessens et al (2008).
0.010.020.030.040.050.060.070.080.090.0
1999 2000 2001 2002 2003 2004 2005
LATAM-8 ASIA-6 MENA-6 CE-5 SEE-2 B-3 WB-6 TR
B-3
SEE-2
WB-6CE-2
LATAM-8
MENA-6Turkey
ASIA-6
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Industrial Production - Index 1993=100, 2000, 2008
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 B-SEE TR0.0
50.0
100.0
150.0
200.0
250.0
1993 2000 2008
Note: ASIA-6 excl. Taiwan. B-SEE excl. Bosnia and Herzegovina, Montenegro and Serbia.Source: World Bank.
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Change in openness to trade, 1995-2008in % of GDP (percentage point change)
Source: IMF International Financial Statistics.
Ó wiiw
29
Summarizing some of the features of European EMEs compared to other EMEs
High growth prior to the crisis High indicators for openness: trade and particularly strong
growth in international financial integration Much greater role of foreign banks in European EMEs compared
to other EMEs Fast growth of credit to private sector in many European EMEs Differences in industrial production growth and the build-up of
export capacity in different EMEs Next: the build-up of significant disequilibria before the crisis
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Composition of the current account of the balance of payments, 1995-2009
-25.0
-20.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
15.0
Goods&Services Income Transfers Current account
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
Note: ASIA-6 excl. Taiwan.Source: IMF International Financial Statistics and IMF WEO October 2010.
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Net private financial flows in % of GDP, 1993-2009
Source: IMF Balance of Payments Statistics. ASIA-6 excl. Taiwan.
LATAM-8 ASIA-6 MENA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
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Real exchange rate developments, 1995 to 2010
20
30
40
50
60
70
20 30 40 50 60 70
Rel
ativ
e pr
ice
leve
l (pe
rcen
t)
CE-5BB-5WB-5ASIA-7LATAM-9
1995
1997
1995
1995
1995
2010
2010
2010
2010
2010
Relative GDP per capita at PPP (percentage points)
Appreciation hand-in-hand with catching-up in Central Europe
Misalignment in the Baltics/Balkans
Stable real X-rate in Asia post crisis
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35
Differences in the composition of FDI
35
Large part in manufacturing, infrastructure, trade in central Europe
Large part in real estate, finance in Baltic region
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36
CZE
HUN
POL
SVK
SVN
BGR
ROU
EST
LVA
LTU
ALB
BIH
HRVMKD
MNE
SRB
TUR
-20.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
15.0
20.0
-60.0 -40.0 -20.0 0.0 20.0 40.0 60.0 80.0
ARGBRA
CHL
COL
ECUMEX
PERURY
IDN KOR
MYS
PHL
TWN
THAEGY
JORLBN
MAR
SYRTUN
GRC
IRL
PRT ESP
Relationship between pre-crisis credit growth and current account balances
Source: IMF World Economic Outlook.
aver
age
CA
/GD
P 20
04-2
007
Change in credit/GDP 2004-2007
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Real lending NB/ECB interest rates, 2003-2010 CPI-deflated, in % p.a.
2003M01
2003M02
2003M03
2003M04
2003M05
2003M06
2003M07
2003M08
2003M09
2003M10
2003M11
2003M12
2004M01
2004M02
2004M03
2004M04
2004M05
2004M06
2004M07
2004M08
2004M09
2004M10
2004M11
2004M12
2005M01
2005M02
2005M03
2005M04
2005M05
2005M06
2005M07
2005M08
2005M09
2005M10
2005M11
2005M12
2006M01
2006M02
2006M03
2006M04
2006M05
2006M06
2006M07
2006M08
2006M09
2006M10
2006M11
2006M12
2007M01
2007M02
2007M03
2007M04
2007M05
2007M06
2007M07
2007M08
2007M09
2007M10
2007M11
2007M12
2008M01
2008M02
2008M03
2008M04
2008M05
2008M06
2008M07
2008M08
2008M09
2008M10
2008M11
2008M12
2009M01
2009M02
2009M03
2009M04
2009M05
2009M06
2009M07
2009M08
2009M09
2009M10
2009M11
2009M12
2010M01
2010M02
2010M03
2010M04
2010M05
2010M06
2010M07
2010M08
2010M09
2010M10
2010M11
2010M12
2011M01
-10.0
-5.0
0.0
5.0
10.0
15.0
LATAM-8 ASIA-6 EU-COH CE-5 SEE-2 B-3 WB-6
Source: IMF International Financial Statistics. ASIA-6 excl. Taiwan, MENA-6 excl. Lebanon.
B-3
SEE-2EU-COH
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Debt in % of GDP
Gross external debt Public debt Private debt
Bulgaria
020406080
100120140160180
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Romania
0102030405060708090
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Slovenia
020406080
100120140
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Croatia
020406080
100120140160
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Source: wiiw Annual Database incorporating Eurostat statistics.
Ó wiiw
40
Debt in % of GDP
Gross external debt Public debt Private debt
Greece
0
50
100
150
200
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Ireland
0
200
400
600
800
1000
1200
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Portugal
0
50
100
150
200
250
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Spain
0
50
100
150
200
250
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Source: wiiw Annual Database incorporating Eurostat statistics.
Ó wiiw
41
Debt in % of GDP
Gross external debt Public debt Private debt
Czech Republic
0102030405060708090
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Slovakia
01020304050607080
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Hungary
020406080
100120140160180
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Croatia
020406080
100120140
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Source: wiiw Annual Database incorporating Eurostat statistics.
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CESEE: GDP growth was well above the interest rate before the crisis
Nominal interest rate on government debt and nominal GDP growth (%), 2000-2010
Note: Interest rate = government interest expenditures / previous year gross debt.
-5.0
0.0
5.0
10.0
15.0
20.0
2000
2002
2004
2006
2008
2010
Nominal GDP growthNominal interest rate
CESEE
-5.0
0.0
5.0
10.0
15.0
20.0
2000
2002
2004
2006
2008
2010
Nominal GDP growthNominal interest rate
OECD (non-CESEE)
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General government balance and gross debt (% GDP), 2000-2010
0.010.0
20.030.0
40.050.0
60.070.0
80.0
2000
2002
2004
2006
2008
2010CESEEOECD (non-CESEE)
Debt
-6.0-5.0
-4.0-3.0-2.0
-1.00.0
1.02.0
2000
2002
2004
2006
2008
2010
CESEEOECD (non-CESEE)
Balance
CESEE: low debt (on average), even after the crisis
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47
External debt: public and private (% of GDP), 2008
Note: ASIA-4 excl. PH, TW. MENA-4 excl. LB, SY. B-3 excl. FYROM, BA, RS.
Source: World Bank, World Databank.
LATAM-8
ASIA-4
MENA-
4
CE-5
SEE-2
B-3 WB-3
0
20
40
60
80
100
120
Intercompany lending Other Sectors Banks Monetary AuthoritiesGeneral Government
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External debt: public and private (% of GDP), 2008
Note: ASIA-4 excl. PH, TW. MENA-4 excl. LB, SY. B-3 excl. FYROM, BA, RS.
Source: World Bank, World Databank.
LATAM-8
ASIA-4
MENA-4
EU-
COH
CE-5
SEE-2
B-3 WB-3
0
50
100
150
200
250
Intercompany lending Other Sectors Banks Monetary AuthoritiesGeneral Government
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Structural features: European and other EMEs
LATAM-8 ASIA-6 MENA-6 CE-5 EU-COH B-SEE
Credit/GDP, change from 2004 to 2008 (percentage points) 15.85 -8.97 7.02 6.68 56.88 39.21
Real interest rate average, 2005-2007 4.33 3.17 -0.09 1.10 -3.10 -0.26
Current account balance/GDP, 2007 (%) 0.14 3.35 -1.42 -4.88 -10.09 -15.21
Gross external debt, 2009 (% of GDP) 20.8 34.8 20.9 62.7 229.6 80.4
GDP growth, 2008-2010 3.82 3.47 5.38 0.50 -1.67 -1.55
Source: wiiw calculations.
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50
Summarizing the build-up to the crisis – differentiated patterns in the EMEs
Different developments amongst European EMEs EU-Coh, CE-5, B-SEE and compared to other EMEs
Current account developments; real exchange rate appreciation Composition of net capital inflows (credits, portfolio, FDI) Credit growth to the private sector; low (partly negative) real
interest rates Public debt situation not that different between European EMEs
and other EMEs Clear link between private credit growth and current account
deterioration; and hence foreign debt positions
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51
The impact of the crisis and patterns of recovery
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52
CZE
HUN
POL
SVK
SVN
BGR
ROU
EST
LVA
LTU
ALB
BIH
HRV
MKD
MNE
SRBTUR
-20.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
-60.0 -40.0 -20.0 0.0 20.0 40.0 60.0 80.0
ARG BRA
CHLCOLECU
MEX
PERURY
IDN KORMYSPHL
TWNTHA
EGYJOR
LBN
MARSYR
TUN
GRC
IRLPRT
ESP
Pre-crisis credit growth and GDP growth in 2009
Source: IMF World Economic Outlook.
GD
P gr
owth
in 2
009
Change in credit/GDP 2004-2007
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53
CZE
HUN
POLSVK
SVNBGR
ROU
EST
LVA
LTU
ALB
BIH
HRV
MKD
MNE
SRB
TUR
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
10.0
-60.0 -40.0 -20.0 0.0 20.0 40.0 60.0 80.0
Pre-crisis credit growth and GDP growth in 2010
Source: IMF World Economic Outlook.
GD
P gr
owth
in 2
010
Change in credit/GDP 2004-2007
ARG BRA
CHLCOL
ECU
MEX
PERURY
IDN KORMYSPHL
TWN
THA
EGY
JOR
LBN
MAR
SYR
TUN
GRC
IRL
PRT
ESP
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Structural features: the role of exchange rate regimes ‘Fixers’ and ‘floaters’ amongst the CESEEs
CESEE float CESEE fix
Credit/GDP, change from 2004 to 2008 (percentage points) 20.5 32.8
Real interest rate average, 2005-2007 1.6 -1.6
Current account balance/GDP, 2007 (%) -6.6 -11.8
Gross external debt, 2009 (% of GDP) 78.8 95.6
GDP-growth, 2008-2010 1.18 -1.78
FDI to finance and real estate sectors, 2007 (per cent of total FDI stock) 26.5 40.2
Change in unemployment rate from 2007 to 2010 (percentage points) 1.5 3.9
Source: wiiw calculations.
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55
Fiscal policy reaction: huge adjustment in CESEE
Average annual changes in total general government expenditures, 2008-2010
Note: Nominal from data in EUR.Source: IMF World Economic Outlook, wiiw Database and Eurostat.
Nominal per cent change Real per cent change2008 2009 2010 2008 2009 2010
CE-5 3.7 1.4 4.1 10.3 -9.0 9.4B-3 20.5 -4.4 1.4 6.5 -7.9 0.2SEE-2 27.7 2.9 4.0 7.1 -12.0 -1.7WB-6 16.8 4.5 6.0 4.7 -5.8 -2.2
EU-15 6.3 5.4 1.8 2.8 4.8 0.6
ASIA-6 14.2 6.9 4.7 7.3 5.3 1.4
LATAM-8 20.8 13.0 10.1 12.7 8.0 5.2
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GDP development, 2005-20122008=100
2005 2006 2007 2008 2009 2010 2011 201280.085.090.095.0
100.0105.0110.0115.0120.0
LATAM-8 ASIA-6 EU-COH CE-5 SEE-2 B-3 WB-6 TR
Source: wiiw forecast and IMF World Economic Outlook, October 2010.
WB-6CE-5
SEE-2B-3
EU-COH
LATAM-8ASIA-6
TR
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Summarizing the crisis impact
Stronger impact of the crisis on European EMEs than on other EMEs (level and – medium-term – trend effect)
Countries with high current account deficits and high credit growth prior to the crisis have stronger downturn
Significant differences between ‘fixers’ and ‘floaters’ amongst European EMEs
Substantial pro-cyclical contraction of real government spending in European EMEs during the downturn
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Summary: Specific features of European EMEs
Opening of the capital account: a rule of the game in the EU; deep financial integration
Reliance on massive imports of capital; only 4 CESEE-countries could avoid skyrocketing external (private) debt
Bank credit: the overwhelming source of external funding
Financial integration: major channel for transmitting shocks (EU-Coh, B-SEE regions hit hardest by the crisis)
In general no meltdown of financial systems in CESEE (advantage of the presence of foreign banks? Implies also less socialization of private debt in CESEE – i.e. lower public debt effects); difference to EU-Coh in which there was massive nationalisation of private sector debt
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The outlook on recovery after the crisis
Which pattern of recovery after the crisis? European EMEs show level and trend effect of crisis impact
Fiscal policy: less room for manoeuvre because of reduced growth expectations and higher interest rates; in EU-Coh socialisation of private debt; full blown sovereign debt crisis
Household deleveraging process and fragile banks (lasting credit constraint); some countries banking system on the brink
Capital flows to European vs. non-European EMEs: pattern reversed from before the crisis; depending on built-up debt positions and (revised) growth expectations
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Policy space in different environments: Specific policy environment for European EMEs:
- no capital controls
- highly integrated financial markets; Euro-zone members or Eur anchorage
- compliance with Single Market regulations
- Maastricht criteria and Growth and Stability Pact (GSP) set fiscal criteria
Advantages of this policy environment:
- institutional and policy anchorage for trade and production networks and for fast growth of financial intermediation
- fast institutional and behavioural convergence
Disadvantages:
- De facto no independent monetary policy; use of exchange rate as policy instrument severely restricted; prone to credit/asset bubbles
- use of industrial policy restricted; other supply side policies (education/training, labour mobility, R&D, regional) encouraged
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Principal policy lessons:
In national and EU policy frameworks: neglect of private sector debt build-up relative to public sector
Financial market regulation severely underdeveloped; but very high degree of financial market integration; specific issue in CESEE region: high level of cross-border banking
Fixed exchange rate regimes bear high risks; but what are the options of highly euroized EU members and candidates?
Scope for counter-cyclical fiscal policy was used much less in European CE-EMEs during crisis; post-crisis: task to restructure public finance in growth-enhancing manner
Current situation characterised by very fragile banking system; protracted deleveraging processes; severe drag on recovery