<![CDATA[Bruegel - Latest Updates]]> http://www.bruegel.org Sun, 26 Apr 2015 03:11:21 +0100 http://www.bruegel.org/fileadmin/images/bruegel-logo.png <![CDATA[Bruegel - Latest Updates]]> http://www.bruegel.org Zend_Feed http://blogs.law.harvard.edu/tech/rss <![CDATA[Capital Markets Union: a vision for the long term ]]> http://www.bruegel.org/publications/publication-detail/publication/878-capital-markets-union-a-vision-for-the-long-term/ publ878

• Capital Markets Union (CMU) is a welcome initiative. It could augment economic risk sharing, set the right conditions for more dynamic development of risk capital for high-growth firms and improve choices and returns for savers. This offers major potential for benefits in terms of jobs, growth and financial resilience.

• CMU cannot be a short-term cyclical instrument to replace subdued bank lending, because financial ecosystems change slowly. Shifting financial intermediation towards capital markets and increasing cross-border integration will require action on multiple fronts, including increasing the transparency, reliability and comparability of information and addressing financial stability concerns. Some quick wins might be available but CMU’s real potential can only be achieved with a long-term structural policy agenda.

• To sustain the current momentum, the EU should first commit to a limited number of key reforms, including more integrated accounting enforcement and supervision of audit firms. Second, it should set up autonomous taskforces to prepare proposals on the more complex issues: corporate credit information, financial infrastructure, insolvency, financial investment taxation and the retrospective review of recent capital markets regulation. The aim should be substantial legislative implementation by the end of the current EU parliamentary term.

Capital Markets Union: a vision for the long term (English)
Fri, 24 Apr 2015 11:43:27 +0100
<![CDATA[The Gazprom case: good timing or bad timing?]]> http://www.bruegel.org/nc/blog/detail/article/1616-the-gazprom-case-good-timing-or-bad-timing/ blog1616

Just a week after having sent a Statement of Objections (SO) in the frame of the antitrust case against Google, EU Competition Commissioner Margrethe Vestager sent yesterday an SO in the frame of the case against Gazprom. The decision to send a charge sheet against the Russian gas company came after almost three years of investigations, which have also seen EU antitrust officials raiding Gazprom offices in central and eastern European countries.

But what is this antitrust case all about? And, considering the current EU gas market environment, has it arrived at a good time or  bad time for Gazprom? Furthermore, what might be its potential impact on  overall EU-Russia relations? This blog post aims to shed some light on these issues, also by trying to consider the perspective that Gazprom might have on the issue.

The case in a nutshell

In the Statement of Objections sent yesterday, the European Commission alleges that in the Baltic countries, Bulgaria and Poland Gazprom is:

i) Hindering cross-border gas sales, through certain clauses in the contracts with its customers allowing Gazprom to charge higher prices in countries that are more dependent on Russian gas (see map).

Average price for Russian gas in 2013 in EU member states, USD/thousand cubic meters

Source: Bruegel based on Henderson and Pirani (2014).

ii) Charging unfair prices through Gazprom's pricing formulae.

iii) Making gas supplies conditional on obtaining unrelated commitments from wholesalers concerning gas transport infrastructure. Specifically, the Commission's preliminary view is that Gazprom made wholesale gas supplies in Bulgaria conditional on the country's participation in the South Stream pipeline project, and in Poland conditional on the company's control over investment decisions concerning the Yamal pipeline.

Gazprom has 12 weeks to respond to the Statement of Objections and also has the opportunity tocall an oral hearing to make its defence. As there is no legal deadline for the Commission to complete antitrust inquires into anticompetitive conduct, the duration of the investigation is uncertain.  If it  keeps to legally binding commitments that address the Commission's concerns, it will still be able to settle the charges. Otherwise, the Commission might decide to issue an infringement decision and ultimately fine Gazprom up to 10 percent of its global annual turnover.

The EU antitrust case against Gazprom

Source: European Commission.

The case in the context of the current EU gas market environment: good timing

But does this case arrive at a good time or  a bad time for Gazprom? Paradoxically, looking at the current EU gas market environment it might well be argued that the case arrives at a rather favourable moment for the Russian company, at least for two reasons: demand outlook and pricing evolution.

The 10 percent reduction in EU gas demand between 2013 and 2014 illustrates the massive size of the issue.

When discussing the current status of EU gas demand, energy analysts often use expressions like "nightmare", "disaster" and "disruption". These words provide a good sense of the sharp downward trend that has characterized EU gas demand since 2008, not only due to the recession but also to the increasing share of renewables in power generation, increasing energy efficiency and the comparative advantage of the United States in terms of gas prices. As a pivotal supplier, Gazprom is also partly responsible for this ‘demand destruction’ in Europe, as its pricing policy was not flexible enough to ensure the inter-fuel (vis-à-vis coal) and international (vis-à-vis the US) competitiveness of its clients. The 10 percent reduction in EU gas demand between 2013 and 2014 illustrates the massive size of the issue.

Evolution of European gas demand (EU+CH) from 1990 to 2014

Source: Bruegel elaboration on British Petroleum and Eurogas.

With the unanticipated fall in demand, market power in the EU has rapidly shifted from producers to consumers. Gazprom might seize the opportunity presented by the antitrust case to revise its business model in the EU, with the aim of enhancing its competitiveness in the market and thus securing both the integrity of EU gas demand and its share in that.

The shift in market power from producers to consumers is connected to the pricing issue. As an overall trend, European gas pricing is evolving towards a hub-based system for commercial and regulatory reasons. This process is still in the making, considering that long-term contracts have not been terminated yet, but it is certainly advancing rapidly. Some companies, such as Statoil, have already adjusted their business model to the new reality of the EU market. Gazprom should have already followed this example, by adjusting its pricing formulae according to new market conditions, always with the ultimate aim of securing its segment of the EU gas demand. Such a move would have been particularly reasonable in recent months, considering the unprecedented fall in oil prices, which has already started to cut into Gazprom's oil-indexed contracts and which will consistently lower these gas prices during - and probably even beyond - 2015.

Evolution of Brent oil price from January 2000 to March 2015

Source: Bruegel elaboration on Energy Information Administration.

In this context, it might well be argued that the EU antitrust case arrives at a rather good moment for Gazprom, as it might seize this opportunity to enhance its business model in the EU and thus secure its long-term sustainability.

Russia perceives the EU antitrust case as mere political action. 

However, Russia perceives the EU antitrust case as mere political action. It will thus most likely use it as a rallying point and adopt a position that serves neither security of supply nor security of demand in the EU. This risk is reinforced by the fact that the EU antitrust case arrives at a very bad time for  overall EU-Russia relations.

The case in the context of current EU-Russia relations: bad timing

Commissioner Vestager declared last February that "If you see [the EU antitrust case against Gazprom] as a political case then any timing will be bad". This affirmation does certainly make a lot of sense, but of all the possible timings, the current one seems to be particularly bad for EU-Russia relations.

In fact, current political relations between the two players are extremely difficult, due to the convergence of a variety of factors such as EU sanctions against Russia over the Ukraine crisis, diplomatic efforts of Russia to unhinge the precarious EU "single voice" in foreign policy by attracting vulnerable EU Member States into its economic orbit, the persistency of tensions in Eastern Ukraine even after the Minsk II agreement, and the difficulties of the ongoing trilateral EU-Ukraine-Russia gas talks and related security concerns.

In this extremely complex geopolitical situation the EU antitrust case against Gazprom will most likely - in this case literally - add fuel to the fire.


In commercial terms Gazprom might benefit from the EU antitrust case

In commercial terms Gazprom might benefit from the EU antitrust case, in the sense that it might provide the necessary outside impetus for Gazprom restructure its business model in the EU accordingly to new market realities, in line with actions already taken by other EU gas suppliers such as Statoil. Such a process will enable Gazprom to sustain its role in the European market in the long-term, and also contribute to de-politicize the role - and the perception - of the company in Europe. Moreover, such a process might also help Gazprom to become de-politicized within Russia, making it less likely in the future that sensible business decisions are overruled by political concerns.

However, political arguments will most likely prevail over commercial ones, and this dynamic will further worsen the already deteriorating EU-Russia gas partnership. If Gazprom does not collaborate with the European Commission during the case, it will provide the EU with another argument in favour of diversification of gas supplies, ultimately contributing to the further deterioration not only of the EU-Russia gas partnership but also of the position of Gazprom itself in the EU. At this moment, as Belyi and Goldthau also point out, Gazprom should decide on whether to follow a risky political path or a sustainable commercial trajectory. In the latter case, its actions might ultimately contribute to the (re)construction of a relationship of mutual trust between the EU and Russia, which could expand far beyond the realm of the gas market.

Thu, 23 Apr 2015 11:20:10 +0100
<![CDATA[The IMF's big Greek mistake]]> http://www.bruegel.org/nc/blog/detail/article/1615-the-imfs-big-greek-mistake/ blog1615

the IMF should recognize its responsibility for the country's predicament and forgive much of the debt

The Greek government's mounting financial woes are leading it to contemplate the previously unthinkable: defaulting on a loan from the International Monetary Fund. Instead of demanding repayment and further austerity, the IMF should recognize its responsibility for the country's predicament and forgive much of the debt.

Greece's onerous obligations to the IMF, the European Central Bank and European governments can be traced back to April 2010, when they made a fateful mistake. Instead of allowing Greece to default on its insurmountable debts to private creditors, they chose to lend it the money to pay in full.

At the time, many called for immediately “restructuring” of privately-held debt, thus imposing losses on the banks and investors who had lent money to Greece. Among them were several members of the IMF’s Board and Karl Otto Pohl, a former president of the Bundesbank and a key architect of the euro. The IMF and European authorities responded that restructuring would cause global financial mayhem. As Pohl candidly noted, that was merely a cover for bailing out German and French banks, which had been among the largest enablers of Greek profligacy.

Ultimately, the authorities' approach merely replaced one problem with another: IMF and official European loans were used to repay private creditors. Thus, despite a belated restructuring in 2012, Greece's obligations remain unbearable -- only now they are owed almost entirely to official creditors.

Five years after the crisis started, government debt has jumped from 130 percent of gross domestic product to nearly 180 percent. Meanwhile, a deep economic slump and deflation have severely impaired the government's ability to repay.

Virtually everyone now agrees that pushing Greece to pay its private creditors was a bad idea.

Virtually everyone now agrees that pushing Greece to pay its private creditors was a bad idea. The required fiscal austerity was simply too great, causing the economy to collapse. The IMF acknowledged the error in a 2013 report on Greece. In a recent staff paper, the fund said that when a crisis threatens to spread, it should seek a collective global solution rather than forcing the distressed economy to bear the entire burden. The IMF’s chief economist, Olivier Blanchard, has warned that more austerity will crush growth.

Oddly, the IMF’s proposed way forward for Greece remains unchanged: Borrow more money (this time from the European authorities) to repay one group of creditors (the IMF) and stay focused on austerity. The fund's latest projections assume that the government's budget surplus (other than interest payments) will reach 4.5 percent of GDP, a level of belt-tightening that few governments have ever sustained for any significant period of time.

The priority must be to prevent Greece from sinking deeper into a debt-deflation spiral.

Following Germany's lead, IMF officials have placed their faith in “structural reforms” -- changes in labor and other markets that are supposed to improve the Greek economy's longer-term growth potential. They should know better. The fund's latest World Economic Outlook throws cold water on the notion that such reforms will address the Greek debt problem in a reliable and timely manner. The most valuable measures encourage research and development and help spur high-technology sectors. All this is to the good, but such gains are irrelevant for the next five years. The priority must be to prevent Greece from sinking deeper into a debt-deflation spiral. Unfortunately, some reforms will actually accelerate the spiral by weakening demand.

On April 9, Greece repaid 450 million euros to the IMF, and must pay another 2 billion in May and June. The IMF’s Managing Director, Christine Lagarde, has made clear that delays in repayments will not be tolerated. “I would, certainly for myself, not support it,” she told Bloomberg Television.

Five years on, the question will be why was more debt not forgiven sooner.

Inevitably, debt relief will be provided -- but in driblets and together with unrelenting pain. The Greek government will need to withhold payments to suppliers and workers, and will raid pension funds. Five years from now, the country's economic and social stress could well be even more acute. The question will be: Why was more debt not forgiven earlier? No one is willing to confront that unpleasant arithmetic, and wishful thinking prevails.

Having failed its first Greek test, the IMF risks doing so again. It remains trapped by the priorities of shareholders, including in recent years the U.K. and Germany. To reassert its independence and redeem its lost credibility, it should write off a big chunk of Greece's debt and force its wealthy shareholders to bear the losses.

Tue, 21 Apr 2015 16:15:10 +0100
<![CDATA[The many births of Bruegel]]> http://www.bruegel.org/nc/blog/detail/article/1614-the-many-births-of-bruegel/ blog1614

Ten years ago, on 20 April 2005, Bruegel’s fledgling team moved into what would become its permanent address, on the third floor of 33 rue de la charité / liefdadigheidstraat 33 in Brussels. The works to adapt our premises to their use as a think-tank venue was still far from finished. A few days later, Bruegel’s Board held its second meeting in what was still a makeshift boardroom in a vast open space. Most internal walls came only later.

At that time, Jean Pisani-Ferry, who had been appointed Bruegel’s first Director in January, Yvonne Hilario, Jozefien Van Damme and I were still entirely focused on the early operational and organizational build-up, also relying on Soizick Bévan as the project’s generously pro bono consultant. The research team would take initial shape only later in the spring, with the arrival of André Sapir as Bruegel’s first Senior Fellow, followed by three Research Fellows who have since moved on to expanded horizons: Alan Ahearne as a senior Irish financial and monetary policymaker, Juan Delgado as chief economist of the Spanish Competition Authority, and Jakob von Weizsäcker as Member of the European Parliament from the German SPD party.

That year 2005 was effectively when Bruegel started. There were many milestones, all of them important. On 17 January, the Board had its first meeting, at Brussels’s timeworn University Foundation near the Royal Palace. Under Chairman Mario Monti’s leadership, it adopted the name Bruegel – which Monti had himself suggested, playing on the idea of a “Brussels European and global economic laboratory” – and marked the start of Bruegel actual operations. The day after, Monti and Pisani-Ferry held a press briefing in which the new child was announced to the world, and received promising initial coverage.

Die Zeit emphasized the project’s Gemütlichkeit, calling it “Bruegels Denkstube”; Libération noted approvingly that it might help Europe find a voice to match les influents think tanks américains; the Italian press understandably focused on what the Bruegel chairmanship suggested about Monti’s future moves; and the Financial Times wrote “Monti recalled that Bruegel (the Elder, of course) was also known for his depiction of the Tower of Babel, which the think-tank would not resemble in the slightest.” A few days later, columnist Brian Groom noted in the same newspaper that “Initial fears at the European Commission that [Bruegel] would be another French-German manoeuvre to seize back the political initiative has turned out wide of the mark.”

After the move to the new offices, Bruegel held its first workshop there, on 13 May, on “Europe’s productivity drift and how to reverse it”. On 27-28 June it held its first high-level conference on the challenge to trade multilateralism from regional deals, a theme that also resonates these days, in the historic Erasmus House in Anderlecht. On 9 September, Bruegel’s first paper, written by André Sapir, was distributed and discussed at an informal ECOFIN meeting in Manchester. That same paper, “Globalization and the Reform of European Social Models”, was published as Bruegel’s first Policy Brief on 24 October, on a visual charter designed by Jean-Yves Verdu, who had also created the Bruegel logo. It firmly established Bruegel as a source of influential policy ideas from the very outset.

Even though the events of 2005 felt like a series of beginnings, they were also the culmination of a process of gestation that had started three years earlier. Both Jean Pisani-Ferry and I had been thinking about the possibility of a new European think tank, first on separate tracks and then jointly after a lunchtime conversation in Paris on 18 October 2002. The project was launched on 22 January 2003, by Jacques Chirac and Gerhard Schröder as part of the joint French-German declaration on the 40th anniversary of the de Gaulle-Adenauer Elysée Treaty. After some delays, it was then further elaborated by a French-German working group that brought it to discussion within the European Economic and Financial Committee, initially introduced by Jean-Pierre Jouyet and Caio Koch-Weser on behalf of their respective finance ministries. On 9 March 2004, 11 EU member states (Belgium, Denmark, France, Germany, Hungary, Ireland, Italy, the Netherlands, Poland, Spain, and – last but never least – the UK) announced their initial agreement to support Bruegel’s launch, conditional to successful fundraising from the private sector that was secured later in 2004. Pisani-Ferry was appointed project manager on 1 April 2004, and the legal entity that is Bruegel was formally created on 10 August 2004. This paved the way for the formation of Bruegel’s first Board, which Monti accepted to chair shortly after leaving the European Commission in late October 2004.

All these dates were, each in its own way, birthdates of Bruegel. Since then, our think tank has rapidly gained recognition and reputation, indeed more quickly than its founders initially thought possible. As for real estate, we expanded further in 2008, and will do so again later this year with a larger room for workshops and conferences and new facilities for our visitors and staff.

Bruegel is typically focused on the present and future, more than on the past. Nevertheless, the tenth anniversary of its start provides an appropriate occasion to recall how it all started. As one who was present at the creation, I will tell that story in further blog posts in the course of this year of celebration – while at the same time wishing Bruegel many more decades of success, expansion, and hard work. 

Mon, 20 Apr 2015 14:20:05 +0100
<![CDATA[Bruegel's Annual Conference]]> http://www.bruegel.org/nc/events/event-detail/event/527-bruegels-annual-conference/ even527

Bruegel's Annual Meetings offer a mixture of public sessions and restricted workshops, where Bruegel's scholars, members and stakeholders can discuss the policy challenges facing the European economy. In 2015 these events are also part of Bruegel's 10th anniversary celebrations, for which we are organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

Bruegel's Annual Conference - Draft Programme

9.00 Arrival

9:15-11:00 Banks and capital markets in the EU: Back to stability and growth?

  • Joanne Kellerman, board member, Single Resolution Board
  • Luc Frieden, Vice Chairman Deutsche Bank
  • Other speakers to be confirmed

11:00-11:30 Coffee break

11:30-13:00 Which growth perspectives for Europe?

  • Alvaro Nadal, state secretary, head of the Economic Bureau of the prime minister, Spain
  • Jean Pisani-Ferry, commissioner-general of the French prime minister's policy planning staff
  • Other speakers to be confirmed

13:00-14:30 What future for Europe's social models? (PUBLIC LUNCH DEBATE)

See separate event page about this public session.

14:30-16:15 Monetary policy and central banking: a global outlook

  • Paul Sheard, chief global economist, Standard & Poor's
  • Otmar Issing, president, Center for Financial Studies
  • Other speakers to be confirmed

Mon, 20 Apr 2015 11:17:18 +0100
<![CDATA[What future for Europe's social models?]]> http://www.bruegel.org/nc/events/event-detail/event/526-what-future-for-europes-social-models/ even526

Bruegel's Annual Meetings offer a mixture of public sessions and restricted workshops, where Bruegel's scholars, members and stakeholders can discuss the policy challenges facing the European economy. In 2015 these events are also part of Bruegel's 10th anniversary celebrations, for which we are organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

What future for Europe's social models?

A distinctively European social model is central to the political identity of many European societies. In the early stages of the financial crisis European social protection was even held up as a way to shelter both citizens and the productive economy from sharp recessions. However, during recent years this European social model has come under unprecedented pressure from government austerity. Looking ahead, an aging population and the potential for long-term stagnation are raising questions about the viability of the welfare state in its current form.

Protests and strikes across the continent have shown that European publics are reluctant to accept major cuts in social spending, but what lies ahead for Europe's social models? Is it possible to meet the current challenges with sustainable reforms that still protect the political principals or the welfare state? Or does social spending require major reduction and restructuring that will leave the social models of Europe totally changed?

This public debate will feature high-level speakers including Tito Boeri, president of the Italian National Social Security Institute.

Practical Details

  • Location: Brussels, Belgium
  • Venue: Les Brigittines, Petite rue des Brigittines, 1000 Brussels
  • Date: 8 September 2015
  • Time: 13.00-14.30
  • Contact: Matilda Sevón

Mon, 20 Apr 2015 10:43:21 +0100
<![CDATA[The critique of modern macro]]> http://www.bruegel.org/nc/blog/detail/article/1613-the-critique-of-modern-macro/ blog1613

What’s at stake: This week’s conversation on the blogosphere focused on whether the modern macroeconomic tools developed in the stable macroeconomic environment of the Great Moderation actually failed us when we entered the Great Recession.

The state of macro redux

Olivier Blanchard writes that the techniques we use affect our thinking in deep and not always conscious ways. This was very much the case in macroeconomics in the decades preceding the crisis. The techniques were best suited to a worldview in which economic fluctuations occurred but were regular, and essentially self-correcting. The problem is that we came to believe that this was indeed the way the world worked. These techniques however made sense only under a vision in which economic fluctuations were regular enough.

Olivier Blanchard writes that we thought of the economy as roughly linear, constantly subject to different shocks, constantly fluctuating, but naturally returning to its steady state over time. The notion that small shocks could have large adverse effects, or could result in long and persistent slumps, was not perceived as a major issue.

the modern models have at least two questionable features.

Wolfgang Munchau  writes that the modern models have at least two questionable features. The first is the assumption of a single macroeconomic equilibrium — the notion that the economy reverts to its previous position or path after a shock. The second is linearity — the idea of a straight-line relationship between events. But if you want to understand why the economy did well before 2007, why there was a break in 2008 and why the path of economic output never returned to its previous trajectory, one would require models that incorporate the notion of non-linearity, and even chaos.

David Andolfatto writes that the dynamic general equilibrium (DGE) approach is the dominant methodology in macro today because of its power to organize thinking in a logically consistent manner, its ability to generate reasonable conditional forecasts, as well as its great flexibility. The DGE approach provides an explicit description of what motivates and constrains individual actors. This property of the model reflects a belief that individuals are incentivized--in particular, they are likely to respond in more or less predictable ways to changes in the economic environment to protect or further their interests. It provides an explicit description of government policy. Finally, the DGE approach insists that the policies adopted by private and public sector actors are in some sense "consistent" with each other. Notions of consistency are imposed through the use of solution concepts, like competitive equilibrium, Nash equilibrium, search and bargaining equilibrium, etc. Among other things, consistency requires that economic outcomes respect resource feasibility and budget constraints.

Non-linearity and multiplicity

Maybe the complaint is simply that economists don’t do enough nonlinear analysis

Paul Krugman writes that ranting about the need for new models is not helpful. First, claims that mainstream economists never think about, and/or lack the tools to consider, nonlinear stuff and multiple equilibria and all that are just wrong. Maybe the complaint is simply that economists don’t do enough nonlinear analysis. Bu the problem with nonlinear models is that it’s quite easy, if you’re moderately good at pushing symbols around, to write down models where nonlinearity leads to funny stuff. Showing that this bears any relationship to things that happen in the real world is, however, a lot harder, so nonlinear modeling all too easily turns into a game with no rules — tennis without a net.

Tony Yates writes that the 2000 Benhabib and Schmitt-Grohe’s paper on the ‘perils of Taylor rules’ is one example of a paper [but there are hundreds] that embraced both nonlinearity and multiplicity.  This is solved non-linearly, in the presence of the zero bound.  And it explains how there are 2 steady states.  One with inflation at target.  And one with nominal interest rates perpetually trapped at the zero bound.

Financial intermediation in macro models

Noah Smith writes that the favorite macro models didn't have any finance in them, with the possible lone exception of the Bernanke-Gertler "financial accelerator" models. That was a big mistake, especially since the Great Depression and crises in other countries (e.g. Japan) should have suggested that financial crashes were a big deal. To their credit, though, mainstream macroeconomists have been hastening to correct the mistake.

Frances Coppola writes that central banks are now “adding” the financial sector to existing DSGE models: but this does not begin to address the essential non-linearity of a monetary economy whose heart is a financial system that is not occasionally but NORMALLY far from equilibrium.

David Andolfatto writes that while one might legitimately observe that New Keynesian DSGE models or RBC models largely downplay the role of financial frictions and that practioners should therefore not have relied so heavily on them, it would not be correct to say that DGE theory cannot account for financial crises. A large and lively literature on financial crises existed well before 2007. If central bank economists were not paying too much attention to that branch of the literature, it is at most an indictment on them and not on the body of tools that were available to address the questions that needed to be answered.

Asking the right questions and discrimination against alternative models

Olivier Blanchard writes that we all knew that there were “dark corners”—situations in which the economy could badly malfunction. But we thought we were far away from those corners, and could for the most part ignore them. We now know that we were much closer to those dark corners than we thought—and the corners were even darker than we had thought too.

The major debates in macroeconomics had nothing to do with the possibility of bubbles causing a financial system meltdown

Mark Thoma writes that all the tools in the world are useless if we lack the imagination needed to build the right models. Models are built to answer specific questions. The problem wasn't the tools that macroeconomists use, it was the questions that we asked. The major debates in macroeconomics had nothing to do with the possibility of bubbles causing a financial system meltdown. That's not to say that there weren't models here and there that touched upon these questions, but the main focus of macroeconomic research was elsewhere.

Noah Smith writes that if you have models for everything, you don't actually have any models at all. Without a way of choosing between models, your near-infinite stable of models turns into one big giant mega-model that can give anyone any results he wants.  Now, technically, you could choose between models based on the plausibility of the assumptions. But three things make this impossible in practice. First, the need for tractability means that the assumptions in almost any modern macro model will be utterly implausible to anyone who has not spent decades in a monastery high in the Himalayas training himself in the art of self-deception. Second, the assumptions are so stylized that it takes a huge amount of talent just to figure out what they are. And third, with a near-infinite catalog of models to comb through, there's just no way to compare any significant number of them all at once.

The US-Europe divergence in thinking after 2010

In Europe, by contrast, policy makers were ready and eager to throw textbook economics out the window 

Paul Krugman writes that it’s wrong to claim, as many do, that policy failed because economic theory didn’t provide the guidance policy makers needed. In reality, theory provided excellent guidance, if only policy makers had been willing to listen. What stands out from around 2010 onward is the huge divergence in thinking that emerged between the United States and Europe. In America, the White House and the Federal Reserve mainly stayed faithful to standard Keynesian economics. In Europe, by contrast, policy makers were ready and eager to throw textbook economics out the window in favor of new approaches that were innovative, exciting and completely wrong.



Mon, 20 Apr 2015 09:32:03 +0100
<![CDATA[Inflation Surprises]]> http://www.bruegel.org/nc/blog/detail/article/1612-inflation-surprises/ blog1612

Euro area consumer price inflation, as measured by the HICP, continues to undershoot the ECB’s target of “close to, but below 2%”, currently at -0.1% in March. While it is still too early to tell if the ECB QE programme launched on March 9 will manage to bring back inflation towards the target in the medium term, a look at market- and survey-based inflation expectations data allows us to get a sense of how inflation expectations have been evolving in the last few months.

What the Market says

The chart below plots the HICP (in green), and market-based measures of average future inflation, based on zero-coupon swaps, which show the expectations over the periods from 1 to 10 years ahead.

The first observation is that market inflation expectations have been sliding continuously from 2012 to January 2015 (see the lines from blue to bright yellow), matching the sharp and steady collapse in headline HICP inflation that took place during that period, and prompting the ECB to act further and launch sovereign QE at its 22 January 2015 Governing Council meeting.

Source: Datastream, European Central Bank, Bruegel Calculations. Note: Market based inflation expectations refer to zero-coupon swaps over a time horizon of 1 to 10 years

However, since the beginning of February we can see some positive developments at the shorter horizons of 1 to about 5 years. This is shown by the upwards shifts in the dotted-lines, from lows of below zero at 1-year forward in January this year (light orange), up to nearly 1% as of last week (red). Even though inflation in the eurozone is still expected to miss its target in the next ten years (with expectations of inflation only averaging 1.4% from now to 2025), this is nevertheless a positive development and a welcome turnaround after the dis-anchoring of inflation expectations observed in the last couple of years.

What Forecasters say

This turnaround is also visible in the ECB’s Survey of Professional Forecasters. Its latest edition published last week shows a slight rebound, with two-year ahead inflation average expectations rising from 1.2% to 1.4%, while long term expectations seem to have stabilised at 1.8%.

Source: ECB SPF (Survey of Professional forecasters); Note: “Long-term” refers to inflation expectations 5 year ahead.

Another way to look at this survey is from the perspective of the distributions of forecasts. For the 2 year ahead forecasts, the share of higher forecasts has increased substantially in the new survey compared to the one published during the first quarter of 2015. There was also a noticeable narrowing of the variance of responses, suggesting a decrease of uncertainty concerning the inflation outlook for the next two years.

Source: ECB SPF and Bruegel calculations.

Why have inflation expectations increased lately?

It is difficult to disentangle the main reasons behind the recent increase in expectations, but 3 main explanations immediately come to mind: 1) the ECB QE programme, 2) the stabilisation of oil prices, 3) some positive data releases.

The charts below depicting the evolution of daily market inflation expectations can help us identify what could be driving the recent improvements.

Source: Datastream, Bruegel Calculations. Market based inflation expectations refer to zero-coupon swap rates over a 1 to 5 years period.

Source: Datastream, Bruegel Calculations. Market based inflation expectations refer to zero-coupon swap rates over a 1 to 5 years period.

The first possible event is an interview of Mario Draghi by the German newspaper Handelsblatt (2nd January, in which he suggested that the ECB was gearing up for an asset purchase programme) - this had  the mild effects of moving expectations up by 13.4, 7.6 and 1.8 basis points.

A change in direction of developments in oil prices (Brent Crude reached its trough on 13th January) contributed 5.0, 4.5 and 2.4 bps respectively.


Thirdly, it’s interesting to note that market measures of inflation expectations haven’t moved much at the QE announcement date. The 1-, 2-, and 5-year swap rates increased by 2.6, 5.4 and 8.5 basis points respectively. Of course, markets had been anticipating QE for a few months and were probably already pricing in some effect on inflation of the QE programme, so the absence of a large step-shift on the day of the announcement is not totally surprising.

Leading on from this, the actual implementation of the QE program did not steer swap rates much (-7.9, -5.3, 1.6)

More significantly, the two main drivers behind the upticks in the market measures, especially at shorter horizons, seem in fact to have been the releases of two inflation measures:

On 2nd March the HICP flash estimate for February came in higher-than-expected. The day-to-day change in expectations were 49.6, 29.7 and 15.6 bps respectively, an order of magnitude larger than any of the previous events studied. This idea of a positive inflation surprise is backed up by the responses of the economists participating in the Bloomberg survey who were predicting an even lower level of inflation in February (-0.4%) than what was actually observed (-0.3%).

The second surprise came in the positive producer price inflation data published by Eurostat on 7th April - again day-to-day changes were much larger than the other events - 49.9, 30.9, 14.9 bps respectively.


While the ECB QE programme and the stabilisation of oil prices are certainly playing a role in shaping inflation expectations on the upside, we find that the developments between December 2014 and April 2015 in market- and survey-based measures of future inflation are still mainly concentrated in the short-term and appear to come essentially from positive surprises in inflation data releases. Unsurprisingly, the surprise in inflation led to a change in inflation expectations. Whether the surprises in inflation data were themselves driven by improvements related to QE, and in particular to the recent euro exchange rate decline, or by other factors (e.g. more downward price stickiness than anticipated), remains for future research.

Mon, 20 Apr 2015 09:16:45 +0100
<![CDATA[Big improvement in the Greek primary budget]]> http://www.bruegel.org/nc/blog/detail/article/1611-big-improvement-in-the-greek-primary-budget/ blog1611

Ahead of what promises to be a very tense negotiation period, the Greek Ministry of Finance released the preliminary budget execution data for the first three months of 2015. The State primary budget is reported to considerably exceed expectations, due to both expenditures below target and revenues picking up.

The coming month promises to be very tense for Greece, as negotiations seem to proceed slowly and payment deadlines are approaching fast. The Eurogroup is due to meet next week, on April 24th, to discuss the Greek reform list that will be the basis for the final programme review and that must be agreed by the end of April, according to the terms of the 20th February agreement. Agreeing on a reform list is paramount for Greece to be able to unlock some of the frozen funding of the programme and relief the cash issues.

However, EU policymakers sound increasingly skeptical about the possibility that a deal can be reached on the 24th. Germany’s Finance Minister Schauble reportedly said “nobody expects there will be a solution” next week, while EC Vice President Dombrovskis also ruled out an agreement and said the meeting is most likely going to be just an assessment of the progress in talks with Greece. If no agreement is reached on 24th April, then the discussion would shift to the Eurogroup on May 11th, just ahead of a 750 million repayment due to the IMF the 12th May (see here for the detailed repayment schedule).

Against this background, the Greek Finance Ministry posted today the preliminary budget execution data for the period January - March 2015. The release is important to assess, because the fiscal performance will certainly be scrutinised and it could strengthen or weaken the Greek position in the Eurogroup negotiations.

At first sight, the data is extremely positive. The State budget balance for the period January - March of 2015 presented a deficit of 500 million Euros against a target deficit of 2.1 billion, and in line with the figure reported last year (448 million euro for the first three months of 2014). The State budget primary balance recorded a surplus of 1.7 billion Euros, against a target of 119 million euro. This continues the improvement of the primary budget underperformance that was recorded in January and partially corrected in February (I talked about it here and here).


Source: Greece Finance Ministry

A detailed look at composition reveals an improvement in the revenue side. For the month of May, State Budget net revenues amounted to 4.2 billion euro, over performing the target by about 1 billion. The improvement was driven by the ordinary revenues component, which amounted to 3.3 billion, beating the target by 590 million.

On a cumulated three-months horizon, total State budget net revenues over-performed by 94 million for the January-March 2015 period, after coming short of targets by about 900 million in January and February. However, the overall cumulated improvement was driven mostly by the Public Investment Budget - amounting to 1.4 billion [1] [2] [3] [4] [5] against a 770 million target. These reflect revenues on the investment state budget and mostly linked to EU funds. Ordinary revenues cumulated over the three months amounted to 10.6 billion, so 584 million still short of target. This suggests that the problems with revenues’ underperformance recorded in January and February have not completely gone away, and they still weigh on the budget execution.

Source: Greek Ministry of Finance

Similarly to what happened last month, expenditure control was the main driver behind the improved primary surplus. State budget expenditures amounted to 12.5 billion euros, i.e. 1.5 billion lower than the target. Ordinary Budget expenditures amounted to 11.98 billion Euros and were decreased by 1.3 billion against the target.

After looking at the details in the press release, however, things appear less rosy. The lower expenditures are in fact mainly attributed to “the rearrangement of the cash payments projection”, i.e. delay in payments to third parties. According to Kathimerini, the state spent just 43 million euro by the end of March on paying expired debts to suppliers, which received some 500 million euros in total in the first quarter of 2014.

In conclusion, the data published today suggest there has been an improvement in the primary budget, mostly due to expenditure cuts. Revenues over-performance is mainly explained by increase in the public investment budget, whereas ordinary revenues have not yet picked up sufficiently to absorb the underperformance of the first two months of the year. At the same time, expenditure control is mainly achieved by postponing payments to suppliers, which can be effective in improving the budget in the short term, but the postponement of state payments suppliers may hurt the real economy even further and is in fact unsustainable of the state wants to receive the necessary supplies.



Fri, 17 Apr 2015 15:19:17 +0100
<![CDATA[Will Greece run out of cash?]]> http://www.bruegel.org/nc/blog/detail/article/1610-will-greece-run-out-of-cash/ blog1610

For many weeks now it has been regularly reported that Greece will run out of money if an agreement is not reached with the official lenders in the next few days. So far this has not happened.

Given the huge stock of financial assets the Greek government has, I am always cautious about reports that it will soon  run out of cash.  At the end of September 2014, the Greek government had assets worth €86.6 billion (Table 1). The data is unfortunately outdated, and assets have most likely been depleted significantly during the past six months.  Some of the deposits are earmarked for banking issues. It may be difficult to sell some of the equity holdings, in particular bank shares.

Still, even if the €86.6 billion has declined by a dozen or two, and even if not all of the remaining assets could be easily used to pay for obligations, there is still a lot, and much more than the €30 billion assets the Greek general government had at the end of 1997 (Figure 1). As a share of financial assets in GDP, Greece ranked seventh among the 28 EU countries in September 2014 (Figure 2), so asset holdings were relatively high in a European comparison too.

Greece has looming repayment deadlines: as Silvia Merler recently showed, Greece has to repay €6.7 billion to the ECB and €9.8 billion to the IMF in 2015. (There are also maturing treasury bills, but these are rolled over by the largely state-owned Greek banks). Greece also has to pay some interest on its liabilities, though not that much, because interest payments on EFSF loans (the largest creditor of the country) are deferred (see my earlier post on Greek interest payments here).

The question is therefore whether the primary budget surplus and the possible liquidation of some financial assets would be sufficient for the Greek government to carry on paying financial obligations until an agreement is reached with the creditors in the coming weeks or months. My guess is yes, at least perhaps till the summer, when large repayment will become due.

Table 1: Greece – Financial assets of the general government and the three government subsectors, consolidated, million euro, September 2014


Figure 1: Greece – Consolidated financial assets of the general government, € millions, December 1997 – September 2014

Figure 2: Consolidated financial assets of the general government, % of GDP, September 2014


Fri, 17 Apr 2015 13:13:19 +0100
<![CDATA[Bruegel's Annual Dinner]]> http://www.bruegel.org/nc/events/event-detail/event/525-bruegels-annual-dinner/ even525

Bruegel's Annual Meetings offer a mixture of public sessions and restricted workshops, where Bruegel's scholars, members and stakeholders can discuss the policy challenges facing the European economy. In 2015 these events are also part of Bruegel's 10th anniversary celebrations, for which we are organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

Bruegel's Annual Dinner

The annual dinner is a closed-door session which offers Bruegel members and partners the opportunity to discuss the European economics in a relaxed and intimate setting. We are pleased to announce that this year's dinner will be preceded by a keynote address from Donald Tusk, president of the European Council. Guests will be welcomed by Jean-Claude Trichet, chairman of the Bruegel Board and former head of the European Central Bank.

Both speeches will be live streamed on this event page, and recordings will be made publicly available after the event.

Fri, 17 Apr 2015 10:29:06 +0100
<![CDATA[Emerging markets and Europe: time for different relationships?]]> http://www.bruegel.org/nc/events/event-detail/event/524-emerging-markets-and-europe-time-for-different-relationships/ even524

Bruegel's Annual Meetings offer a mixture of public sessions and restricted workshops, where Bruegel's scholars, members and stakeholders can discuss the policy challenges facing the European economy. In 2015 these events are also part of Bruegel's 10th anniversary celebrations, for which we are organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

Jim O’Neill, Bruegel fellow and and creator of the acronym BRICs, will chair this debate with leading economic figures from Europe and emerging economies. The range of voices will make for a frank and stimulating discussion of a topic that is vital to Europe's economic recovery and place in the world.

Note that the programme for this event is still under construction. We will update the page with additional information soon.

Fri, 17 Apr 2015 10:13:57 +0100
<![CDATA[Productivity, innovation and digitalisation: which global policy challenges?]]> http://www.bruegel.org/nc/events/event-detail/event/523-productivity-innovation-and-digitalisation-which-global-policy-challenges/ even523

Bruegel's Annual Meetings offer a mixture of public sessions and restricted workshops, where Bruegel's scholars, members and stakeholders can discuss the policy challenges facing the European economy. In 2015 these events are also part of Bruegel's 10th anniversary celebrations, for which we are organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

Productivity, innovation and digitalisation: which global policy challenges?

How can new technologies help the global economy recover from the shocks of recent years? Can ICT and digital innovation improve productivity and create sustainable growth? How can policymakers maximise the benefits of digitilisation, while also helping citizens react to the accompanying changes in the job market and workplace?

This opening session of Bruegel's Annual Meetings will begin with keynote addresses from Andrus Ansip and Robert Atkinson, followed by a lively panel discussion with top-level policymakers and industry experts.


  • Welcome: Guntram Wolff, director, Bruegel
  • Andrus Ansip, vice-president for the digital single market, European Commission
  • Robert Atkinson, president, Information Technology and Innovation Foundation

Practical Details

  • Location: Brussels, Belgium
  • Venue: Les Brigittines, Petite rue des Brigittines, 1000 Brussels
  • Date: 7 September 2015
  • Time 10.00-12.30 (Sandwich lunch served from 12.30)
  • Contact Matilda Sevón

Fri, 17 Apr 2015 09:47:40 +0100
<![CDATA[Will natural gas cooperation with Russia save the Greek economy?]]> http://www.bruegel.org/nc/blog/detail/article/1609-will-natural-gas-cooperation-with-russia-save-the-greek-economy/ blog1609

In the midst of profound turbulence in the negotiations between Greece and its international lenders, Prime Minister Alexis Tsipras flew to Moscow last week for an official visit to President Vladimir Putin. This meeting, portrayed by many commentators as a bargaining chip with its European creditors, was officially intended to improve bilateral relations between the two countries in various economic sectors. Greece had high expectations from this meeting, in terms of financial assistance, potential gas discounts and a lift of the Russian ban on the food imports from Greece. 

However, during the press conference that followed the meeting it emerged that Russia had something else to offer to Greece: strong cooperation on natural gas projects. This prospect was presented by President Putin as a sort of potential game changer for the Greek economy. Firstly, he stated that Greece could earn "hundreds of millions of euro" through natural gas transit annually. Secondly, he declared that Greece could use these revenues to pay off its debt to international creditors. Prime Minister Tsipras reacted favourably to this proposal, by saying that this might also boost jobs and investment in Greece. But is there any evidence that a strong natural gas cooperation with Russia would have a considerable impact on the Greek economy? This blog is intended to provide insight on this controversial issue.

Source: Bruegel

During the press conference, President Putin declared that Russia would consider the option of providing loans to Greece for joint large-scale natural gas projects. This was a reference to Turkish Stream, a project launched in December 2014 by the Russian President himself, intended to deliver substantial volumes of Russian gas to Turkey and Europe while completely bypassing Ukraine from 2019.

Greece might collect about EUR 380 million annually in transit charges.

According to President Putin, Greece would primarily benefit from the pipeline project by enjoying significant transit revenues. Let's try to figure out whether this statement has a solid basis. Turkish Stream is set to have a capacity of 63 billion cubic metres per year (bcm/y). Considering that 14 bcm/y will be exclusively devoted to the Turkish domestic market, the maximum volume that might transit through Greece would be 49 bcm/y. Considering that Slovakia applies a transit fee of about EUR 7.8 per thousand cubic metres (tcm) for the natural gas transit from Ukraine to Austria via its 400 km-long transit route, Greece might collect about EUR 380 million annually in transit charges.

According to Prime Minister Tsipras, the construction of a pipeline connecting the arrival point of Turkish Stream at the Turkish-Greek border with the Greek-Macedonian border (from where natural gas might flow northwards to Austria via Macedonia, Serbia and Hungary) might have a considerable impact in terms of job creation in Greece. To put it into perspective, Trans Adriatic Pipeline AG, the company working on a similar pipeline project -TAP- optimistically projects the creation of around 2,000 directly related new jobs and a further 10,000 peripheral new jobs in Greece. These numbers indicate the limited impact of these projects on the Greek labour market.

Furthermore, Greece hopes that enhanced natural gas cooperation with Russia will also lead to a significant discount on its imports of Russian gas, at a level of around 10 percent. Considering that the average price paid by Greece for Russian gas was around EUR 440 per thousand cubic metres in 2013 and that Greece annually imports from Russia around 2.4 bcm of natural gas, the annual natural gas bill of Greece vis-à-vis Russia could be estimated at about EUR 1 billion. A 10 percent discount would thus represent a net saving of about EUR 100 million.

To put it into perspective, we compare the "Russian gas package" with Greece's actual bailout package. In short, the sum of the potential annual transit charges of EUR 380 million and the potential annual savings on the natural gas bill of EUR 100 million have a net present value of EUR 4.8 billion (calculated with the current long-term interest rate of 10 percent). This is two orders of magnitude smaller than the Second Economic Adjustment Programme approved by euro area finance ministers in 2012 which foreseen financial assistance of EUR 164.5 billion until the end of 2014.

Furthermore, considering that Eurostat estimates Greece's total annual government spending at EUR 107 Billion, the impact of the "Russian gas package" on the country's total annual government spending would be limited, at 0.5 percent.

Following on from the enthusiastic tones of the Moscow meeting, over the next week Russia and Greece will sign a memorandum of cooperation concerning these gas issues. However, as the previous figures illustrated, the overall impact of Turkish Stream on the Greek economy will be rather limited in macroeconomic terms.

Russian-Greek gas cooperation will surely not have a direct structural impact on the Greek economy.

In other words, Russian-Greek gas cooperation might have an impact on the political and geostrategic relations of the two players (and on that of other countries), but it will surely not have a direct structural impact on the Greek economy.

Thu, 16 Apr 2015 17:12:06 +0100
<![CDATA[Towards a digital single market: the European Commission strategy]]> http://www.bruegel.org/nc/events/event-detail/event/522-towards-a-digital-single-market-the-european-commission-strategy/ even522

The European Commission will announce its strategy for the digital single market in early May. The policy programme will focus on three areas:

  1. Better access for consumers and businesses to digital goods and services
  2. Building an environment for digital networks and services to flourish
  3. Creating a true European digital economy and society with long-term growth potential

In an open exchange of views Andrus Ansip, European Commission vice-president responsible for the digital single market, will present the strategy and participate in a debate with experts and guests.


  • Andrus Ansip, vice-president for the digital single market, European Commission
  • Göran Marby, director-general, International Telecommunication Union (tbc)
  • Scott Marcus, director and head of department, WIK (tbc)
  • Mario Mariniello, research fellow, Bruegel

Practical Details

  • Venue: Bruegel, Rue de la Charité 33, 1210 Brussels
  • Time: 12.30-1400 (lunch served at 13.45)
  • Contact: Bryn Watkins

Thu, 16 Apr 2015 15:31:43 +0100
<![CDATA[Challenges for growth in Europe]]> http://www.bruegel.org/nc/events/event-detail/event/521-challenges-for-growth-in-europe/ even521

In the framework of our 10th anniversary celebrations, Bruegel is organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

The conference in Berlin will address two topics at the forefront of policy debates in Germany and Europe: stable growth and the energy transition. Both are central to the Juncker Commission's plans to help Europe recover from the crisis, but which specific policy measures could deliver the greatest benefits?

Draft Programme

10:00-12:30 Session 1: Energy union and the energy transition


  • Keynote: Rainer Baake, state secretary, Federal Ministry for Economic Affairs and Energy
  • Bernd Biervert, deputy head of Cabinet for European Commission vice-president Maroš Šefčovič
  • Jean-Paul Bouttes, chief economist, EdF
  • Chair: Georg Zachmann, research fellow, Bruegel

12:30-13:30 Lunch break

13:30-16:30 Session 2: Promoting growth and stability in the EU


  • Keynote: Steffen Kampeter, parliamentary state secretary
  • Agnès Bénassy-Quéré, professor, CES-Centre d'Economie de la Sorbonne
  • Luc Frieden, Vice Chairman, Deutsche Bank Group
  • Chair: Guntram Wolff, Bruegel
  • Additional speakers tbc

Practical Details

  • Location: Berlin, Germany
  • Venue: Federal Ministry for Economic Affairs and Energy, Scharnhorststraße 37, 10115 Berlin
  • Date: 28 September 2015
  • Time 10.00-16.30
  • Contact: Scarlett Varga

Thu, 16 Apr 2015 14:19:38 +0100
<![CDATA[How to complete monetary union]]> http://www.bruegel.org/nc/events/event-detail/event/520-how-to-complete-monetary-union/ even520

In the framework of our 10th anniversary celebrations, Bruegel is organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

The event will discuss how to complete the European Monetary Union with the help of structural convergence as well as a different fiscal framework and a fiscal capacity.

Draft programme

13h30 Welcome address

First speaker: Jean-Claude Trichet, Chairman, Bruegel Board

14h30-16h00 Do we need structural convergence to make the monetary union work and how could it be achieved?

Chair: Guntram Wolff, Director, Bruegel


  • Philippe Martin, Professor of Economics, Sciences Po in Paris
  • Philippe Maystadt, President, Academy for Research and Higher Education
  • additional speakers tbc

16h00-16h30 Break

16h30-18h00 Do we need a different fiscal framework and a fiscal capacity and how to achieve it? What kind of fiscal union?

Chair: Jean Pisani-Ferry, Commissioner-General, French Prime Minister’s Policy Planning Staff


  • Jakob von Weizsäcker, MEP, Committee on Economic and Monetary Affairs
  • Daniel Cohen, Professor, École Normale Supérieure;
  • Peter Praet, Member of the Executive Board, European Central Bank
  • Reza Moghadam, Vice-Chairman for Global Capital Markets, Morgan Stanley

Keynote speech: Emmanuel Macron, French Minister of the Economy, Finance and Industry

Practical details

  • Venue:Commissariat à la stratégie et à la prospective, 18 rue de Martignac, Paris - France
  • Time: 18 May 2015, 13.30-18.00
  • Contact: Katja Knezevic - katja.knezevic@bruegel.org

Thu, 16 Apr 2015 14:10:09 +0100
<![CDATA[Europe and the emerging markets]]> http://www.bruegel.org/nc/events/event-detail/event/519-europe-and-the-emerging-markets/ even519

In the framework of our 10th anniversary celebrations, Bruegel is organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

The event in Rome will discuss the effects that low interest rates has on Europe and Emerging Markets.

Draft programme

15h30: Welcome: Guntram Wolff, director, Bruegel

15h45: Keynote: Pier Carlo Padoan, Minister of Economy and Finances, Italy

16h30 – 17h45: How are emerging markets and Europe affected by the low interest rates?


  • Guonan Ma, non-resident fellow, Bruegel
  • Alicia Garcia Herrero, visiting fellow, Bruegel and chief economist for emerging markets, BBVA
  • Christian Kastrop, director, policy studies branch, economics Department, OECD
  • Carlo Favero, professor, Università Bocconi

Chair: Guntram Wolff, director, Bruegel

Thu, 16 Apr 2015 11:43:35 +0100
<![CDATA[What digital union?]]> http://www.bruegel.org/nc/events/event-detail/event/518-what-digital-union/ even518

In the framework of our 10th anniversary celebrations, Bruegel is organising a series of events in the capitals of our member states. These debates, talks and conferences will bring crucial European topics to audiences across the continent.

The conference in Warsaw will focus on the digital economy, a topic which is often at the heart of discussions on how Europe can emerge from the economic crisis of recent years. Across two sessions top-level leaders and experts will debate the macroeconomic features of the digital revolution and examine the policy response.

  • What are the likely trends in our growing use of ICT at work and home?
  • What might be the consequences for productivity, growth and inequality?
  • How should policymakers at national and European level react in order to maximise the benefits of these new technologies?

Draft Programme

First panel: Macroeconomic effects of the digital revolution

This session will discuss the major macroeconomic trends stemming from digitalisation. What are the effects of the large-scale application of ICT on productivity, GDP, employment and budget revenues? When analysing these influences, one should be sensitive to the macroeconomic redistribution effects between the economic core and peripheries, as well as among citizens.

Some suggest that we have already reaped most of the productivity benefits of ICT, while others argue that we are only at the beginning of an economic revolution. In any case, societies and governments must decide how to deal with effects of these changes on the tax base and job markets.

Second panel: What strategy for a coherent digital single market?

The digital revolution is a broad phenomenon which impacts nearly all aspects of our daily life, economy and society. By May, the European Commission will have announced its strategy to complete the digital single market: one of the top priorities for the Juncker Commission.

Data protection, copyright harmonisation, cross-border e-commerce and the 'Internet of Things' are among the& crucial areas ;where the European Commission is expected to take decisive action. The panel will discuss the Commission strategy, its interaction with the projects of member states and the potential redistributive effects of EU policies in terms of cost and benefits for consumers, companies and tax payers across the EU.

Practical Details

  • Location: Warsaw, Poland
  • Venue: To be confirmed
  • Date: 15 June 2015
  • Contact: Alma Kurtovic

Thu, 16 Apr 2015 11:21:53 +0100
<![CDATA[Mapping European Competitiveness]]> http://www.bruegel.org/nc/events/event-detail/event/517-mapping-european-competitiveness/ even517

We are pleased to announce that the MapCompete Final Conference will take place on 28- 29 May 2015 in Brussels.

MAPCOMPETE, a support action for the European Commission carried out by a consortium of European research institutes (see www.mapcompete.eu), has been designed to provide a thorough assessment of data opportunities and requirements for the comparative analysis of competitiveness in European countries, both at the macro and the micro level.

The aim of the Final Conference is to present all the research work conducted in the project, with a duration of two and half years, which can be a key handbook for a researcher interested in measuring competiveness, or for policymakers interested in the feasibility and in the quality of alternative competitiveness measures.

More information can be found on the website (www.mapcompete.eu ) which offers in-depth project results, all project publications, as well as information on the research partners.

Note that the programme for this event is still under construction and additional information will be available shortly.

Draft Programme

8.30 - 9.00 Registration and Breakfast

9.00 - 9.40 Welcoming remarks

  • László Halpern, Scientific Coordinator of MapCompete, CERS-HAS
  • Marianne Paasi, DG RTD, EC, MapCompete project officer

9.40 - 10.30 Towards a better assessment of competitiveness (Blueprint chapter presentations)

  • Gábor Békés, CERS-HAS
  • Lionel Fontagné, Paris School of Economics
  • Katja Neugebauer, LSE (discussant)
  • additional speakers tbc

11.30 – 11.45 Coffee Break

11.45 – 13.00 Towards a better assessment of competitiveness (Blueprint chapter presentations)

  • Giorgio Barba Navaretti, Ld’A
  • Thierry Mayer, Sciences Po
  • Carlo Altomonte, Uni Bocconi and Bruegel
  • Hylke Vandennbussche, KU Leuven (discussant)

13.00 – 13.30 Sandwich lunch

Policy Session

13.30 – 15.00 The future potentials of matching data in Europe: prospects, barriers and policy options 

Chair by IAW/p>


  • Andreas Koch and Angelika Storz (IAW)

Brief Inputs by

  • Stefan Bender, Deutsche Bundesbank
  • Jan Hagemejer, Central Bank of Poland
  • Harry Goossens, Statistics Netherlands and ESSNet

15.00 – 16.00 Policy implications for measuring competitiveness

Chair by Bruegel

  • Carlo Altomonte, Uni Bocconi and Bruegel
  • Matteo Bugamelli, National Bank of Italy
  • other speakers tbc

16.00 – 16.20 Closing remarks

Practical details

  • Venue:Microsoft Centre,Rue Montoyer 51
  • Time:29 May 2015 8.30-16.20
  • Contact: Matilda Sevón, Events Manager - registrations@bruegel.org

Wed, 15 Apr 2015 15:06:26 +0100
<![CDATA[The Piketty theory controversy]]> http://www.bruegel.org/nc/blog/detail/article/1608-the-piketty-theory-controversy/ blog1608

What’s at stake: While Thomas Piketty’s documentation of the long-term evolution of income and wealth distributions is generally praised, the theoretical framework used to shed light on the future of inequality in the 21st century has recently been challenged by a number of authors.

The r - g theory

Per Krusell and Anthony A. Smith writes that as the title of the book suggests, it makes predictions about the future. Piketty argues that future declines in economic growth – stemming from slowdowns in technology or drops in population growth – will likely lead to dramatic concentrations of economic and political power through the accumulation of capital (or wealth) by the very richest. Charles Jones writes that Capital in the 21st century proposes a framework for describing the underlying forces that affect inequality and wealth.

capital or wealth grows at the rate of return to capital

Lawrence Summers writes that Piketty makes a major contribution by putting forth a theory of natural economic evolution under capitalism. His argument is that capital or wealth grows at the rate of return to capital, a rate that normally exceeds the economic growth rate. Economies will thus tend to have ever-increasing ratios of wealth to income, barring huge disturbances like wars and depressions. This is the normal state of capitalism. The middle of the twentieth century, a period of unprecedented equality, was also marked by wrenching changes associated with the Great Depression, World War II, and the rise of government, making the period from 1914 to 1970 highly atypical.

Per Krusell and Anthony A. Smith writes that other things equal, higher values of r − g lead to thicker tails. The r − g theory argues that in models featuring multiplicative shocks to wealth accumulation, the right tail of the wealth distribution looks like a Pareto distribution with Pareto coefficient determined (in part) by r − g. The prediction of increasing inequality has its origins in falling rates of population and technology growth: were g to fall – and if r, in response, were to fall less than g – then the consequent increase in r − g would thicken the right tail of the wealth distribution. Alan J. Auerbach and Kevin Hassett write that the basic syllogism is (1) the rate of return exceeds the economic growth rate; (2) saving generated by this high rate of return causes capital and wealth to grow faster than the economy; and (3) capital income grows as a share of income because the rate of return does not fall sufficiently fast with capital deepening to offset this growing capital-output ratio.

Thomas Piketty writes that a higher gap between r and g works as an amplifier mechanism for wealth inequality for a given variance of other shocks. To put it differently: a higher gap between r and g allows an economy to sustain a level of wealth inequality that is higher and more persistent over time (that is, a higher gap r − g leads both to higher inequality and lower mobility).

The future of r and g

Thomas Piketty writes that, from a theoretical perspective, the effect of a decline in the growth rate g on the gap r − g is ambiguous: it could go either way, depending on how a change in g affects the long-run rate of return r. Generally speaking, a lower g, due either to a slowdown of population and/or productivity growth, tends to lead to a higher steady-state capital–output ratio β = K/Y, and therefore to lower rates of return to capital r (for given technology). The key question is whether the fall in r is smaller or larger than the fall in g. There are, in my view, good reasons to believe that r might fall less than the fall in g, but this issue is a complex one.

Brad DeLong writes that Piketty points to remarkable constancy in the rate of profit at between 4% and 5% per year, but is agnostic as to whether the cause is easy capital-labor substitution, rent-seeking by the rich, or social structure that sets that as the “fair” rate of profit.

the rate of return from capital probably declines over the long run, rather than remaining high

Free Exchange writes that the rate of return from capital probably declines over the long run, rather than remaining high, due to the law of diminishing marginal returns. Modern forms of capital, such as software, depreciate faster in value than equipment did in the past: a giant metal press might have a working life of decades while a new piece of database-management software will be obsolete in a few years at most. This means that although gross returns from wealth may well be rising, they may not necessarily be growing in net terms, since a large share of the gains that flow to owners of capital must be reinvested.

The elasticity of substitution between capital and labor

Nick Bunker writes that for capital returns to be consistently higher than the overall growth of the economy—or “r > g” as framed by Piketty—an economy needs to be able to easily substitute capital such as machinery or robots for labor. In the terminology of economics this is called the elasticity of substitution between capital and labor, which needs to be greater than 1 for r to be consistently higher than g.

Lawrence Summers writes that as capital accumulates, the incremental return on an additional unit of capital declines. the rate of return from capital probably declines over the long run, rather than remaining high. With 1 percent more capital and the same amount of everything else, does the return to a unit of capital relative to a unit of labor decline by more or less than 1 percent? If, as Piketty assumes, it declines by less than 1 percent, the share of income going to capital rises. If, on the other hand, it declines by more than 1 percent, the share of capital falls.

Piketty misreads the literature on the elasticity of substitution by conflating gross and net returns to capital

Lawrence Summers writes that Piketty misreads the literature on the elasticity of substitution by conflating gross and net returns to capital. It is plausible that as the capital stock grows, the increment of output produced declines slowly, but there can be no question that depreciation increases proportionally. And it is the return net of depreciation that is relevant for capital accumulation. I know of no study suggesting that measuring output in net terms, the elasticity of substitution is greater than 1, and I know of quite a few suggesting the contrary.

Matt Rognlie writes that Piketty does not cover the distinction between net and gross elasticities. This is problematic, because net elasticities are mechanically much lower than gross ones, and the relevant empirical literature uses gross concepts. The vast majority of estimates in this literature, in fact, imply net elasticities less than 1 – well below the levels needed by Piketty as suggested by the graph below.

Source: Matthew Rognlie

the plausibility of an elasticity of substitution greater than one depends greatly on whether a gross or net measure is used

Matthew Rognlie writes that it is important to recognize that the plausibility of an elasticity of substitution greater than one depends greatly on whether a gross or net measure is used – a subtlety that is often overlooked. Suppose F(K,N) is the gross production function, with an elasticity of substitution of s. Then the elasticity of substitution for the net production function (“net elasticity”) equals the elasticity of substitution s for the gross production function (“gross elasticity”) times (A) the ratio of the net and gross returns from capital, and (B) the ratio of gross and net output. The ratio in (A) is below 1, while the ratio in (B) is above 1. Critically, the product of these ratios is always less than 1, so that the net elasticity is always below the gross elasticity.



Tue, 14 Apr 2015 09:03:02 +0100
<![CDATA[Measuring Political Muscle in European Union Institutions]]> http://www.bruegel.org/nc/blog/detail/article/1607-measuring-political-muscle-in-european-union-institutions/ blog1607

In this blog post we measure the number of top posts held by each nationality in the European Commission, the European Council and the European Parliament. We specifically count the Heads and Deputy Heads of the Cabinets of the Commissioners, the Director-Generals and Deputy Director-General of the Commission, the heads of the European Parliament Committees, the Director-Generals of the Parliament, the heads of the European Parliamentary Groups, and the Presidency of the European Council. For some groups, it is also possible to compare the change in relative numbers over time.

Top-level officials and parliamentarians represent the general European interest. Nevertheless, those in top positions are part of a tough bargaining structure among member states and are often seen as key people through whom the national political and administrative systems can have recourse. It is obvious that the number of positions is not necessarily equivalent to influence. Some top positions are more influential than others, certain portfolios may matter more for some countries than others, and even lower level position such as director can be more relevant to a specific portfolio etc. The number of top-level officials can also be the result of top people’s differing interests in becoming officials in Brussels and may reflect changing national dispositions towards careers in the EU capital. Still, the changing number of top positions probably gives a first indication of changing national influence. 

In the European Union’s law making institutions today, Germany holds the greatest number of high ranked positions as compared to the other nations

In the European Union’s law making institutions today, Germany holds the greatest number of high ranked positions as compared to the other nations. In the European Commission, German nationals account for 16% of Head of Cabinet and Deputy Head of Cabinet positions and 11.6% of Directorate-General and Deputy Director-General positions.  In the Parliament, 18% of Committee Chairs are German, as are 20% of the committee coordinators chosen by the parliamentary groups. Germany’s dominance in terms of the number of top-ranked political positions held in the EU, however, has not always been the norm. In contrast, France, which at the beginning of 2009 was the clear leader in Brussels-based institutions, has severely lost in terms of the number of top positions in Brussels and now holds fewer positions than Spain, a country that is significantly less populous.

The three charts below show how the number of top positions held by each nationality in the Cabinets of the Commissioners, the Directorate-Generals of the European Commission, the European Parliament Committees, and the Directorate-Generals of the Parliament, has evolved between 1999, 2009, and today. The numbers from 2009 (prior to the parliamentary elections in June) are interesting to consider since they reflect the make-up of the EU institutions just before the onset of the sovereign debt crisis.

Number of Commissioners’ Cabinet, Parliament Committee, and DG positions held by each nationality


In contrast with 1999, Germany now holds a greater number of these top-ranked commission and parliamentary positions (16 vs. 23), as does Spain (10 vs. 13) and France (11 vs. 12). The number of Italian nationals and UK nationals in these top positions, meanwhile, has dropped slightly from 16 to 14 and from 18 to 17 respectively. In 2009, however, it was France who led the pack with 19 of the top-ranked stations, a number that has now dropped significantly.

One also needs to consider that with the successive EU enlargements of 2004, 2007 and 2013, which were accompanied by an expansion of the commission, the numbers above may not accurately reflect the relative political influence of each country. We therefore include the chart below, which shows the aggregated commissioners’ cabinet positions, parliament committee chairs, and DG appointments held between 1999, 2009 and today, by each nationality as a percent of the total number of positions considered.  

the UK, Italy, and Spain have all seen relative declines in their commission and parliamentary appointments since 1999

As the chart makes clear, the UK, Italy, and Spain have all seen relative declines in their commission and parliamentary appointments since 1999, which is to be expected considering the inclusion of new member states in the Union. Germany, meanwhile, has seen almost no change in percentage of appointments, while France saw a substantial increase from 1999 to 2009 and a substantial decline since then.  

While the data are not comparable across time, it is also worth noting the nationalities of the chief cabinet members of the President of the European Council, as well as the nationalities of the top-ranking Members of the European Parliament (MEPs) in the parliamentary groups. When Herman Van Rompuy assumed responsibility as the first full-time president of the council in 2010, he chose two fellow Belgians as his Head of Cabinet and Deputy Head of Cabinet. Meanwhile, current President of the European Council, Donald Tusk, has appointed a fellow Polish national as his Head of Cabinet and a Luxembourg national as Deputy Head of Cabinet. In this post I do not analyze the ECB, which of course is led by Italian national Mario Draghi as President.

Within the parliamentary groups, there are two different statistics to consider. The first is the nationalities of those in executive positions, that is, the chairs and vice-chairs, or the presidents and vice-presidents of the seven political groups that comprise the European Parliament. The second is the coordinators, which generally determine a group’s position and voting orientation on the policies that the 20 parliamentary committees consider. These figures are summarized in the chart below.   

Whereas the nationalities among executive positions are relatively balanced with the five largest EU countries each holding between 12% and 8.5% of bureau positions, in terms of coordinator positions Germany holds 20% while the UK, Italy, Spain and France hold 14%, 9%, 7% and 6.5% respectively. Furthermore, when one considers that Germany and France hold a similar percentage of total MEP seats at 13% and 10% respectively, their relative position in terms of coordinators becomes even more striking.  

Overall, the main findings can be summarized as follows:

·  Germany holds the most top-ranked cabinet, DG, and parliamentary chair positions with 15.4% of appointments, as well as the most coordinator (20%) and executive positions (12%) in the parliamentary groups. 

·  The UK held the highest percentage (17%) of top cabinet, DG and parliamentary chair positions in 1999 and now trails behind Germany with 11.4% of positions. The UK also has the second highest percentage of coordinator and executive positions in the parliamentary groups at 14%, while accounting for only 9.7% of MEPs.

·  Italy, which tied Germany for the second highest percentage of top cabinet, DG and parliamentary chair positions in 1999, now holds only 9.4% of these positions. Italy accounts for the third highest percentage of coordinators and ties Germany in terms of executive positions while accounting for 9.7% of MEPs

·  The number of top cabinet, DG, and parliamentary chair positions held by Spaniards has increased since 1999 but has decreased as a percent of total positions from 9.5% to 8.7%.

·  France held the highest percentage (16.8%) of top cabinet, DG and parliamentary chair positions in 2009 but has now dropped below Spain to the 5th highest spot with 8% of positions. France also holds only 8.5% of executive positions and 6.4% of coordinator positions while accounting for 10% of MEPs.

France’s drop in share of powerful appointments over the past few years has been substantial, and they indeed now trail behind Spain

Do these numbers then, support often-heard complaints that Germany is becoming a hegemonic power in Europe? Or Jean Quatremer’s article in Libération a few weeks ago lamenting France’s fall from power? In terms of number and percentage of influential political positions held by each nationality (at least for the ones considered here), Germany is certainly the frontrunner. Furthermore, the data from 2009 suggests that France’s drop in share of powerful appointments over the past few years has been substantial, and they indeed now trail behind Spain. France of course, is not alone in seeing its share of these influential positions decline, which is to be expected as more member states have joined the Union, requiring a rebalancing of power. However, if numbers and shares of position are a sign of national influence, then Germany has experienced a relative power gain.

Mon, 13 Apr 2015 16:37:05 +0100
<![CDATA[Deferred tax credits may soon become deferred troubles for some European banks]]> http://www.bruegel.org/nc/blog/detail/article/1606-deferred-tax-credits-may-soon-become-deferred-troubles-for-some-european-banks/ blog1606

The EU Commission is reportedly collecting evidence on the use of so-called deferred tax credits (DTCs) in banks in Greece, Portugal, Spain and Italy, to see whether some recent regulatory changes and recognition practices constitute hidden state aid. Here I review what these instruments are, and why the issue is important.

Legislation enabling DTAs to be transformed into deferred tax credits (DTCs) means that they are not contingent on future profits, and can be counted as capital regardless of whether the bank makes a profit or a loss.

Deferred Tax Assets (DTAs) are instruments that may be used to reduce the amount of future tax obligations. Normally, DTAs are contingent on profits: they can only be used if a bank generates enough taxable profit to give rise to a tax bill to offset their use. 

Basel III treats DTAs differently, depending on how much they can be relied upon when needed to help a bank absorb losses. The value of DTAs that rely on future profitability can only be realised to the extent that a bank actually generates taxable profits in the future. The Capital Requirement Regulation (CRR) therefore requires that these DTAs be deducted from CET1, subject to a phase-in transition.

However, several countries in the South of the Euro area have introduced legislative changes that enable DTAs to be transformed into a different instrument - deferred tax credits (DTCs) - that are not contingent on future profits, and can be counted as capital regardless of whether the bank makes a profit or a loss. This practice is what the Commission is now looking into. 

Source: ECB

Figure 1 shows the stock of DTAs that rely on future profitability held by banks at the starting point of the Asset Quality Review (AQR). The aggregate stock prior to the comprehensive assessment amounted to around EUR 105.6 billion, equivalent to around 10.6% of aggregate CET1 starting capital. Greece and Portugal stand out as extreme cases, where DTAs are equivalent to more than 40% and 25% of pre-AQR Common Equity Tier 1 (CET1) capital. 

While country-level differences in absolute stocks of DTAs may be driven to a significant extent by the size of the banks, the differences in DTA relative to CET1 indicate divergent recognition practices.

While country-level differences in absolute stocks of DTAs may be driven to a significant extent by the size of the banks, the differences in DTA relative to CET1 indicate divergent recognition practices. And since the recognition of DTAs depends on an assessment of the probability of banks to generate sufficient taxable profits in the future, these must have been different as well.

The ECB report conducts an exercise dividing the DTA stock by an estimate (from the baseline scenario of the stress test) of future annual tax expenses. By doing this, it is possible to determine an approximate number of years of profits that a bank would need in order to realise the full value of its profit-linked DTAs. This gives a prima facie indicator of how strict the practices on DTA recognition have been. 

The result is that for 75 banks (the majority), the stock of profit-linked DTAs held would be equivalent to 5 years or less of annual tax expenses, but for some individual institutions, realizing the full value of all the DTAs held would require baseline taxable profits generated over significantly more than 10 years. At the same time, 31 participating banks are not projected to make any profit during the stress test baseline scenario, but they still hold around EUR 15.7 billions of DTA stock, suggesting that recognition practices may have been very lenient in some cases.

This should already help clarify why DTAs are not a perfectly transparent instrument and why CRR suggest they should be excluded by the definition of CET1.

For some banks in the South of the Euro area, which generated big losses during the crisis and hold a significant amount of DTAs relative to their core capital, this would have been problematic. 

Article 39.2 of the Capital Requirement Directive (CRD IV) has provided a sort of escape clause, as it states that deferred tax assets would still be accepted as capital, if they were transformed on a mandatory and automatic basis into a tax credit and, in specific cases, replaced with a direct claim on the government.

This is probably the reason why several countries in the South of the Euro area have introduced legislative changes that enable the transformation of DTAs into deferred tax credits (DTCs). The difference, as said, is that DTCs are not contingent on future profits, and they could be called upon regardless whether the bank makes a profit or a loss. Banks would get a discount on tax if they make a profit, or a payment form the government, if they end up making a loss. 

The WSJ reports that Spain and Italy had already introduced these changes by December 2013, while Portugal and Greece have passed laws more recently before the ECB’s AQR and stress tests. DG competition is now questioning whether this amounts to hidden (and illegal) state aid, as the government of countries where these instruments have been counted as capital could be called upon to back those DTCs.

The change from DTAs to DTCs allows the instruments to still count as capital, but the counterpart to that is a further strengthening of the negative bank-sovereign link.

The change from DTAs to DTCs allows the instruments to still count as capital, but the counterpart to that is a further strengthening of the negative bank-sovereign link. DTCs are in fact quite reliant on government intervention if the bank does not actually realise profits. The Greek variation on the theme is a good example of that. Reuters reported that the law initially required that if a bank calling on the DTC as capital failed to produce profits in the future, the government should provide the equivalent of the tax refund in GGBs (thus potentially strengthening the impact of government troubles on the banks), but the EBA asked Athens to amend the law so that the government contribution would need to be in cash (thus potentially strengthening the impact of banks troubles on the government coffers). 

A conclusion by the Commission that the conversion of DTAs into DTCs constitutes illegal state aid could wipe out a part of what has been counted as capital in those banks that have been relying extensively on the instrument. This could have potentially harmful consequences, especially in the case of Greece, where the use of these instruments seems to have been more extensive, the situation of the government finances seems to be more precarious and banks are experiencing significant liquidity issues.

More generally, regulators do not think profit-linked DTAs are high quality enough to be counted as capital, and it is hard to dispute that the main achievement of the conversion into DTCs is to qualify these instruments by strengthening the link between the banks and their sovereigns. Easing this link is one of the most important objectives of the regulatory initiatives undertaken over the last years, including the creation of a single supervisor. There seems to be no evident reason why this effort should not be continued now.

Thu, 09 Apr 2015 09:57:09 +0100
<![CDATA[ECB Quantitative Easing on track]]> http://www.bruegel.org/nc/blog/detail/article/1605-ecb-quantitative-easing-on-track/ blog1605

On 9 March 2015 the ECB began purchasing European sovereign and agency bonds and supranational debt securities under the Public Sector Purchase Programme (PSPP). In our policy contribution published on 11 March 2015, we explained that the ECB would purchase sovereign debt according to the capital keys and according to the maturity distribution of outstanding debt while taking into consideration the self-imposed 2-30 year remaining maturity range and the 25% and 33% issue and issuer limits.  Today, the ECB published its PSPP holdings and the corresponding weighted average remaining maturities for each member state and the supranational institutions after the first month of purchases. The table below compares our calculations with the actual purchases.

Note: We did not provide values for Estonia, Luxembourg and Lithuania because their debt level is so small and data is scarce.

For the time being, the Eurosystem is perfectly on track with its commitments in terms of total volume of sovereign bonds purchased and also in terms of country allocation. Indeed, its actual purchases are roughly in line with our previous calculations. During the first month of the programme, the Eurosystem purchased €41.7 billion in sovereign debt instead of the expected €42.6 billion (i.e. €44 billon minus what should be allocated to Greece and Cyprus as they are not currently eligible for the reasons detailed in our policy contribution). The only notable difference with our predictions comes from Latvia and Malta for which it purchased much less debt than what we expected. This could be due to the small size of the markets or maybe because it anticipated that the 25% issuer limit will be reached quickly, and therefore chose to space the purchases out over the length of the program.

In terms of the maturity structure of the purchases, the weighted average maturities published today correspond only very broadly to our estimates, which were calculated from the actual maturity distribution of each country’s outstanding 2-30 year debt before QE started, thus ensuring market neutrality of the purchases. For instance, significant differences can be noted for Germany, Spain, Portugal and the Netherlands. Interestingly, in Germany, the average maturity of the bonds purchased is shorter than the one of the overall observed distribution, despite negative rates on the shorter end of the yield curve. However, the weighted average maturities of the purchases are both above and below our estimates depending on the countries. It is therefore difficult to conclude yet that these discrepancies indicate that the Eurosystem significantly and purposefully deviates from purchasing according to the current outstanding distribution. Indeed, the ECB itself notes that "deviations could reflect (...) the issue share limits taking into account holdings in other Eurosystem portfolios as well as the availability and liquidity conditions in the market during the implementation period"

Tue, 07 Apr 2015 18:05:31 +0100
<![CDATA[Pessimistic views of China’s economy are unconvincing]]> http://www.bruegel.org/nc/blog/detail/article/1604-pessimistic-views-of-chinas-economy-are-unconvincing/ blog1604

In late 2001, I first used the phrase BRIC to discuss the likely rise of Brazil, Russia, India and China as growing shares of the world economy and outlined a number of scenarios in which it seemed pretty inevitable that their share would rise sharply by the end of that decade.  In 2003, along with some Goldman Sachs colleagues, we first projected what the world might look like by 2050 if the BRIC and other large emerging economies reached their potential, a world that would be dramatically different than the one prevailing at the time.

At $10 trillion, China is around one and a half times the size of the other three BRIC countries put together

It was these two papers that led to the beginning of the focus on the phrase BRIC and indeed, my own central role in the story that since unfolded. What is especially noteworthy over the subsequent 13 and ½ years is just how dominant China has become within the BRIC group in terms of economic size, as well of course, it’s increasing importance to the world economy. At the end of 2014, China’s economy surpassed $ 10 trillion in current US$ and according to the World Bank, in purchasing power parity terms (PPP), actually was larger than the US. At $ 10 trillion, China is around one and a half times the size of the other three BRIC countries put together. It is also bigger than the combined size of France, Germany and Italy. It is about twice the size of Japan (in the 2003 Paper, we thought it might take China until 2015 to reach the size of Japan, never mind twice). Its economic size has nearly risen tenfold since I first mentioned the word “BRIC” and since the 2008 global credit crisis, China has doubled its own size.

In terms of size and growth, perhaps it is especially important to point out that not only did China grow at lot more than expected in the last decade, which was also true for the other three BRIC countries, but so far, in this decade, it is the only one that has –so far- surpassed my expectations.  The other three, Brazil and Russia in particular, India less so, have disappointed my expectations notably. Back in 2010, I assumed China would grow by 7.5 percent over the decade 2011-2020. After four years, it has averaged 8.0 percent.

All of this means that China is still on track to achieve the 2027 dateline for when it could surpass the US in current US$ terms, and also, due to China’s dominance , the BRIC countries collectively could become as large as the G7 countries collectively. Of course, 12 years is a very long time and a lot of things could develop differently, but if China carries on the way it has been developing, it will occur. Importantly in this regard, I would like to emphasise that I assumed China would slow in terms of its real GDP growth rate, so unless it slows dramatically, this slowdown is consistent with China becoming the world’s largest economy. I will turn to the critical issues facing China below.

While measures of inequality suggest that the gap between the richest and lowest has risen,  hundreds of millions of Chinese have been taken out of poverty in the last 13 and ½ years

It is of course, exceptionally important to point out that nominal GDP growth in its own right is not necessarily so key for China’s inhabitants as it is their individual wealth that matters to all of them (along with probably their health and happiness). Given that China’s population is widely regarded to be reasonably stable, or if anything, declining modestly, the country’s average GDP per capita- the simplest measure of wealth- should probably still broadly follow the path of its nominal GDP. Importantly again, GDP per capita has jumped sharply to nearly $8 thousand per head, reflective of the large growth rate. While measures of inequality suggest that the gap between the richest and lowest has risen, it is also the case, that hundreds of millions of Chinese have been taken out of poverty in the last 13 and ½ years, a key contributor to the UN achieving its millennium goal of halving poverty by 2015. In fact, this goal occurred by 2010, five years earlier, and has led to UN and World Bank researchers suggesting that the acceptable level to escape poverty might need to be raised. China has been easily the most important country contributing to these remarkable developments.

So what are China’s prospects now?  What does it need to focus on as policy priorities? And how should it deal with its international importance and role in global governance, including the use of its currency, the RMB?

In recent years, I have participated in many debates with other well-known commentators who are much more sceptical about China’s future, and while of course, I may be blind to the validity of their concerns, I find many of the arguments unpersuasive. Much of this is due to one simple fact, and that is the urbanisation of China’s citizens.  According to official data, just over 50 percent of China’s people today live in cities, a vast rise compared to 20 years ago, but still significantly below the 70 percent that is typically found in more advanced and wealthy economies. As I shall explain, if China were already 70 percent urbanised today, then I would share, at least some of, the concerns of others. There is however a significant amount of evidence going through history going as far back as the industrial revolution in the UK, that urbanisation is a huge force that propels economic growth as urban dwellers drive all sorts of positive economic forces, both as consumers and producers. The OECD has recently published a very interesting study, consistent with this, that suggests the largest urban areas are typically associated with the strongest improvements in productivity.

If it were true that China is closer to the 70 percent norm, then some of the powerful forces that are so natural would cease, and I would be less optimistic. Of course, it is possible that the official statistics about the level of urbanisation today in China underestimates the actual true figures, and I know some that believe this, but I don’t see the evidence as compelling.

China needs to go ahead with stated plans to give so called migrant workers the same rights as those from urban areas.

Linked to this simple observation, the most important policy that I believe China needs to pursue is to go ahead with stated plans to give so called migrant workers the same citizen rights as those that originate from urban areas. While I can see the challenges that may be raised by a sudden mass conversion in all cities, if true urban dwellers who have moved from the country can’t get the full rights, it follows that the conceptual benefits of urbanisation – starting with the very basic desire to own a property, and then to furniture it with consumer durables- cannot occur. It also follows that these migrant workers will be likely to maintain high levels of personal savings that they may need to help them to achieve some of the available resources that modern policies are making more available to recognised urban dwellers such as healthcare and insurance.

I have met some China sceptics that argue that due to the success of the one child policy, there are not enough male urban migrants to participate in the presumed further urbanisation process assumed above, which if true, would be an issue. In this regard, I also view the decision to formally dismantle the one child policy as very sensible. Economic growth is driven by two factors over the long term, the number of people that work, and their productivity. If China had not relented, then it was highly likely that China would face a serious demographic challenge in the future. I also believe that as individual parents become wealthier, they are likely to derive great comfort from deciding how many children they might want. There is quite a bit of evidence that as people get wealthier (and more informed), they typically choose to have less children anyhow, so any fears that some policymakers may have of a renewed population explosion are probably not valid. So as I say, dismantling the one child policy in a non-disruptive manner is highly welcome.

The share of consumption in overall GDP needs to be much higher. 

Against the background of these two critical steps, I admire the government’s desire to grow the share of consumption in overall economic affairs. Indeed if the above two key steps are adopted with confidence, awareness and sincerity, they might be the biggest steps necessary to achieve what many often think is an elusive goal for China.  From what I can tell, based on the official data, it is probably the case that the share of consumption in overall GDP has risen modestly in recent years, to somewhere between 35 and 40 percent of GDP.  It needs to be much higher, not to the unsustainable level of 70 percent that the US reached –and probably contributed greatly to the global credit crisis- but something in the 50 to 55 percent vicinity at least.  Indeed, something around 60 percent would be quite normal and sustainable. 

In addition to pursuit of full urban rights for migrant workers, steps to ensure a credible social security and healthcare system and the development of a pension scheme of some sort are other necessary ingredients for helping the rise of the consumer, as this would allow for a decline in China’s too high personal savings rate.  Other normal cyclical factors such as employment and strong real income growth are obviously necessary too but it is these structural forces that need to change more.

It is possibly the case that, already the true level of personal consumption might be actually higher than is generally captured in aggregate economic data , due to the peculiarities about how investment estimates are made. Further improvements to all official economic statistics are an obvious necessity for Chinese policy (as indeed is true virtually everywhere in the world). But even with any revisions, it is important that China does make progress to raise the role of its consumer.

Part of this rationale is simply due to the fact that it is quite hard to believe that the remarkable growth of each of exports and investment spending of the past 20 years or so, can continue.  Exports have already slowed significantly since the global credit crisis, which is not surprising given that the main determinant of export growth is usually domestic demand in export markets as well as the relative price of exports, of which a nation’s currency is usually critical. With the weakness of demand in many developed countries and the steady appreciation of the RMB, the days of rampant export growth for China are almost certainly over. This doesn’t mean China cannot export or cannot compete, but it’s seemingly never ending rise as an exporter was not sustainable in a world where many others like to export, and in some cases, have urgent need.

It is important that China does make progress to raise the role of its consumer.

Currently it is the high level of investment spending that is more concerning, both because it is not sustainable but also because if, as the last few years suggests, the same amount of investment is producing less additional GDP than before, then this is something that is not desirable and likely to involve economic losses. Luckily as with a number of other challenges, policymakers recognise this dilemma and seem eager for investment to grow more slowly, and make room for consumption to rise.

Consistent with these themes, I am a big fan of the focus on the “quality” of growth, the desire for a more knowledge based economy and society, and these are mutually consistent as is the necessary desire for a shift to less polluting and more efficient energies so that the quality of the urban and rural environment can be maintained in China.

Which brings me to the last two topics, finance and the role of China in global economic governance.

It is way beyond time that the US and Europe made space for China to have a bigger role in the IMF and World Bank.

It is going to be fascinating to see whether the IMF chooses to include the RMB in its SDR basket at the end of 2015, when the Fund is due to undertake its mandatory five year update to the currency composition. China clearly has satisfied two of the main three ingredients now for many years, both its economic size and its share of world trade.  While it might not satisfy all observers test of the third, its usage as a reserve currency, the rise of the RMB in this regard in recent years is noteworthy and I think it is really important than the IMF go ahead and make a positive decision on the RMB inclusion and not get swayed by arguments that China’s currency isn’t truly free floating and possibly related resistance from the US to give China more monetary importance globally. As I have long argued elsewhere, it is way beyond the time that the US and Europe made space for increased China ( and other large emerging countries) to have a bigger role in the IMF and World Bank, and to play their required stepped up role inside the G20. While US internal politics is probably holding back the Congressional approval of agreed plans by G20 members, it would be a bad outcome if these matters stopped the inclusion of the RMB in the SDR.

In this regard, I applaud the recent decision of the UK government to choose to be one of the first countries to sign up to be a member of the newly formed AIIB.

I am not as convinced as many as the need for the RMB to be fully floating currency as that of the Dollar or Euro, at least the urgency of the need, and think it is much more important that China develop its domestic interest rate and other capital markets before it opens up completely the use of its currency.

Next year, 2016 promises to be a hugely historic moment for the world and China when China becomes the chair of the G20 in January. This is a chance for China to show that it is both capable and eager to take more global responsibility, consistent with its economic might. China should seek to lead the G20 by placing policies on the agenda that it would not face opposition from the rest of the world. In this regard,  I am pursuing dialogue with friends and acquaintances in policy circles to suggest that China should  place the topic of antimicrobial resistance ( AMR) front and centre of that agenda. I am currently leading a Review for the UK Prime Minister to find a solution to this massive, global and shared problem and am eager for this challenge to be elevated to becoming a G20 issue.  we are all heading to an environment where we are going to be resistant to antibiotics which will endanger the health of society around the world as we know desire including in hospital treatments as well as for common modern procedures.In a paper, my Review team published in December 2015, we showed that if not solved by 2050, there could be at least 10 million people dying a year, more than one million of which would be in China. We simultaneously showed that there could be a loss of an accumulated $ 100 trillion of global GDP, and that China and other leading emerging powers would be the most negatively affected.  I cannot think of a more fitting development than for China to lead the world through its first G20 hosting and help us all avoid this unnecessary outcome. 

Tue, 07 Apr 2015 13:47:16 +0100
<![CDATA[Secular stagnation and capital flows]]> http://www.bruegel.org/nc/blog/detail/article/1603-secular-stagnation-and-capital-flows/ blog1603

What’s at stake: Former Chairman of the Federal Reserve and new blogger Ben Bernanke has generated many discussions this week by challenging the secular stagnation idea. Bernanke argues, in particular, that the stagnationists have failed to properly take into account how capital flows can mitigate or even eliminate the problems generated by secular stagnation at home.

The global secular stagnation hypothesis

Ben Bernanke writes that secular stagnation requires that the returns to capital investment be permanently low everywhere, not just in the home economy. All else equal, the availability of profitable capital investments anywhere in the world should help defeat secular stagnation at home. The foreign exchange value of the dollar is one channel through which this could work: If US households and firms invest abroad, the resulting outflows of financial capital would be expected to weaken the dollar, which in turn would promote US exports. Increased exports would raise production and employment at home, helping the economy reach full employment.

Ben Bernanke writes that many of the factors cited by secular stagnationists (such as slowing population growth) may be less relevant for other countries. Currently, many major economies are in cyclically weak positions, so that foreign investment opportunities for US households and firms are limited. But unless the whole world is in the grip of secular stagnation, at some point attractive investment opportunities abroad will reappear. If that’s so, then any tendency to secular stagnation in the US alone should be mitigated or eliminated by foreign investment and trade.

Paul Krugman writes that international capital mobility makes a liquidity trap in just one country less likely, but it by no means rules that possibility out. You might think that you can’t have a liquidity trap in just one country, as long as capital is mobile. As long as there are positive-return investments abroad, capital will flow out. This will drive down the value of the home currency, increasing net exports, and raising the Wicksellian natural rate. But this isn’t right if the weakness in demand is perceived as temporary. For in that case the weakness of the home currency will also be seen as temporary: the further it falls, the faster investors will expect it to rise back to a “normal” level in the future. And this expected appreciation back toward normality will equalize expected returns after a decline in the home currency that is well short of being enough to raise the natural rate of interest all the way to its level abroad.

Tyler Cowen writes that it’s the wrong comparison of interest rates and the wrong metric of expected currency appreciation. Rather than looking at real interest rate differentials, take the market’s implied prediction for the euro to be the forward-futures exchange rates.  These futures rates match the differences in nominal rates on each currency across the relevant time horizons.  Those equilibrium relationships hold true with or without secular stagnation, whether in one country or in “n” countries, and from those relationships you cannot derive the claim that expected currency movements offset cross-border differences in real rates of return. The best way to speak of the non-ss countries, for international economics, is that their corporate sectors offer nominal expected rates of return which are relatively high, compared to their nominal government bond rates.  Once you see this as the correct terminology, it is obvious that capital still will flow outwards to the non-ss countries, even with expected exchange rate movements. 

Negative interest rates in theory and practice

Ben Bernanke writes that if the real interest rate were expected to be negative indefinitely, almost any investment is profitable. For example, at a negative (or even zero) interest rate, it would pay to level the Rocky Mountains to save even the small amount of fuel expended by trains and cars that currently must climb steep grades. It’s therefore questionable that the economy’s equilibrium real rate can really be negative for an extended period. Bernanke concedes that there are some counterarguments to this point; for example, because of credit risk or uncertainty, firms and households may have to pay positive interest rates to borrow even if the real return to safe assets is negative. Also, Eggertson and Mehrotra (2014) offers a model for how credit constraints can lead to persistent negative returns.

Larry Summers writes that negative real rates are a phenomenon that we observe in practice if not always in theory. The essence of secular stagnation is a chronic excess of saving over investment. Ben Bernanke grudgingly acknowledges that there are many theoretical mechanisms that could give rise to zero rates. To name a few: credit markets do not work perfectly, property rights are not secure over infinite horizons, property taxes that are explicit or implicit, liquidity service yields on debt, and investors with finite horizons.

Secular stagnation vs. global savings glut: the policy implications

Matt O’Brien writes that even though secular stagnation and the global saving glut are distinct economic stories, it's easy to confuse them since they look the same. Output is below potential and interest rates are low in both, which is just another way of saying that people want to save more than they want to invest. Secular stagnation says it's because there isn't enough demand for investment, while the global saving glut says, yes, it's because there's too much supply of savings. Now why does it matter which it is? Well, as Bernanke points out, different problems have different solutions. Secular stagnation means the economy is broken and the government needs to fix it by giving us more inflation and more infrastructure spending. But the global saving glut means the economy wouldn't need any fixing if governments would stop breaking it by manipulating their currencies down to run bigger and bigger surpluses and amass bigger and bigger piles of dollars.

Ben Bernanke writes that there is some similarity between the global saving glut and secular stagnation ideas. An important difference, however, is that stagnationists tend to attribute weakness in capital investment to fundamental factors, like slow population growth, the low capital needs of many new industries, and the declining relative price of capital. In contrast, with a few exceptions, the savings glut hypothesis attributes the excess of desired saving over desired investment to government policy decisions, such as the concerted efforts of the Asian EMEs to reduce borrowing and build international reserves after the Asian financial crisis of the late 1990s.

Ben Bernanke writes that of course, there are barriers to the international flow of capital or goods that may prevent profitable foreign investments from being made. But if that’s so, then we should include the lowering or elimination of those barriers as a potentially useful antidote to secular stagnation in the US. Matt O’Brien writes that we used to have a global saving glut caused by other country's policy decisions, but now we have a global saving glut caused by other country's secular stagnation. If that's right, then it's not going to be enough to browbeat countries that aren't spending a lot into spending more. 

Ryan Avent writes secular stagnation creates a dilemma. The ageing societies of the rich world want rapid income growth and low inflation and a decent return on safe investments and limited redistribution and low levels of immigration. Well you can't have all of that. The rich world could address the imbalance within its economies while simultaneously addressing the geographic imbalance by allowing much more immigration. Investing in people in developing countries in hard and risky. But if those people wanted to come to America and were allowed to, then lots of things change. Investing in those people would not then require that money be sent abroad, to a different financial system in a different currency overseen by a different government. If the savings are in rich countries and the most productive investments are in poor ones, then the savings can move or the investments can move. 

Tue, 07 Apr 2015 08:38:10 +0100
<![CDATA[Money growth in the euro area is speeding up]]> http://www.bruegel.org/nc/blog/detail/article/1602-money-growth-in-the-euro-area-is-speeding-up/ blog1602

The recent release of monetary indicators by the ECB has shown a gradual acceleration of money growth in the euro area. The growth rate of the broadest monetary aggregate calculated by the ECB, M3, was 4 percent in February 2015 compared to February 2014. 

However, as the literature on aggregation-theoretic measurement of money argues (see eg here), the simple-sum measures of money (the ECB publishes such measures) are not suitable measures of monetary developments.  This is because they simply add up various assets, which differ in the degree of their monetary and investment services. For example, cash and a two-year bank bond (which are both included in the ECB’s M3 aggregate) are quite different assets and are unlikely be perfect substitutes for money holders.

The so-called Divisia-money aggregates are derived from economic aggregation and index number theory and provide a better way to measure the stock of money. In November last year I developed a new Divisia-money dataset for the euro area, which has now been updated. The good news is that Divisia-money growth has also accelerated. The 12-month growth rate of Divisia M3 in February 2015 was 5.3 percent, which is the fastest growth rate since mid-2009 (Figure 1).  

Figure 1: 12-month percent change in euro-area M3 monetary aggregates

Does money matter in the euro area? “yes” if we use Divisia-money measures, but “not really” if we use simple-sum measures of money

Does money matter in the euro area? The answer I gave in my earlier research was a clear “yes” if we use Divisia-money measures, but “not really” if we use simple-sum measures of money (see my previous blogpost summarising my results here). 

I have updated and refined my calculations, which confirmed my earlier findings. Euro-area output and prices are estimated to respond positively to changes in Divisia-measures of money (Figure 2), but I found weaker and generally non-significant results when I used simple-sum measures of money. 

The acceleration of Divisia-money growth does not imply that the euro-area economy is out of the woods, but at least it provides a small positive signal that things are improving. 

Figure 2: Euro-area output and price response to a Divisia-money shock

Note: The solid blue line indicates the point estimate of the impulse response function of real GDP (first panel) and GDP deflator (second panel) to a shock in the monetary aggregate, while the dashed red lines indicate the boundaries of the 95 percent confidence band. The horizontal axis indicates the number of quarters after the shock (with the shock occurring in quarter 1).

The acceleration of Divisia-money growth does not imply that the euro-area economy is out of the woods, but at least it provides a small positive signal that things are improving. 

Thu, 02 Apr 2015 13:13:47 +0100
<![CDATA[European banking supervisor should limit banks’ exposure to all eurozone governments, not just Greece]]> http://www.bruegel.org/nc/blog/detail/article/1601-european-banking-supervisor-should-limit-banks-exposure-to-all-eurozone-governments-not-just-greece/ blog1601

On March 25 Europe’s new watchdog for banks, The Single Supervisory Mechanism, imposed limits on Greek banks’ holdings of government debt. The measure has been criticised for putting undue pressure on the Greek government to come to terms with its official creditors. But it is an important step to increase Greek financial stability and the likelihood of Greece staying in the euro. The conditions are now perfect for the common supervisor to introduce exposure rules across the euro area, which would greatly increase the stability of monetary union.

Introducing exposure rules across the euro area would greatly increase the stability of monetary union

In January, Greek banks held €15.5 billion of Greek government debt, of which €8.5 billion was short term T-bills. On top of this came €9.3 billion of loans given to the Greek state. These numbers compare with €30 billion of equity after accounting for €39 billion of provisions made against existing bad loans. Greek banks therefore remain highly exposed to the Greek state. Any banker should reduce exposure to clients talking openly about defaulting. Greek government debt is not risk-free, and the Supervisor rightly reminded banks to treat it accordingly.

Should the Greek government decide to default, Greek banks would make significant losses and be subject to a bank-run. Since Bagehot, the approach to such a situation has been to provide abundant liquidity to solvent banks and to close the insolvent ones. The ECB so far has been providing abundant funding, despite doubts about monetary financing. In the case of a default, the greater the risk of insolvency of Greek banks due to their exposure to the state , the more difficult it will be to make the case for funding.

If the euro area were a country, the watchdog would have closed the banks that became insolvent and put them in recovery and resolution. Other banks would quickly take over the business and the region would not suffer a shutdown of its financial system. Closing down large parts of Greece’s banking system would, however, be difficult as new banks are unlikely to enter the market due to the high legal and political uncertainties. The alternative option would be internal and external capital controls. Yet this is risky and undermines the cohesion of the euro area; such controls de-facto degrade the euro in Greece to a different currency. An exit from the euro area would then be almost inevitable.

The imposed limits therefore actually renders the Greek banking system more robust to Greek political vagaries. It increases the probability of liquidity provision in the case of an outright default and thereby increases Greek chances of staying in the euro.

Exposure limits to sovereign debt of individual countries are often rejected as they could increase funding costs in the short term. [This is one reason why a recent report by the European Systemic Risk Board could not come to a clear recommendation on the issue.] This worry is warranted for Greece. Greece would need to quickly come to an agreement with its official creditors, instead of relying on short-term ECB funding. For the other euro area countries, however, the best moment to introduce exposure limits is now.

Danièle Nouy is right in pushing banks to reduce exposure to their sovereigns.

Bond prices are at an all-time high and yields are very low thanks to the ECB’s quantitative easing (QE) programme. In fact, the ECB will likely face the difficulty of identifying the appropriate sellers for sovereign debt. Danièle Nouy, the President of the Supervisory System at the ECB, is therefore right in pushing banks to reduce exposure to their sovereigns. This would not jeopardize government access to funding or undermine banks’ balance sheets, and the Single Supervisory Mechanism can thereby fulfil the political mandate that was at the origin of its creation: to break the toxic link between banks and governments. This will make Europe’s banking system safer and less dependent on politics. The ECB’s QE programme provides an excellent opportunity to reduce sovereign exposures and render Europe’s monetary union more stable.

Wed, 01 Apr 2015 13:41:24 +0100
<![CDATA[Poor and under pressure: the social impact of Europe's fiscal consolidation]]> http://www.bruegel.org/publications/publication-detail/publication/877-poor-and-under-pressure-the-social-impact-of-europes-fiscal-consolidation/ publ877
  • Europe faces major challenges related to poverty, unemployment and polarisation between the south and the north, which impact adversely the current living conditions of many citizens, and also negatively impact medium- and long-term economic growth.
  • Fiscal consolidation exaggerated social hardship. In vulnerable countries there was no alternative to fiscal consolidation, but in most EU countries and at aggregate EU level, consolidation was premature when the cyclical position of the economy was deteriorating.
  • Spending on social protection was shielded relative to other spending categories, but public bank rescue costs were high. While the changes in the tax mix favoured job creation, the overall tax burden become more regressive.
  • There is an increasing generational divide between the elderly and the young in terms of social indicators. Social spending on elderly people was favoured relative to spending on families, children and education. There is now a serious danger that a lost generation might develop in several member states.
  • Forceful policies should include bold structural reforms, better use of the European economic governance framework, more demand promotion, and a revision of national tax/benefit systems for fair burden sharing between the wealthy and poor.

Poor and under pressure: the social impact of Europe's fiscal consolidation (English)
Tue, 31 Mar 2015 14:52:07 +0100
<![CDATA[The ‘pub economics’ of structural reforms]]> http://www.bruegel.org/nc/blog/detail/article/1600-the-pub-economics-of-structural-reforms/ blog1600

Professor Nicholas Barr of LSE used to kick off his public economics lectures by illustrating cases of what he facetiously named ‘pub economics’, defined as something that everyone knows to be true, but is not. In his lectures, examples of these misconceptions were the notion that free university education would unequivocally lead to improved access for students, or that increasing the retirement age would negatively affect (youth) unemployment.

Within the current European context, we might be observing a display of pub economics also for what concerns structural reforms. After over 7 years of crisis, everybody – ranging from politicians to policy-makers, including the press[1] – seems to know that structural reforms might well be beneficial for long-term growth, but have a dragging effect in the short-run[2]. However, is this really the case? As Rodrik (1996) neatly puts it, “for a proposition that is startlingly lacking in empirical support, [this] piece of conventional wisdom is surprisingly strongly held”.

The recent available analysis on Europe actually points in the opposite direction. Making use of its in-house structural model of the world economy, IMF (2012) shows how the potential gains from reform in the euro area are large and materialise prevalently in the longer term. However, the impact is expected to be positive also in the short-run for all reforms considered (see Figure 1). Similar predictions are made by ECB (2015), which makes use of its EAGLE multi-country micro-founded model to show the impact of product and labour market reforms. “The positive impacts of reforms on GDP can already be observed in the first year”, the ECB concludes. Making use of DG ECFIN’s QUEST model, European Commission (2013) does not find detrimental short-term effects of reforms on GDP or employment in selected euro area countries[3], with the possible exception of Greece, where they appear to be marginally negative. Finally, drawing on empirical analysis of 30 years of reform in OECD countries, OECD (2012) echoes all the above for what concerns the impact of product market, labour market, and tax reforms on employment and GDP.

Figure 1. Short- and long-term impact of reforms in the euro area on GDP level (%)

Source: IMF (2012)

As multiple mechanisms are at play when it comes to reforms, it is important to understand the channels through which competitiveness-enhancing measures can affect growth in the short term. Figure 2 (below) offers an overview of the main channels identified by the literature[4].

The crucial takeaway is that reforms - either directly through business restructuring and temporary layoffs, or indirectly through the real interest rate - are indeed expected to dampen consumption. However, a counter effect is expected to stem from a boost in short-term investment based on prospects for higher productivity, real wages, and incomes in the future. The key issue is which set of forces prevails.

As shown above, under a wide range of assumptions and estimation techniques, it seems reasonable to expect that the pick-up in investment and, to a smaller degree, an expanding current account will more than off-set the adverse dynamics of consumption, refuting the “short-term pain before long-term gain” principle at aggregate level. This however does not imply that individual categories will not be severely affected by policy changes, and hence the complexity of the politics of reform adoption (see Williamson, 1994).

Figure 2. Main theoretical links between competitiveness-enhancing reforms and short-term GDP growth

Source: Bruegel

With this theoretical framework in mind, three key observations can be made:

1. Sequencing and packaging of reforms. Cutting red tape, abolishing state monopolies, reducing EPL, liberalising shop opening hours can all be expected to affect consumption and investment decisions in different ways and with different time horizons. In particular, revenue-neutral tax reforms reducing distortions among factors of production are expected to benefit growth straight away (see Figure 1 and IMF, 2004). On the other hand, selected labour market reforms may be marginally detrimental to short-term growth, particularly in severely depressed economies (see OECD, 2012). This heterogeneity offers scope for optimal sequencing and packaging of reforms, as argued inter alia by Cacciatore et al. (2012) and IMF (2006).

2. The centrality of access to credit. Unlocking investment is crucial to the immediate success of structural reforms. As such, functioning bank lending channels and credit markets are a key precondition for reforms to unlock growth from the onset. With this in mind, ensuring the soundness of the financial system and SMEs access to credit should be prioritised against other structural reforms, if the latter are to pay off quickly.

3. The role of fiscal policy. The absence of major depressing effects does not support the view that reforms can only be implemented if accompanied by substantial fiscal expansion, as acknowledged by OECD (2012). This becomes particularly crucial in the current discussions about the euro area fiscal framework, and whether there is a need to exchange fiscal flexibility for reforms. Given the heterogeneous distribution of benefits, fiscal policy may retain a role to ensure fairness in the transition to a new steady state and might be needed to overcome resistance to reform, when losers can easily be identified.  These objectives could however also be reached by strategically packaging reforms, as argued by Cœuré (2014).

The sceptical reader might wonder why one should pay so much attention to the short-term effect of structural reforms, given they are widely acknowledged by the literature to be beneficial in the long run, and that should suffice. Going beyond the evergreen reference to Keynes’ renowned ‘in the long run we are all dead’, the political economy of reform should not be easily dismissed, as I have argued before. Rodrik (1994) explains how it is fundamental to demonstrate early success of reform in order to garner the public consensus necessary to sustain broader reform programmes over multiple years. And an economy cannot be overhauled overnight, as shown by Williamson (1994).

Understanding the dynamics and time profile of structural reforms may ultimately increase the political feasibility of reform packages, while also enhancing their fairness at a time of limited fiscal space for many European countries.


[1] “[…] reforms tend to produce short-term pain before long-term gain” – The Economist (2014)

[2] Throughout this contribution, short-term is defined as the first year following a policy change.

[3] Germany, Greece, Spain, France, Ireland, Italy, and Portugal.

[4] Clearly, one can picture several other channels. For example, the compression of wages/prices is expected to lead to a boost in exports. This will benefit a country’s current account and GDP. However, DSGE model estimations suggest this effect to be limited in the short term (see ECB, 2015). 

Mon, 30 Mar 2015 10:36:04 +0100