Firm-level exchange exposure in the Eurozone

Using a sample of 1,154 European firms from 11 countries, we show that firm-level exchange exposure for Eurozone and non-Eurozone European firms has increased since the advent of the euro, but this rise was smaller for Eurozone than non-Eurozone firms. The increase in firmspecific risk is offset by a substantial reduction in market-level exchange exposure in most Eurozone countries, so the advent of the Eurozone appears to have been associated with a shift in exchange risk from systematic to firm-specific. We also find that Eurozone firms’ exchange exposure is greater than that of non-Eurozone European firms, and univariate testing confirms the significance of this difference. In a multivariate setting, however, after controlling for countryspecific and firm-specific characteristics that potentially influence the extent of exposure – economic openness, governance factors, firm size, industry and several financial ratios – this difference is no longer apparent.foreign exchange exposure, euro, Eurozone, economic openness

How to be Well Shod to Absorb Shocks? Shock Synchronization and Joining the Euro Zone

This paper examines the demand and supply shocks observed in the present Eurozone member states and those observed in some neighboring countries. The analysis is based on recent data and each Eurozone member country is compared with an aggregate series corresponding to an area made up of the entire Eurozone minus the country being compared. The results of the study confirm that, even when the series are corrected by removing the country being compared, the disturbances observed in large Eurozone countries are well correlated with the disturbances observed in other Eurozone member countries.shocks, Eurozone, optimal currency area

The Problem of Holdout Creditors in Eurozone Sovereign Debt Restructuring

The Eurozone official sector has declared that the belated restructuring of Greek bonds held by private sector creditors in 2012 was a “unique and exceptional” event, never, ever to be repeated in any other Eurozone country. Maybe so. But if this assurance proves in time to be as fragile as the official sector’s prior pronouncements on the subject of “private sector involvement” in Eurozone sovereign debt problems, any future Eurozone debt restructuring will be surely plagued by the problem of non-participating creditors --- holdouts. Indeed, it is the undisguised fear of holdouts and the prospect of a messy, Argentine-style debt restructuring in the belly of Europe that has been one of the principal motivations for the official sector’s willingness to use its taxpayer money to repay, in full and on time, all of the private sector creditors of Eurozone countries receiving bailouts (the belated Greek restructuring being the sole exception). This article argues that a simple amendment of the Treaty Establishing the European Stability Mechanism (the Eurozone’s new bailout facility) could immunize within the confines of the Eurozone the assets of a Eurozone country receiving ESM bailout assistance from attachment by litigious holdout creditors. By thus increasing the difficulties that holdouts would face in enforcing court judgments against a debtor country, the objective of the amendment is to deflate creditor expectations that staying out of an ESM-supported sovereign debt restructuring will lead to a preferential recovery for the holdouts. This measure would also, when taken together with the other steps that the Eurozone has already implemented, substantially replicate the important features of the Sovereign Debt Restructuring Mechanism proposed by the IMF in 2002

Euro Crisis

It is argued the current eurozone crisis is neither new nor surprising. Fiscal discipline in the eurozone was weak from its creation in 1999, but ongoing economic prosperity limited the damage. Economic recession deepened the impact of crisis on public finance and pushed some eurozone countries to the edge of bankruptcy. Options available now are costly and painful: foreign bailouts, cuts to expenditures, higher revenues and some combination of the three. They may be conducted both inside and outside the eurozone. If eurozone problems are not solved, financial markets may turn down the euro as a currency, possibly marking the beginning of Euro-disintegration.Eurozone, Euro, Fiscal discipline, Reform of public finance, Bailouts, Default, Bankruptcy

Strong governments, weak banks. CEPS Policy Brief No. 305, 25 November 2013

Banks in the northern eurozone have capital ratios that are, on average, less than half of the capital ratios of banks in the eurozone’s periphery. The authors explain this by the fact that northern eurozone banks profit from the financial solidity of their governments and follow business strategies aimed at issuing too much subsidised debt. In doing so, they weaken their balance sheets and become more fragile – less able to withstand future shocks. Paradoxically, financially strong governments breed fragile banks. The opposite occurs in countries with financially weak governments. In these countries banks are forced to strengthen themselves because they are unable to rely on their governments. As a result they have significantly more capital and reserves than banks in the northern eurozone. Recommendations More than in the south, the governments of northern Europe should stand up and force the banks to issue more equity. This should go much further than what is foreseen in the Basel III accord. If the experience of the southern eurozone countries is any guide, banks in the north of the eurozone should at least double the capital and the reserves as a percentage of their balance sheets. Failure to do so risks destroying the financial solidity of the northern European governments when, in the future, negative shocks force these governments to come to the rescue of their undercapitalised banks. The new responsibilities entrusted to the European Central Bank as the single supervisor in the eurozone create a unique opportunity for that institution to change the regulatory and supervisory culture in the eurozone – one that has allowed the large banks to continue living dangerously, with insufficient capital

Self-Fulfilling Crises in the Eurozone: An Empirical Test. CEPS Working Document No. 366, 22 June 2012

This paper tests the hypothesis that government bond markets in the eurozone are more fragile and more susceptible to self-fulfilling liquidity crises than in stand-alone countries. We find evidence that a significant part of the surge in the spreads of the PIGS countries (Portugal, Ireland, Greece and Spain) in the eurozone during 2010-11 was disconnected from underlying increases in the debt-to-GDP ratios and fiscal space variables, and was the result of negative self-fulfilling market sentiments that became very strong since the end of 2010. We argue that this can drive member countries of the eurozone into bad equilibria. We also find evidence that after years of neglecting high government debt, investors became increasingly worried about this in the eurozone, and reacted by raising the spreads. No such worries developed in stand-alone countries despite the fact that debt-to-GDP ratios and fiscal space variables were equally high and increasing in these countries

Income Inequality, Cohesiveness and Commonality in the Euro Area: A Semi-Parametric Boundary-Free Analysis

The cohesiveness of constituent nations in a confederation such as the Eurozone depends on their equally shared experiences. In terms of household incomes, commonality of distribution across those constituent nations with that of the Eurozone as an entity in itself is of the essence. Generally, income classification has proceeded by employing “hard”, somewhat arbitrary and contentious boundaries. Here, in an analysis of Eurozone household income distributions over the period 2006–2015, mixture distribution techniques are used to determine the number and size of groups or classes endogenously without resort to such hard boundaries. In so doing, some new indices of polarization, segmentation and commonality of distribution are developed in the context of a decomposition of the Gini coefficient and the roles of, and relationships between, these groups in societal income inequality, poverty, polarization and societal segmentation are examined. What emerges for the Eurozone as an entity is a four-class, increasingly unequal polarizing structure with income growth in all four classes. With regard to individual constituent nation class membership, some advanced, some fell back, with most exhibiting significant polarizing behaviour. However, in the face of increasing overall Eurozone inequality, constituent nations were becoming increasingly similar in distribution, which can be construed as characteristic of a more cohesive society

What Germany should fear most is its own fear: An analysis of Target2 and current account imbalances. CEPS Working Document No. 368, September 2012

This paper analyzes two claims that have been made about the Target2 payment system. The first one is that this system has been used to support unsustainable current account deficits of Southern European countries. The second one is that the large accumulation of Target2 claims by the Bundesbank represents an unacceptable risk for Germany if the eurozone were to break up. We argue that these claims are unfounded. They also lead to unnecessary fears in Germany that make a solution of the eurozone crisis more difficult. Ultimately, this fear increases the risk of a break-up of the eurozone. Or to paraphrase Franklin Roosevelt, what Germany should fear most is simply its own fear

Sovereign Bankruptcy in the European Union in the Comparative Perspective

This paper distinguishes four alternative sovereign debt resolution mechanisms: pure market solutions, modified market solutions, crisis lending by the IMF and other institutions, and the proposed Sovereign Debt Restructuring Mechanism (SDRM). It is hard to find--at the general level of analysis--the unique advantages of SDRM. The assessment of the European Stabilization Mechanism will ultimately depend on its operation, especially whether it will be a tool of subsidizing countries in debt distress or an instrument of fiscal crisis lending. The present fiscal problems in the eurozone are due to the erosion of fiscal discipline and not to the lack of strong compensatory transfers within the eurozone. The right model to look at the conditions for the stability of the eurozone is not a single state but the gold standard-type system, a system of sovereign states with a (de facto) single currency. Based on this analogy and considering modern developments, three types of measures are needed to safeguard the stability of the eurozone: (1) measures that would reduce the procyclicality of the macroeconomic policies and of the economy; (2) reforms that would help the eurozone economies grow out of increased public debt; and (3) steps to increase the flexibility of the economy so that it can deal with the future shocks in a better way.Debt Resolution, European Union, Eurozone, Financial Crisis, SDRM

Convergence: Are the Eurozone countries too different? Bertelsmann Stiftung EUROPA Briefing 2017

The Eurozone countries are economically different. The crisis has rendered some of these differences more acute and this could destabilize the currency union. The Eurozone countries therefore need to agree on which type of convergence is most important to them and the best way to achieve it. In what areas should they converge? What differences could or should remain? And what policy instruments are required to achieve this