the euro – a tale of 20 years and priorities going forward · 2019-04-15 · five financial...

The Euro – A tale of 20 years and priorities going forward

Marco Buti, Director GeneralEuropean Commission – DG Economic and Financial Affairs

Massachusetts Institute of TechnologySloan School of Management

April 9, 2019

Content

1. EMU@20 = EMU@10 + 102. Did EMU change policy behaviours?3. Euro area throughout the crisis4. Reforms during the crisis and way forward

2

Other euro area members (+8 members)

The Evolution of the Euro Area

3

Since 1999 (11 members)

From 11 to 19 Members

Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, Netherlands, Portugal, Spain

1999

Greece 2001

Slovenia 2007

Cyprus, Malta 2008

Slovakia 2009

Estonia 2011

Latvia 2014

Lithuania 2015

Other EU members (9 members)

THE EURO

Used by

341,5 million people in Europe in 2018

A GDP of

11 572 billion euro in

2018

17359

11572 11556

GDP, 2018, €bn1415

341 328

Population, millions of people

China ChinaEA EAUSA USA

Source: Ameco

MAASTRICHT ASSIGNMENT Institutional setting in EMU (strong version of the “consensus” on policy making of the 80s' –see Buti Sapir 1998)

i) Monetary Policy (centralised) by independent central bank instrumental to credibly bring down inflation<= conservative, independent central bank to bring down inflation, Barro-Gordon (1983), Rogoff (1985)

ii) Fiscal Policy (decentralised) action limited to automatic stabilization (normal cycles) <= Barro (1979)

iii) Ban on excessive government deficits & on monetary financing of government deficits <= avoid fiscaldominance and no government bailout, Sargent & Wallace (1981)

iv) Financial markets allocate resources efficiently within and across member states <= markets areefficient, Fama (1970) – financial markets smooth efficiently, Obstfeld (1986) & Eichengreen (1992)

v) Competition (trade and internal market) increases efficiency, OCA criteria are endogenous <= CecchiniReport (1988), Frankel & Rose (1998)

5

MUSGRAVE + and the MAASTRICHT ASSIGNMENT

• Efficiency ++

(but certain aspects, like productivity/reforms fully decentralised)

• Stabilisation +

(only based on monetary policy and automatic stabilisers)

• Equity 0

(interpersonal fully in the hands of Member States; cohesion between countries in EU budget)

• Sustainability/Stability +++

(necessity of supranational fiscal rules to secure sustainability and protect monetary policy from deficit bias and debtspillovers/ ECB as the most independent CB in the world)

6

Our early beliefs… and what happened in the first 10 and then 20 years

7

EMU@0 EMU@10 EMU@20

Efficiency - Financial markets lead to efficient capital allocation

- "Transparency shock" improves resource allocation

- "There-Is-No-Alternative (TINA) argument" leads to structural reforms

- Anaesthetic effect of EMU on structural reforms

- Capital allocation not always efficient

- Destabilising role of financial markets in absence of BU

- Agglomeration effects- Positive incentives for structural

reforms

Stabilization - Financial markets as shock absorbers- "House in order“ allows automatic

stabilisers to cushion country-specific shocks

- Monetary policy takes care of common shocks

- Pro-cyclical fiscal behaviour in good times

- Aggregation of national fiscal stances do not necessarily give an adequate EA stance

- Need of a central stabilization function

- Divergence in fiscal space- Active fiscal policy needed under

exceptional circumstances

Equity - National redistribution done by MS- Cross-country cohesion via EU budget

- Real convergence being achieved

- Divergence between original EA members, convergence new members

Sustainability/Stability

- Strong emphasis on the credibility of the central bank

- Expectations that MS would maintain sustainable public finances

- No consideration of internal imbalances

- Established credibility of the ECB

- Unsustainability of internal CA imbalances

- Political ownership of fiscal rules diminishes

- More symmetric adjustment of external imbalances needed

Content


8

* EU-28 GDP data only available as of 1995 and EU-28 GDP growth rates only available as of 1996

Source: Ameco

GDP growth per capita broadly at par with the US

9

GDP per capita (in pps, US=100)

• GDP per capita growth• (%)

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

1994199519961997199819992000200120022003200420052006200720082009201020112012201320142015201620172018

US EA-19 EU-28

0

20

40

60

80

100

120

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

US EA-19 EU-28

Credibility of the Central BankDispersion of HICP inflation(in %)

10

Inflation target versus actual inflation in EA-19 (in %)

0

1

2

3

4

5

6

7

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

EA changing composition EA-11

0

0,5

1

1,5

2

2,5

3

3,5

4

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

EA-19 2% target

« Whatever it takes » (Jul-12)

Lehman Collapse (Sept-08)

Euro launch (Jan-99)



Euro launch (Jan-99)

Notes: EA-19 only available as of 1996 with CY, LV and MT data missing from the 1996 aggregate and the EA-19 aggregate is complete as of 1997/. The EA-19 aggregate does not reflect the changing composition according to entry date in EA. EA changing composition is aggregated according to entry date in EA. EA-11 corresponds to the eleven Member that joined the EMU in 1999. Dispersion is measured as an unweighted standard deviation

Source: Ameco

Note: Government debt/GDP data available from 1995 onwards for EA-19, 10-year government bond yields available from 2002 for EA-19

Data source: AMECO

0

20

40

60

80

100

120

140

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

DE IE IT EA-19

Not all Member States improved sufficiently public finance sustainability

Government debt/GDP(%)

10-year government bond yields (%)

Start of EA Sovereign debt crisis (Oct-09)


QE announcement (Jan-15)

11

0

2

4

6

8

10

12

14

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

2018

DE IE IT EA-19




Maastricht treaty

(Feb-92)Euro launch

(Jan-99)

Maastricht treaty

(Feb-92)Euro launch

(Jan-99)Lehman Collapse

(Sept-08)


Note: Countries which were in 1999 (left chart) and in 2008 (right chart) not members of the euro area are highlighted in red.

The black regression line is based on the full sample of countries, the blue one excludes the 'new' euro area Member States, which are highlighted in red.

Source: Eurostat

Real convergence mostly driven by 'new' euro area Member States

ATBE

EE

FI

FRDE

ELIE

IT

LU

NLPT

SK

SIES

CY

LVLT

MT

0

2

4

6

8

10

12

0 10 20 30 40 50

GD

P p

er c

apit

a in

PP

S

(ave

rag

e g

row

th 1

999-

2007

)

GDP per capita in thousands PPS (1999)

excl. 'new'

all countries

ATBE

EE

FI

FR

DE

EL

IE

IT LUNLPT

SK

SIESCY

LVLT

MT

-4

-3

-2

-1

0

1

2

3

4

5

0 20 40 60 80G

DP

per

cap

ita

in P

PS

(a

vera

ge

gro

wth

200

8-13

)GDP per capita in thousands PPS (2008)

excl. 'new' EA MS

all countries

12

GDP per capita (in PPS) before and after the start of the financial crisis

Note: Centre includes Austria, Belgium, Finland, Germany, Luxembourg and the Netherlands. The periphery includes Cyprus, Estonia, Greece, France, Ireland, Italy, Latvia, Lithuania, Malta, Portugal, Slovakia, Slovenia, and Spain. Centre and periphery Eurozone countries grouped according to their external position. Updated from Buti and Turrini (2012).

Source: Commission calculations based on AMECO and Eurostat

Imbalances and resource allocation

13

Increasing imbalances Cumulative growth rate of non-tradable/tradable value added

-5

0

5

10

15

20

25

Eurozone center Eurozone periphery

1999-2008 2009-2017

-60

-40

-20

0

20

40

60

-6

-4

-2

0

2

4

6

8

99 01 03 05 07 09 11 13 15 17N

IIP, %

of c

ount

ry g

roup

GD

P

CA

, % o

f cou

ntry

gro

up G

DP

CA - Center CA - Periphery

NIIP - Center NIIP - Periphery

Content


14

Origin of the EA crisis: my preferred reading

15

• A "sudden stop" crisis following capital misallocation in pre-crisis years

• A banking crisis triggered a feedback loop: bank solvency concerns higher bond yields and debt service default worries deeper recession

• The euro-area crisis was not a fiscal crisis (apart from Greece), but lack of fiscal space hindered the policy response during the crisis

• Heterogeneity in the euro area much larger than assumed before the crisis: different growth models and agglomeration effects

• Structural divergences during the first 10 years of EMU led to divergent social and political preferences "ultima ratio" mode

Upon sudden stops, short-term flows were replaced by central bank lending

15Source: Eurostat

-200

-150

-100

-50

0

50

100

2000 2008 2014 2018

Net International Investment Position (NIIP), as % of GDP

0

50

100

150

200

250

300

350

400

450

Jul-0

7

Jan-

08

Jul-0

8

Jan-

09

Jul-0

9

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

Jan-

16

Jul-1

6

Jan-

17

Jul-1

7

Jan-

18

Jul-1

8

Jan-

19

Central bank lending to euro area credit institutions related to MPOs

ES IT FR* EL*

DE IE PT

bn Euro

Note: Data up January 2019 Source: ECB and National central banks *Total lending to domestic MFIs

16

ECB intervention: rates and balance sheet

ECB policy and euro overnight rates, Eurosystem Balance Sheet (BS) size

Notes: OMT: Outright monetary transactions, QE: Quantitative easingSource: Macrobond, ECB 7

0

50

100

150

200

250

300

350

400

450

-1

0

1

2

3

4

5

ECB Deposit Facility rate, lhs EONIA, lhs BS total (Jan 2007=100), rhs


Lehman Collapse (sept-08)



QE end (Dec-18)OMT

(Aug-12)

ECB negative policy rate (Jun-14)

Source: Commission calculations

Fiscal policy tends to be pro-cyclical

Broadlyneutral

fiscal stance

Fiscal stance over the economic cycle, EA 2011-2020e

18

Very bad economic times

Very good economic times


2011

2012

2013

2014

2015

2016

2017

2018e

2019e

2020e

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

-4,0 -3,0 -2,0 -1,0 0,0 1,0 2,0

Cha

nge

in S

truc

tura

l B

alan

ce (

pps.

of

GD

P)

Output Gap (% of GDP)

Counter-cyclical loosening

Pro-cyclical restriction

Pro-cyclicalloosening

Contra-cyclicalrestriction

Structural reform uptake

Source: OECD (PMR), LABREF Database 19

Ireland (2010-2013): €85bn Growth rates:Year 1 of the program: 1.9 % Post programme (average): 9.7 %

Five financial assistance programmes

Portugal (2011-2014): €78bnGrowth rates:

2011: - 1.8 %Post programme average: 2.1 %

Spain (2012-2014): financial sector support €40bn Growth rates:Year 1 of the program: - 2.9 % Post programme average: 2.9 %

Greece: 1st €110bn in 2010, 2nd €172.6bn in 2012 and €86bn in 2015€, exit in 2018 Growth rates:

2010: - 5.5 %Post programme (average): 2.0 %

Cyprus (2013-2016): €10bnGrowth rates:

2013: - 5.8 %Post programme (average): 4.1 %

Programs: the euro-area crisis was not a fiscal crisis (apart from Greece)

20Source: Ameco, Post programme average is the average until 2018

Content


21

22

EMU reform during the crisis: a lot has been done, but…

…the job is not completed

23

Complete Banking Union and Capital

Markets Union

Complete Banking Union and Capital

Markets Union

Common fiscal stabilisation

function

Common fiscal stabilisation

function

Accountable institutions and

effective governance

Accountable institutions and

effective governance

Economic and social

convergence

Economic and social

convergence

1. Financial Union

2. Economic and Fiscal Union

3. Institutions and Governance

Banking Union (including EDIS, backstop to Single Resolution Fund), Capital Markets Union proposals

Budgetary instrument for convergence and competitiveness

Commission proposal of a European Investment Stabilisation function

Commission proposal to transform the ESM in a European Monetary Fund

Completing the Financial Union

23

Delinks banks /

Sovereigns

Reallocation of excess

savings via equity

Banking Union Capital Market Union

SSM,SRM

EDIS,SRF backstop

Political agreement

on 11 proposals

2 proposals not agreed politically

Economic objectives

EU initiative

Instruments

Delivered Pending Delivered Pending

Private Risk-sharing

24

Risk-sharing: the EU versus the US

25

0%20%40%60%80%

100%

Euro area USUnsmoothedCross-border borrowingCross-border fiscal transfersCross-border capital market and labour income

Cross-border risk sharing through different channels, in % of total asymmetric shock to output

Source: Buti et al. (2016), ”Smoothing economic shocks in the Eurozone: The untapped potential of the financial union”, VOX August.

Possible forms for a European safe asset

26Source: Buti, Deroose, Leandro and Giudice (2017)

The evolving EA fiscal framework

27

Increased adaptability at the expense of simplicity…

CLARITY (simplicity)

ADEQUACY (adaptability)

PREDICTABILITY

Source: Commission calculations


Fiscal stance over the economic cycle, EA 2011-2020e

28

Impact of a central stabilisation capacity in bad times

Broadlyneutral

fiscal stance

Very bad economic times

Very good economic times

(2013)

(2012)

2011

2012

2013

2014

2015

2016

2017

2018e

2019e

2020e

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

-4,0 -3,0 -2,0 -1,0 0,0 1,0 2,0

Cha

nge

in S

truc

tura

l B

alan

ce (

pps.

of

GD

P)

Output Gap (% of GDP)

Counter-cyclical loosening

Pro-cyclical restriction

Pro-cyclicalloosening

Contra-cyclicalrestriction

Towards a stronger international role of the euro

• A more diversified (new economic powers and technologies) and multipolar system:

– More unpredictable US– China’s (very) active support

of RMB internationalization– Euro already the 2nd most

important global currency• But, the euro can take a stronger

global stance:– Stronger EMU, capital

markets and baking union– Tackle possible sectoral

inefficiencies (e.g. forex markets, energy, transport, food and commodities)

29

9/11 Lehman collapse 'Whatever it takes' New US administration

0

10

20

30

40

50

60

70

99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18

% o

f tot

al, a

t fix

ed e

xcah

gne

rate

s (2

018-

Q2)

EUR % of outstanding FX debt securities USD % of outstanding FX debt securitiesEUR % of FX reserves USD % of FX reserves

Currency composition: $ and € shares in foreign currency reserves and outstanding international debt securities

Source: MF COFER and BIS international debt securities (all issuers, currencies and sectors, international markets)

Key issues Deliverables

ESM Improve further the crisis prevention and resolution capabilities in the euro area

By June 2019: Amendments to the ESM Treaty*

Banking Union

European Deposit Insurance Scheme (EDIS): disagreements, notably on the level of risk reduction already achievedCommon backstop to the Single Resolution Fund (SRF): need to agree on the terms of reference

By June 2019: provide roadmap for political discussions on EDIS (interim report in April)

By 2020: Common backstop to the Single Resolution Fund (SRF) operationalisation + assessment of risk reduction

EA budget

Budgetary instrument for convergence and competitiveness: need to reach consensus on the design, modalities of implementation and timing of the tool

By June 2019: main features of the budgetary instrument for convergence and competitiveness to be agreed

Completing EMU’s architecture: progress but at slow pace

30Note: * including the backstop to the Single Resolution Fund

Conclusions

31

• Crisis is over, a lot has been done, but EMU is not yet complete

• Incremental steps are only apparently safer

• Populist pressures call for a new balance between Musgrave+

goals

• Brexit and geopolitical challenges add motivation to strengthen

the EMU

• How to lower the discount rate of governments and rebuild

trust to overcome the creditors/debtors divide?

32

• “A mutually trusting relationship between two actors who have become part of a joint

political project of their own free will.”

• “Those who engage in solidarity are willing to accept short-term disadvantage in the

service of their long-term self-interest and in the knowledge that the other will behave

the same way in a similar situation. Reciprocal trust – in our case, trust across

national borders – is just as important a variable as long-term self-interest.”

• “Trust bridges the time span until a service in return is due, though it is unsure when

or if it will ever come due.”

Habermas’ characterisation of solidarity

Source: J. Habermas (2018), “European Union: are we still good European?”, Interview in die Zeit (6 July 2018)

Thank you!

33

Completing EMU: two polar models

"Back-to-Maastricht" Fast forward to federalist EMU

Stronger enforcement of EU fiscal rules to rein debt and deficits

Distribution of fiscal efforts to achieve an appropriate aggregate fiscal stance

Mechanism of imbalances procedures (MIP) focused on competitiveness of lagging countries

Symmetric adjustment to help weak countries and reduce Euro area current account surplus

Banking Union does not need common deposit insurance

Full Banking Union to ensure financial stability and private risk sharing

End to the risk-free status for sovereign debt and establish sovereign debt restructuring mechanism

Fiscal capacity for public risk sharing and eventually sovereign debt mutualisation

More market discipline Euro area Treasury

34

In their « pure » form, both are economically and/or politically unfeasible

…and challenges

34 35

Availability of homogenous safe asset

36

(Perceived) risks from an increased international use of the euro

• Implies a stronger exchange rate because of the large demand for the currency (check the longer-term value of the dollar against the euro monetary policy is more powerful)

• Implies a current account deficit because the country emits debt more easily (does the US intentionally run current account deficit to satisfy global demand for USD-denominated assets? US runs external deficits but still has stable net international investment position)

• Constrains the conduct of monetary policy by the ECB because of a tension between domestic priorities and longer-term global interests (the ECB’s mandate is given - it retains control over the path of short-term euro interest rates and thus remains capable to fulfil its mandate admittedly larger feedback loops to be taken into account)

• Constrains the monetary analysis by the ECB because monetary developments would reflect foreign demand for euro bills and bank deposits (M3 is not so relevant anymore a more holistic approach taking into account all counterparts and drivers of monetary developments)

37

the euro – a tale of 20 years and priorities going forward · 2019-04-15 · five financial...

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