Europe in crisis
Economic, refugee and confidence crises. The EU is currently having to fight on many fronts at the same time.
It was back in 2007 that the US property bubble burst, sparking the global economic crisis. The collapse of the Lehman Brothers investment bank in 2008 marked the first low-point of the financial crisis. For the European Union, however, the danger was by no means over: the billions of euros of tax revenue that had to be used to protect banks from insolvency soon plunged European countries into a debt crisis, and shortly thereafter into the Euro crisis. Greece in particular faced a huge loss of confidence on the international financial markets - from which Germany gained significant benefit, by the way.
European decision-makers were confronted with huge challenges, most notably the European Central Bank (ECB). In order to revive the economy, it has been pursuing a much-criticised excessively low interest rate policy for years, even though this is expected to benefit German households. Since 2015, the ECB has been buying bonds from European institutions and States - an extremely well-founded measure. Since June 2016, it has also been buying corporate bonds and published the results of its second stress test round in July 2016.
"ECB is one of the few institutions contributing to the solution."
It is clear that the ECB is implementing specific measures to provide new impetus and increased security to the European economy. “It is one of the few institutions contributing to the solution,” according to Reint E. Gropp, President of the IWH. “But a sustainable solution requires far more decisive political action”. Because new calculations by the IWH also show that the reserves of the European banks are increasing at the ECB - a highly unusual situation.
The refugee crisis is the EU's second major front. A lack of cooperation between Member States has allowed the humanitarian crisis to spread and intensify. And the agreement with Turkey also appears to be precarious. Leading European politicians must now quickly find solutions to the many challenges that have arisen as a result of refugee migration: humanitarian aid, distribution and immigrants' integration into the employment market. And science must also provide analyses and potential solutions. The Leibniz Research Alliance, “Crisis in a Globalised World”, has also investigated the refugee crisis, for example.
On a third front, the EU is battling the dwindling confidence of its citizens. In addition to the growing popularity of Euro-sceptic parties in Member States, the crisis of confidence has further manifested itself in the form of Brexit. A further break-up of the EU can only be prevented, however, if Europe's leading politicians, most notably the new French President, Emmanuel Macron, and Angela Merkel, take a clear stance. The election of Donald Trump in the US has also resulted in further uncertainty for Europe.
Crises are always an opportunity for change. It's no secret that there is improvement potential in many areas of the EU. Perhaps Europe's crises will finally initiate major change processes: improvements in the democratic legitimacy of the EU institutions, less regulation in employment and product markets, a reduction in bureaucracy in both the EU and its Member States, the broad implementation of the capital market union and a new emphasis on EU spending. Only then will the EU be sustainable, prepared for future financial crises, with or without Great Britain, and strengthened by a new cohesion.
Current IWH Publications
EFN Report Spring 2017: Economic Outlook for the Euro Area in 2017 and 2018
in: European Forecasting Network Reports , No. 2, 2017
Global economic activity appears to be expanding rapidly during spring 2017. Confidence among managers is either strong or has improved in all major regions, and world trade and industrial production have, after two years of weakness, picked up markedly during last winter. For 2 ½ years, the euro area economy has now been constantly expanding at an annual rate of about 1.6%, slightly above potential. Employment has also been expanding steadily. Production and employment have been recently rising almost everywhere, including countries such as France and Italy where unemployment rates still do not appear to be on a downward trend. Official investment data for 2015 and 2016 appear to be distorted: big multinational firms relocated parts of their assets (intellectual property products in particular) or their registered business offices from countries outside the euro area to Ireland. As a consequence, reported gross fixed capital formation in Ireland expanded by 33% in 2015 and by 45% in 2016. Without this effect, investment growth in the euro area is about one percentage point lower in 2015 and 2016. Headline inflation hit 2% in February, but this was only the effect of higher world oil prices. The core rate is stubbornly at slightly below 1%, and wages rise annually by scarcely 1.5%. The revival of the economy will have to continue for considerably more time until inflation will come close to the ECB target zone. As monetary conditions continue to support growth, financial policies will be slightly expansive, and a certain external stimulus should come from the apparent recovery of world trade. Overall, we forecast euro area GDP to expand by 1.7% in both 2017 and 2018. However, policy uncertainty is substantial and could have a negative effect. In particular, elections in member states might give power to movements that aim at disintegrating Europe. Such a turn could rapidly undermine confidence, in particular in the financial strength of highly indebted member states.
EFN Report Winter 2016/17: Economic Outlook for the Euro Area in 2017 and 2018
in: European Forecasting Network Reports , No. 1, 2017
Global economic activity has revived since autumn, and equity markets have rallied at the end of the year. Apparently, some of the measures proposed during the US election campaign by the president elect, such as financial market deregulation, economic stimulus, tax cuts and infrastructure are expected to support the economy in the US and beyond. However, this stimulus bears considerable risks already for the near future: other economies could face considerable problems due to a further appreciation of the dollar, rising financing costs and the withdrawal of capital towards the US. In the euro area, as monetary policy continues its expansive course, financing costs will stay very low in 2017, and fiscal policy will be mildly expansive, although a bit less so than in 2016. Confidence of firms and private households has strengthened in recent months, as has the mood on financial markets. We expect that the recovery will continue at about the pace of 2016. GDP will, according to our forecast, increase by 1.6% in 2017 and by 1.7% in 2018. However, the crisis in the Italian banking sector has intensified. It might also trigger another crisis of confidence in European institutional arrangements: according to the Bank Recovery and Resolution Directive, banks may only be saved with public money if owners and creditors of these banks have contributed to the rescue. At present it seems doubtful whether it would be politically feasible to respect this rule. Regarding inflation, our forecast for 2017 is 1.2%. Although energy prices have risen significantly, price pressures are still low.
Complexity and Bank Risk During the Financial Crisis
in: Economics Letters , 2017
We construct a novel dataset to measure banks’ complexity and relate it to banks’ riskiness. The sample covers stock listed Euro area banks from 2007 to 2014. Bank stability is significantly affected by complexity, whereas the direction of the effect differs across complexity measures.
The European Refugee Crisis and the Natural Rate of Output
in: IWH Discussion Papers , No. 30, 2016
The European Commission follows a harmonized approach for calculating structural (potential) output for EU member states that takes into account labor as an important ingredient. This paper shows how the recent huge migrants inflow to Europe affects trend output. Due to the fact that the immigrants immediately increase the working population but effectively do not enter the labor market, we illustrate that the potential output is potentially upward biased without any corrections. Taking Germany as an example, we find that the average medium-term potential growth rate is lower if the migration flow is modeled adequately compared to results based on the unadjusted European Commission procedure.
EFN Report Autumn 2016: Economic Outlook for the Euro Area in 2017 and 2017
in: European Forecasting Network Reports , No. 3, 2016
During the first half of 2016, investment activity of private firms was weak in most advanced economies and labour producitivity was even decreasing, as was world trade in goods. Consumption of private households, however, kept the world economy afloat. Within this global context, the modest recovery of the euro area economy continues, with important tailwinds from labour markets. Employment ist expanding everywhre, even in those countries, such as France and Italy, where unemployment rates have still not come down significantly. Since monetary and fisical policies will not become more expansive in 2017, the stimulus from cheap oil is fading, and exports to the UK will be dragged down by the fallout of the Brexit votem there is reason to expect the euro area recovery to lose some momentum. GDP will, according to our forecast, increase by 1,6% in this year and by 1,5% in 2017, about as much as potential output in the euro area. Our inflation forecast for 2016 is 0,2%. For 2017, we expect inflation to increase up to 1,2%, as during next year the favourable effects of decreasing energy prices will fade off.