Financial and fiscal interaction in the euro area crisis: this time was different
Abstract
This paper highlights the anomalous characteristics of the Euro Area ‘twin crises’ by contrasting the aggregate
macroeconomic dynamics in the period 2009-2013 with the business cycle fluctuations of the previous decades. We
report three novel stylised facts. First, the contraction in output was marked by an anomalous downfall in private
investment and an increase in households’ savings, while consumption and unemployment followed their historical
relation with GDP. Second, households’ and financial corporations’ debts, and house prices deviated from their precrisis trends, while non-financial corporations’ debt followed historical regularities. Third, the jumps in the public deficit
GDP and debt-GDP ratios in 2008-2009 were unprecedented and so was the fiscal consolidation that followed. Our
analysis points to the financial nature of the crisis as a likely explanation for these facts. Importantly, the ‘anomalous’
increase in public debt is in large part explained by extraordinary measures in support of the financial sector, which
show up in the stock-flow adjustments and reveal a key interaction between the fiscal and the financial sectors.
Domains
Economics and Finance
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