Presentation of Guillaume Gaulier, Banque de France, "Current account imbalances in the €A: competitiveness or demand shock?", at the workshop “External imbalances: causes, consequences and rebalancing”, October 14, 2016, University Lille 1 and Research axis “Sustainable and International Finance”of the European Research Group (GdRe) Money, Banking, Finance http://gdre.leo-univ-orleans.fr/prog/prog37.pdf

1. Workshop “External imbalances: causes, consequences and
rebalancing”
October 14, 2016
University Lille 1
and
Research axis “Sustainable and International Finance”
of the European Research Group (GdRe) Money, Banking,
Finance
Keynote address by
Guillaume Gaulier*
(Banque de France, UP1 & CEPII)
“Current account imbalances in the euro area:
competitiveness or demand shock?”
*The views expressed here are my own and should not necessarily be interpreted as those of the Banque de
France or the Eurosystem

2. Outline
• EA CA imbalances: facts and causes
• Building-up of imbalances (graphs)
• Rebalancing? (graphs)
• What to do?
• Structural reforms: the cost of non-
coordination
2

3. Growing imbalances
/ Asymmetric adjustments
Source: AMECO 3
By country

4. Group of Twenty, Euro Area Imbalances, IMF 2012
Source: AMECO, my calculations
Not what was expected
4

5. Competing narratives
• Negative competitiveness (supply) shock in
the South /North
• Excess demand in the South
• Financial shock: excess credit, real estate
bubbles, larger non-tradable sector…
• Deleveraging + Sudden Stop, lack of lender of
last resort… until “whatever it takes”
– De Grauwe: EA countries issue debt in a “foreign”
currency
5

6. My favorite narrative
• The crisis revealed growing divergence across EA
countries, where convergence was expected
• In a sense the euro worked as it promoted cross-
border flows of capital within the EA
• But this capital was misallocated: non-tradables
versus tradables (Kalantzis 2015 –more below),
• (Anticipated) spread convergence, and not “catching-
up”, caused EMU imbalances (Sienna 2016)
6

7. • Clear lack of macro-prudential supervision before the
crisis
• Asymmetric adjustment: CA adjustment supported by
deficit countries (capital account reversal) with little
adjustments in surplus countries
• Imbalances (NEP) are still there and need to be
addressed: too much savings in the Euro Area hamper
the recovery process
• Growing EA surplus (a drag on demand elsewhere)
• Relative price adjustments are still needed and this
requires cooperation
7

8. Who is responsible?
• Excess saving in the North (GE +NL, AT) had to
be balanced by excess investment in the South
(given a stable EA CA)
• Creditors (in GE, FR, etc.) failed to identify the
accumulation of credit risk linked to cross-
border lending activities
• Excess investment/borrowing in South or
excess saving/lending from North?
Low interest rates suggest excess lending
8

9. “South” is/was heterogeneous
• Spain: convergence, but only intensive (more
capital and labor, low productivity growth),
construction boom fuelled by inward funds
(through banking sector), private debt
• Greece: signs of convergence but clear excess
public spending
• Ireland: real estate boom, private debt
• Portugal: no convergence, no construction boom,
loss of EU structural funds and remittances
9

10. Kalantzis "Financial fragility in small open economies: firm
balance sheets and the sectoral structure" (2015), Review of
Economic Studies, 82 (3).
• Increase in financial openness
• larger capital in flows lead to a larger relative size
of the non-tradable sector.
• access to cheaper foreign loans leads firms to
increase their leverage
• Kalantzis (2015) shows how the evolution of
these two factors tends to make crises more
likely. N-to-T ratios and large credit-to-GDP ratios
are good predictors of twin crises (Sudden
stop+Banking crisis)
10

11. N-to-T ratios and large credit-to-GDP ratios
are good predictors of twin crises
11

12. 12

13. Growing imbalances,
8 graphs

14. 1999-2007: CA imbalances and ULC
grew hand in hand
Source: Gaulier Vicard 2012 14

15. But export performances seems not be
responsible
Source: Gaulier Vicard 2012 15

16. Export: Spain, Portugal and Greece >=
Germany once specialization taken
into account
Source: Gaulier Vicard 2012 16

17. CA deficit rather linked to
imports/domestic demand growth
(with the exception of Portugal)
17

18. ULC grew hand in hand with
imports/demand
18
Note: But Bussière et al 2014 show X not correlated with ULC but X/GDP is.

19. ULC diverged because of non manuf VA
prices. Wage share not necessarily up
(down in ES like GE & AT in non-manuf, down
everywhere in manuf)
19

20. GR, PT: lack of savings
ES: too much investment (construction)
DE (+LU): too much saving, too few investment
NL, AT (+BE+FI): too much saving
20

21. Who?: Households in ES (-),
Gov in GR (-), NFC in PT (-) and NL (+)
Everybody in GE and AT
21
(Net lending/borrowing)

22. Rebalancing?
12 graphs

23. 2008-2011: some CA rebalancing,
while ULC dropped in IE and ES
Source: Gaulier Vicard 2012 23

24. This time a + correlation with export?
(not Greece because of services –transport and travel)
Source: Gaulier Vicard 2012 24

25. Export: OK
Source: Gaulier Vicard 2012 25

26. So, a bit of demand shifting
Source: Gaulier &Vicard 2012
26

27. But probably more demand
destruction
Source: Gaulier Vicard 2012
27

28. Adjustment: demand destruction
28

29. Adjustment: NFC (investment
collapsed), Banks in GR?
not offset by Government
Source: ECB Occasional Paper 167, 2016 29

30. Gov support was short lived, only
automatic stabilizers
30

31. Cleansing effect of the crisis: demand shocks
• Within-sector reallocation across firms is more sizeable among European
countries with large current account adjustment.
• Explained by relative demand shocks faced by high and low productive firms in
home and foreign markets (Berthou, 2016)
AUSTRIA
CROATIA
ESTONIA
FINLAND
FRANCE
GERMANY
HUNGARY
ITALY
POLAND
PORTUGAL
ROMANIA
SLOVENIA
SPAIN
-.05
0
.05
.1
.15
-.05 0 .05 .1
Current account variation (2008-2012, % GDP)
Eurostat, whole economy
Within-sector reallocation during the crisis
Source: Berthou 2016
31

32. Graph: Percentage of credit-constrained firms by labour productivity decile in
stressed and non-stressed economies
Source: Bartelsman et al. (2015a), based on CompNet data (sample with 20+
employees). Notes: CompNet The non-stressed countries are Belgium, Germany, Finland and France, while the
stressed countries are Spain, Italy and Slovenia. Pre-crisis data cover the period 2004-08 (with the exception of Spain,
for which only 2008 data are available), while crisis period data cover the period 2009-12.
Cleansing effect of the crisis: credit constraints
Bartelsman, di Mauro and Dorrucci (2015)
Increase in credit
constraints in EA
« stressed » countries
concentrated among
low productive firms
32

33. Net external debt crucial
• Luis Catão, Gian Maria Milesi-Ferretti 2013
• “Debt seems to be a lightning rod for crises
[…] the ratio of net foreign liabilities to GDP, and
in particular its net external debt component, is
indeed a significant crisis predictor”
33

34. Net Investment Position:
no rebalancing…
Source: Eurostat 34

35. Because of revenues/interests
(and valuations effects?)
Source: Eurostat 35

36. Global perspective, at the ZLB
• EA surplus clearly not a solution
• In a global ZLB environment surplus countries hold
world output down (Caballero et al 2015:”Global imbalances
and currency wars at the ZLB”, Eggertsson et al 2016 “A contagious
malady? Open Economy dimensions of secular stagnation”)
• Coeuré 2015: “[…] help policymaking escape the
obsession of “competitiveness” which, when
narrowly defined, focuses on export market shares,
real exchange rates and unit labour costs. Such an
approach indeed risks perpetuating the fallacy of
composition where all economies aim to export low
demand”
36

37. What to do?
• EA NEP OK but (own) debt matters: EA debt must be
shifted away from deleveraging countries/agents to
countries/agents with better balance sheet, less
financially constrained
– Does not imply that investments should be made only in
GE: channel savings to where they can be best employed
(solar panels in GR?)
• Blanchard 2016: EA should engineer higher inflation
to allow Southern countries to reestablish
competitiveness and eventually recover
– Successful rebalancing through relative price adjustments
extremely difficult with low EA inflation (Berthou &
Gaulier 2013)
37

38. What to do?
• Coordination of economic policies
• Macroprudential policy, Banking supervision
• Fiscal and Competitiveness Councils
• Financing and Investment Union
• EA fiscal capacity
• Which tasks for a euro area Finance Minister?
(Villeroy de Galhau 2016)
– preparing the euro area-wide collective strategy
– supervising the implementation of policy objectives
and institutional discipline
– implementing centralized crisis management
38

39. Structural reforms: the cost of non
coordination (Gaulier 2016, France Stratégie)
• At the ZLB some structural reforms could be
detrimental to output (deflationary impact drives
up the real interest rate. See Eggertsson)
• Empirical results: null or negative impact of
(some) labor market reforms when macro is bad
(see , Duval et al 2015)
• But because of competitiveness gains unilateral
reform is still profitable
• Beggar-thy-neighbor structural reforms
implemented
• Classic prisoner dilemma: a negative sum game
39

40. Normal times
No reform in
Country 2
Reforms in
Country 2
No reform in
Country 1
0 / 0 -a / f-p+a
Reforms in
Country 1
f-p+a / -a f-p / f-p
No reform in
Country 2
Reforms in
Country 2
No reform in
Country 1
0 / 0
-a / f-p+a
Reforms in
Country 1
f-p+a / -a f-p/ f-p
I assume: a positive SR/MR eco impact f ; a positive demand shifting
effect when only one country conduces the reform a ; a (small)
political cost p
With a high political cost and/or small anticipated eco gain (p> f):
40

41. At the ZLB
No reform in
Country 2
Reforms in
Country 2
No reform in
Country 1
0 / 0
-a/ f-p+a
Reforms in
Country 1
f-p+a / -a f-p / f-p
f is now supposed to be negative (SR, deflationary reform…)
Even if p small (crisis is the right time to reform?) f-p<0
a is large : strong demand shifting effects
41

42. ANNEXES
42

43. GE +NL+AT break the upper bound of
the (asymmetrical) MIP threshold
43

44. G. Gaulier. & V. Vicard., 2012
• "Current account imbalances in the euro
area: competitiveness or demand shock?,"
Quarterly selection of articles - Bulletin de la
Banque de France, Banque de France, issue
27, pages 5-26, Autumn.
44

45. Portugal: remittances and gov
transfers dropped
Source: Gaulier Vicard 2012
45

46. In Bussière et al. (lettre du CEPII, 2014) we show that
Export/GDP (~Tradables share) strongly correlated with
ULC, both before and after the crisis
46

47. Official lending substituted to private
lending
Source: ECB Occasional Paper 167, 2016 47

48. Pay attention to Gross flows
• “…current accounts deficits or surpluses,
linked to net capital flows, miss important
dimensions of the process of international
adjustment of countries and of their financial
fragility in crisis times. After all, the euro area
was running a balanced current account vis-a-
vis the US and yet it was deeply affected by
the US financial crisis of 2007-8.” (Gourinchas
& Rey 2013)
48

49. Global imbalances:
NFA 2010 & CA (2011-15 average)
49