Europe since 2001
European integration since 2001
● Eichengreen and Bolitho (2010) - European economic integration post-1945
had several stages:
○ 1950 - European Payments Union
■ Committed countries to eliminate exchange rate controls
■ Overcame coordination problem where countries that liberalised
unilaterally faced balance of payment problems
○ 1951 - European Coal and Steel Community
■ Organisation of 6 countries based on supranationalism
■ Failed to create a single market, remove subsidies, tariffs and
cartel agreements
○ 1957 - European Economic Community / single market
■ Moved towards the removal of internal tariffs and creation of a
common external tariff
○ 1979-92 - European Monetary System
■ Agreement to limit relative fluctuations of EU currencies
■ Collapsed after Britain was forced out
○ 1993 - Single Market
■ 4 freedoms - movements of goods, people, capital, services
The European Monetary Union
● Eichengreen and Bolitho (2010) - EMU is “Europe’s most ambitious project
since the Treaty of Rome” (which created the EEC)
● Gave monetary policy to a supranational European central bank
○ Adopted a common currency - initially adopted by 11 countries (1999)
○ 2010 - 16 countries had adopted the Euro
● Growth contributions include greater confidence and investment, increased X-
efficiency and efficiency gains due to institutional reforms
○ Limited evidence
The Euro
● Lane (2006) - large inflation differentials between countries
○ 1.5% in Germany, 5.6% in Ireland
● Euro caused macro divergence
○ Relative decline in interest was bigger in peripheral countries (Greece)
- increase in lending and housing booms
■ Availability of cheap credit
○ Higher inflation countries should decrease competitiveness
■ Causes a boom-bust cycle
, ○ More open countries are more sensitive to policy actions by the ECB
● Could have also led to economic union:
○ Financial integration - interest rates converged
○ Trade integration - eliminated ER uncertainty
■ May have boosted trade by up to 15% in the Eurozone
○ Increased labour mobility
■ Culture / language / tax / pension schemes are still barriers
Fiscal policy
● Lane (2006) - Maastricht Treaty (1992) imposed guidelines saying budget
deficits < 3% and debt:GDP ratio < 60%
● 1998 Stability and Growth Pact limited deficits / debt
● 2001 - looser fiscal policy due to a slowdown
○ Countries could not use monetary policy
○ Caused problems as these countries did not previously have surpluses
○ France and Germany exceeded the 3%
○ Stability and Growth Pact suspended when EU finance ministers
refused to put them under surveillance - no real consequences to
increasing the deficit
● National fiscal policies are not coordinated
○ Aggregate response to a shock may not be optimal
● No federal fiscal system - no role for fiscal insurance across borders to slow
shocks
The Great Recession in Europe
Spain
● Eichengreen (2014) - 1997-2006, Spanish house prices rise by 175%
○ Irish house prices rise by 260%
○ Fuelled by a credit boom
● Eichengreen blames the Euro
○ Investors believed that poorer peripheral countries would be forced to
follow disciplined policies and would grow rapidly
○ Interest rates fell, creating incentive problems
● European banks financing inflows were highly leveraged
○ 20:1 ratio of assets:capital in Europe
● Banking systems were large and vulnerable to a liquidity crisis
○ 2007 - US subprime mortgage crisis began to hit Europe
● UK - Northern Rock expanded by borrowing
○ Extended mortgages to customers and re-selling them (securitisation)
○ Demand for securitised mortgages collapsed and NR had to ask the
Bank of England for support
European integration since 2001
● Eichengreen and Bolitho (2010) - European economic integration post-1945
had several stages:
○ 1950 - European Payments Union
■ Committed countries to eliminate exchange rate controls
■ Overcame coordination problem where countries that liberalised
unilaterally faced balance of payment problems
○ 1951 - European Coal and Steel Community
■ Organisation of 6 countries based on supranationalism
■ Failed to create a single market, remove subsidies, tariffs and
cartel agreements
○ 1957 - European Economic Community / single market
■ Moved towards the removal of internal tariffs and creation of a
common external tariff
○ 1979-92 - European Monetary System
■ Agreement to limit relative fluctuations of EU currencies
■ Collapsed after Britain was forced out
○ 1993 - Single Market
■ 4 freedoms - movements of goods, people, capital, services
The European Monetary Union
● Eichengreen and Bolitho (2010) - EMU is “Europe’s most ambitious project
since the Treaty of Rome” (which created the EEC)
● Gave monetary policy to a supranational European central bank
○ Adopted a common currency - initially adopted by 11 countries (1999)
○ 2010 - 16 countries had adopted the Euro
● Growth contributions include greater confidence and investment, increased X-
efficiency and efficiency gains due to institutional reforms
○ Limited evidence
The Euro
● Lane (2006) - large inflation differentials between countries
○ 1.5% in Germany, 5.6% in Ireland
● Euro caused macro divergence
○ Relative decline in interest was bigger in peripheral countries (Greece)
- increase in lending and housing booms
■ Availability of cheap credit
○ Higher inflation countries should decrease competitiveness
■ Causes a boom-bust cycle
, ○ More open countries are more sensitive to policy actions by the ECB
● Could have also led to economic union:
○ Financial integration - interest rates converged
○ Trade integration - eliminated ER uncertainty
■ May have boosted trade by up to 15% in the Eurozone
○ Increased labour mobility
■ Culture / language / tax / pension schemes are still barriers
Fiscal policy
● Lane (2006) - Maastricht Treaty (1992) imposed guidelines saying budget
deficits < 3% and debt:GDP ratio < 60%
● 1998 Stability and Growth Pact limited deficits / debt
● 2001 - looser fiscal policy due to a slowdown
○ Countries could not use monetary policy
○ Caused problems as these countries did not previously have surpluses
○ France and Germany exceeded the 3%
○ Stability and Growth Pact suspended when EU finance ministers
refused to put them under surveillance - no real consequences to
increasing the deficit
● National fiscal policies are not coordinated
○ Aggregate response to a shock may not be optimal
● No federal fiscal system - no role for fiscal insurance across borders to slow
shocks
The Great Recession in Europe
Spain
● Eichengreen (2014) - 1997-2006, Spanish house prices rise by 175%
○ Irish house prices rise by 260%
○ Fuelled by a credit boom
● Eichengreen blames the Euro
○ Investors believed that poorer peripheral countries would be forced to
follow disciplined policies and would grow rapidly
○ Interest rates fell, creating incentive problems
● European banks financing inflows were highly leveraged
○ 20:1 ratio of assets:capital in Europe
● Banking systems were large and vulnerable to a liquidity crisis
○ 2007 - US subprime mortgage crisis began to hit Europe
● UK - Northern Rock expanded by borrowing
○ Extended mortgages to customers and re-selling them (securitisation)
○ Demand for securitised mortgages collapsed and NR had to ask the
Bank of England for support
