As the European Union emerges from its worst recession since the Second World War, it has to tackle an equally pressing issue: a sovereign debt crisis. Yield spreads in Greece, Portugal, Ireland and Spain have soared. The era of cheap government borrowing and integrated euro area (EA) government bond markets appears to be over, and fractures in EA solidarity are present. This dissertation seeks to update existing literature by assessing the current state of government bond market integration in the EA. Results suggest that many years of financial integration in EA government bond markets has been reversed in a few months, and that the status quo is not sustainable for the peripheral member countries. Unless Greece, Portugal, Ireland and (to a lesser extent) Spain adopt significant microeconomic structural reforms to regain long-lost competitiveness vis-à-vis the EA’s core (notably Germany), whilst at the same time avoid falling back into deep recession, the Euro project will not be able to continue in its current form.
Contents
1.0 Introduction
1.1 Research objectives
2.0 Literature review
2.1 Financial integration – definitions, costs, benefits and barriers
2.1.1 European economic integration
2.1.2 Definitions of financial integration
2.1.3 Benefits and costs of financial integration
2.1.4 Barriers to financial integration
2.2 Financial integration in the run-up to the financial crisis
2.3 High debt Europe
3.0 Methodology – measuring financial integration
3.1 Price-based measures
3.2 News-based measures
3.3 Cointegration
3.4 Other measures
3.5 Data considerations
3.6 Risk adjustments
3.7 Nominal or real rates
4.0 Data
5.0 Results – macroeconomic analysis and measurements of financial integration
5.1 Macroeconomic analysis of the euro area periphery
5.2 Correlation coefficient analysis
5.3 Price-based measures of integration
5.3.1 Yield spreads
5.3.2 Cross-sectional dispersion
5.4 News-based measures of integration
5.4.1 Conditional betas
5.4.2 Variance ratio
5.5 Jumping cointegration analysis
6.0 Conclusions
7.0 References
List of Figures
Figure 1: Degrees of Economic Integration
Figure 2: Public Finances
Figure 3: Financing Needs
Figure 4: Descriptive Statistics of Government Bond Series Macroeconomic Data Analysis:
Figure 5: Real GDP of Selected EA Members (billions of Euros)
Figure 6: Real GDP Growth of Selected EA Members
Figure 7: Output Gap (percent of potential GDP)
Figure 8: Inflation (percent change in CPI)
Figure 9: Unemployment Rate (percent of labour force)
Figure 10: General Government Net Borrowing/Lending (percent of GDP)
Figure 11: Structural Budget Balance (percent of GDP)
Figure 12: General Government Gross Debt (percent of GDP)
Figure 13: Current Account Balance (percent of GDP)
Figure 14: Gross Saving (percent of GDP)
Figure 15: GDP Private Final Consumption Expenditure (percent change) Measures of Financial Integration:
Figure 16: Correlation Coefficients (1992 – 2010)
Figure 17: Ten-Year Government Bond Yield Spreads vs Bunds (1992 – 2010)
Figure 18: Ten-Year Government Bond Yield Spreads vs Bunds (2008 – 2010)
Figure 19: Average Yield Spread for Ten-Year Government Bonds (1993-2010)
Figure 20: Average Yield Spread for Ten-Year Government Bonds (1993-2010)
Figure 21: Dispersion in Yield Spreads for Ten-Year Government Bonds (1992 – 2010)
Figure 22: Dispersion in Yield Spreads for Ten-Year Government Bonds (2008 – 2010)
Figure 23: Speed of Financial (Dis)integration (1993 – 2010)
Figure 24: Evolution of Conditional Betas, distance (1993-2010)
Figure 25: Evolution of Conditional Betas (2008-2010)
Figure 26: Decomposition of Beta (1992 – 2010)
Figure 27: Average Distance of Betas and Intercepts from Values Implied by Complete Integration (1999-2010)
Figure 28: Variance Ratio for Ten-Year Government Bond Yields (1993 – 2010)
Figure 29: Variance Ratio for Ten-Year Government Bond Yields (2008 – 2010)
Figure 30: Dickey-Fuller Tests on Individual Bond Series
Figure 31: Results from Jumping Cointegration Analysis
Figure 32: Jumping Cointegration Analysis Chart
1.0 Introduction
There is a wealth of literature discussing and documenting euro area (EA) financial integration concluding that financial integration has taken place to varying degrees across EA financial markets. After the onset of the credit crunch in 2007 came a financial crisis and global recession in 2008 and 2009, leading to an EA sovereign debt crisis in 2010, in which four peripheral economies have suffered badly; Greece, Ireland, Portugal and Spain.1 It is on these four countries that this dissertation focuses, and in particular, the impact of the recent crises on financial integration within the EA. The report focuses on government bond markets, where many years of financial integration have been reversed in half as many months. Soaring sovereign bond yields on the periphery of the EA will make debt-servicing, austerity measures, and re-balancing of these economies very difficult.
This dissertation uses a variety of statistical and econometrical techniques to analyse financial integration from September 1992 through to September 2010. To conduct this research a literature review has been carried out with the aim, inter alia, of discovering the appropriate techniques to measure financial market integration, and summarising EA financial integration to date. The literature will act as a guide for the indicators adopted in this research. The remainder of the report is set out as follows: identification of the research objectives for this paper in Section 1.1; literature review in Section 2; Section 3 discusses methodologies; Section 4 describes the data; Section 5 begins with a macroeconomic analysis of the four countries before measuring recent developments in EA government bond market integration; and Section 6 concludes the research.
1.1 Research objectives
The aim of this research is to contribute to the existing literature on European financial market integration by analysing the impact of the global financial crisis on sovereign debt yields in a selection of the EA’s peripheral economies. Four research objectives have been identified:
1. Assess the benefits of financial market integration for the EA, in particular of government bond market integration.
2. Assess the various methods available for measuring bond market integration.
3. Measure the pre-crisis level of government bond market integration, and the extent to which EA government bond markets have disintegrated since the start of the global financial crisis in 2008.
4. Assess the impact of high debt levels in Europe by looking at recent literature on public debt and deficits.
2.0 Literature review
This section is divided into three sub-sections: (2.1) definitions, costs, benefits and barriers of financial integration; (2.2) financial integration in the run-up to the financial crisis; and (2.3) assessing the impact of post-crisis high debt levels on the EA’s peripheral member states.
2.1 Financial integration – definitions, costs, benefits and barriers
2.1.1 European economic integration
There are five levels of economic integration (illustrated in Figure 1), each building on the previous level. At the most preliminary level there is a Free Trade Area, which is a group of countries with zero barriers to trade of goods and services between members, an example of which is the European Free Trade Association (EFTA).2 Second is a Customs Union, which adds a common external trade policy. Third is a Common Market, which allows factors of production to move freely between member states and requires a great degree of fiscal-, monetary- and employment policy harmonisation and cooperation.3 Fourth is an Economic Union, which adds a common currency, harmonization of tax rates, and common monetary and fiscal policies. Some EU members signed up to a common currency in 1999 and became a quasi-Economic Union, known as the EA, which now consists of sixteen members (Hill, 2010, and Krugman and Obstfeld, 2006).4
Figure 1: Degrees of Economic Integration
Abbildung in dieser Leseprobe nicht enthalten
Becoming a full Economic Union would require members to sacrifice considerably more national sovereignty; requiring a more powerful co-ordinating bureaucracy at the core to co-ordinate policy. The EU is a ‘quasi-Economic Union’ because it is an imperfect one, for example, not all tax rates or regulatory policies have been harmonized. Significant heterogeneity exists among members of the EA despite existence of a monetary union.
Political Union is the final stage of economic integration; requiring complete fiscal harmonisation – something which EA members are against. It is the lack of a Political Union, in particular fiscal transfers from core to peripheral members that some blame for the current crisis. Divergent economic policies sparked intra-EA imbalances which led to the peripheral countries running up vast amounts of debt, borrowing, consuming and importing. Meanwhile, Germany was saving, exporting and running a large current account surplus.
Gains from trade and investment are often behind the desire for regional economic groups to integrate. However, co-ordination problems among EU members and the unwillingness of members to sacrifice more national sovereignty are among the barriers preventing complete integration.
Several benefits arise from having a common currency, including lower transaction costs for businesses; long-run gains in economic efficiency of EA members forced to reduce production costs to maintain margins in the face of lower prices and heightened competition; further development of a European wide capital market, improving liquidity and lowering the cost of capital for members; and more investment choices, allowing for better risk diversification and more efficient allocation of capital (Hill, 2010).
Despite the benefits, there are several costs of the single currency for member states, including members losing control of monetary policy, and hence the ability to set interest rates to fight inflation or boost their economies. Members also lose the ability to devalue their currencies or create new money to stimulate the economy in times of crisis. These powers are given up to the European Central Bank (ECB) in the form of a one-size-fits-all monetary authority (Hill, 2010).
It is argued that the EA does not form an Optimal Currency Area, and hence the EU has put the ‘cart before the horse’ establishing a monetary union before political union, and therefore the Euro project was ultimately doomed to failure. Hill (2010) reiterates this, arguing that substantial structural differences exist among member states, hindering the ability of countries to successfully adopt a single currency and use a single exchange-rate as a common monetary instrument. Different wage rates, tax regimes and business cycles, result in external economic shocks having heterogeneous effects on members, as opposed to a homogenous reaction envisaged in an optimal currency area.
As an example, the current loose policy stance adopted by the ECB may suit core member states such as Germany, who reported strong 2010 second quarter GDP growth of 9.0%, but such policy may not be loose enough for peripheral members still battling with recession, such as Greece, which reported a 2010 second quarter GDP contraction of -6.8%, and Ireland, which contracted by -4.8%.5 Spain and Portugal reported weak growth of 0.7% and 1.1% respectively. The peripheral countries may benefit from further ECB purchases of EA government bonds to keep government borrowing costs down, but core countries such as Germany oppose further easing, and may prevent it from taking place. This highlights the strains of having a monetary union without political union.
Obstfeld (1986) provides the foundations for many research papers on financial integration. This influential paper analyses the degree of international capital mobility. Of significance to this paper are the adopted methodologies for the measurement of capital mobility, one of which is the comparison of expected yields on assets located in different countries. Obstfeld argues that capital is internationally mobile when yields move in a synchronised fashion due to investors re-aligning their portfolios towards relatively higher yielding assets.
Obstfeld (1986) concludes that for the efficient allocation of the world’s savings, capital mobility is required. The integration of national financial markets suggests linkages between assets offered in the national economies. However, such important links are distorted by heterogeneity of economies, that is, market imperfections such as divergent tax policies, sovereign risk premiums, transaction costs and regulatory policies.
A common approach to measuring financial integration – comparing yields on financial assets in various countries – is argued by Obstfeld (1986) as a simple, but effective, approach to measuring capital mobility and thus integration. Furthermore, Obstfeld suggests that comparisons yield stronger results about the degree of integration if the assets are denominated in a single currency but issued in different economies. This is a benefit of focusing on members of the single currency whilst assessing European financial integration.
2.1.2 Definitions of financial integration
Kiehlborn and Mietzner (2004) base their definition of financial integration on the notion of ‘mobility barriers’. They argue that in fragmented financial markets cross-border barriers to capital flows exist, resulting in the formation of relatively stable groups of countries. Countries within these groups are more closely integrated than countries outside the group. The process of financial integration is defined as the removal of ‘mobility barriers’ over time due to abating differences between the groups and individual countries. A change in group composition follows; leading to a more tightly integrated EA as countries leave their old group and join other groups or even form new groups. This definition highlights the dynamic nature of financial integration, and how it is important to measure integration over time.
Baele et al. (2004) adopt the following definition: “the market for a given set of financial instruments... is fully integrated if all potential market participants with the same relevant characteristics (1) face a single set of rules when they decide to deal with those financial instruments...; (2) have equal access to the above mentioned set of financial instruments...; and (3) are treated equally when they are active in the market.” Their definition is linked with the law of one price – because asset prices reflect the above factors.6 In integrated markets asset prices would be identical, indicating the above characteristics are satisfied. The law of one price is compatible with quantitative measures of financial integration, such as, comparing yields on government bonds. However, it can only be tested on instruments that are quoted in the financial markets; it cannot distinguish whether discriminatory practices hinder the supply of investments into the market.
IMF (2007) adopts a broad definition of financial integration, citing it as a “multidimensional process in which a system of financial markets becomes more closely interrelated over time in terms of its (1) market organisation and infrastructure, (2) rules and regulations, and (3) pricing, transactions, and market practices.” Complete integration of financial markets would make geography irrelevant – any artificial geographical borders would disappear.
Gaspar (2004) adopts a similar definition to Baele et al. (2004). Gaspar highlights two significant events after the EU was established in 1993 with the signing of the Maastricht Treaty: (1) the removal of capital controls in 1994; and (2) the adoption of the single currency in 1999. Both events were critical in promoting financial integration and EU solidarity. Although the single currency is a necessary component for financial integration within Europe, Gaspar argues that it is not sufficient. Regulations, supervision, legislation and other tools to remove barriers, frictions and other market imperfections are essential to fully integrate markets.
Adam et al. (2002) and Jappelli and Pagano (2008) adopt similar definitions to Baele et al. (2004), arguing that financial markets are integrated when the law of one price holds. If identical assets offered different returns, in integrated markets, arbitrage opportunities would exist. Investors would instantly exploit such opportunities, driving the returns together until the identical assets offered identical returns and the law of one price holds. Barriers to integration exist, such as legal, economic and cultural differences. Measurement issues arise when heterogeneous assets are used for measuring integration and they have not been controlled for their differences. Results may indicate segmented markets, when in fact they are integrated. Not controlling for exchange rate risk in the EU prior to the establishment of the EMU is an example.
2.1.3 Benefits and costs of financial integration
Faruqee (see IMF, 2007) points to three gains from financial integration: “(1) market access and competition; (2) market scale and structure; and (3) market scope and completeness.” The following factors are identified by Faruqee as benefits of moving from a state of autarky to a single market: completeness; innovation; consolidation; scale economies; and competition. However, despite such benefits, financial integration comes not without risks. Faruqee identifies fundamental spillovers; transition risk; and contagion as potential risks from financial integration.7 A further cost of financial integration is incumbent financial institutions losing market share when markets are opened up to competition – although this could be seen as a benefit.
Baele et al. (2004) argue that integration and development of financial markets leads to economic growth through various channels, such as, by removing barriers to exchange; removing market frictions; and allocating capital more efficiently. Too much consolidation in a market segment could hinder competition, and too much integration could encourage excessive or reckless borrowing if rates are kept artificially low. The latter was seen in EA periphery government bond markets throughout the 2000’s. The perception that Portugal, Ireland, Greece and Spain’s government bonds were of the same creditworthiness as Germany’s was, with the benefit of hindsight, a significant contributing factor to the excessive borrowing that took place, and hence the sovereign debt crisis now being played out.
Baele et al. (2004) identify two reasons why financial integration is important: (1) since monetary policy is implemented through the financial system (in particular the government bond market), it is essential to have an efficient, integrated system to allow for the smooth and effective transmission of monetary policy. (2) Financial integration has consequences for financial stability through its impact on the structure of the financial system. Hence it is necessary for regulators and central banks to closely monitor the integration process.
Financial integration produces several benefits. (1) Opportunities to share risk through diversification. In well-integrated government bond markets, German investors may purchase some Greek and Spanish government bonds as well as German bunds in order to diversify risk and protect against falling price of bunds. The opportunity to share risk may enable more high-risk high-return projects to be funded. (2) Capital can be allocated more efficiently in well-integrated financial markets through the reduction of trading barriers and EA-wide trading, clearing and settlement platforms. (3) Greater financial development and thus greater economic growth. German investors who purchased Greek and Spanish government bonds increased the flow of funds into those economies, thus resulting in further development of Greece and Spain. Jappelli and Pagano (2008), London Economics (2002) and Levine (1997) stress the positive link between financial integration, development and economic growth (Baele et al. 2004).
The importance of government bond markets is highlighted by Baele et al. (2004), who identify several of their key features: (1) they provide the main source of financing for central and local governments within the EA (crucial in times of recession to fund the budget deficit). (2) By serving as benchmark assets for pricing other securities, government bond markets play a critical role in the overall functioning of the financial system. (3) Government bonds are used as collateral in many financial transactions – especially between banks and central banks.
ECB (2010) discuss the importance of financial integration, arguing it is critical for the operation of the single monetary policy and financial stability within the EA due to enhancing diversification possibilities for investors, and improving access to financial markets. However, like Faruqee (see IMF, 2007), ECB finds spill-over effects and contagion are also more likely to permeate a well-integrated financial market, as witnessed in the sovereign debt crisis, for example, on Spanish government bonds. Spain is not in as severe a crisis as Ireland and Greece, but its yields were highly correlated with Ireland’s and Greece’s.
ECB (2010) argues that tighter financial integration enhances the “shock absorbing capacity of markets” – but this is only evident in respect to mild shocks. Major shocks to tightly integrated markets can result in contagion; higher integration can increase exposure to systemic risk.
Another benefit of financial integration is that governments can considerably reduce the cost of servicing their debt. This is important as we approach 2011 when large amounts of EA sovereign debt must be rolled-over and budget deficits and debt levels are high. A percentage point increase in the yield on government bonds would result in a huge additional interest cost for governments. Two channels for this are: (1) Improved portfolio diversification reducing the effect of purely local shocks on bond prices. This in turn reduces the yield demanded by investors on financial assets, and hence, in the context of government bonds, it reduces the interest paid by governments to investors. (2) If financial integration enhances debt liquidity, investors will demand a lower liquidity premium, and hence the cost of borrowing for governments will fall. (Baele et al. 2004).
2.1.4 Barriers to financial integration
Hölscher (2003) discusses several factors as evidence of market imperfections in the EU, preventing perfect integration from taking place, including: transaction costs, tax policies, investors’ preferences (perhaps home bias) and sovereign risk premiums. Gaspar (2004), although concluding that European financial integration is progressing, argues that it is far from complete, with particular emphasis placed on improving market infrastructure.
Jappelli and Pagano (2008) argue that barriers to integration such as exchange rate fluctuations, taxes and subsidies, regulatory differences, and information asymmetries between investors in different countries hinder integration and development. However, since the introduction of the euro, exchange rate risk has been eliminated, and reforms have been implemented to reduce barriers to financial integration.
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It is clear from the literature that the many benefits of financial integration outweigh the costs. Financial integration is a good thing, and efforts should continue to overcome the remaining barriers. The definition of financial integration adopted in this report is the definition adopted by both Baele et al. (2004) and Adam et al. (2002), based on the the law of one price. Despite one or two weaknesses, this is the most common definition and will yield results comparable to major studies in this field. Therefore, convergence of yields through the law of one price is the chosen proxy for financial integration.
2.2 Financial integration in the run-up to the financial crisis
Kiehlborn and Mietzner (2004) use intertemporal cluster analysis to identify groups of countries which are strongly related to other group members but not related to other groups. They carry out this research from a holistic macro view point. Their results clearly indicate that the EA countries studied8 were divided into two stable groups of closely integrated countries prior to EMU; a low-interest-rate core group of countries formed one group, and high-interest-rate ‘Club-Med’ countries formed the other. The authors found that after the start of EMU, the composition of the groups abruptly changes. They find that financial integration takes place in ‘waves’ – there are periods of intense transition followed by periods of relative calm. During the period 1995 to 1996 results suggest strong fragmentation existed in the markets, thus suggesting weak integration. During the period 1996 to 1998 the speed and intensity of financial integration is found to increase significantly – the authors argue this is due to the fast approaching EMU.
During the period 1999 to 2002 Kiehlborn and Mietzner (2004) find that momentum is lost and the integration process becomes very slow – the integration process hits a ‘barrier’ beyond which it cannot proceed. They propose that ‘maximum similarity barriers’ exist, which is essentially a degree of financial integration beyond which no further integration is possible. Results suggest that significant events are required, for example, the establishment of EMU, to push the degree of integration beyond the ‘barrier’. This argument could be put on its head: it would take a severe financial crisis to break back through the barriers and reverse the process of financial integration by a significant degree. This is perhaps the outcome of the sovereign debt crisis in southern Europe.
Baele et al. (2004) point out that prior to 1999 the yields on identical assets in the different EA countries would not have been equal because of exchange rate risk. Since 1999, with the introduction of the Euro, this is no longer the case. However, various other barriers, frictions, market imperfections and credit and liquidity risk premiums may still prevent yields from fully converging. By the end of the 1980’s capital was more or less free flowing within the EU, but direct barriers such as differing tax policies, fragmentation in trading and settlement platforms, and indirect (informational) barriers such as differences in accounting standards, corporate governance, language and cultural barriers continued to prevent full convergence of yields.
Baele et al. (2004) believe that the convergence in EA government bond yields prior to the financial crisis is attributable, in part, to a strong convergence in “underlying fundamentals”. For example, convergence of economic and monetary policies resulting in the convergence of inflation expectations in the run-up to the Euro, and the Stability and Growth Pact (SGP) restrictions on government finances.9
IMF (2007) argues that EU financial integration policies have been a success. Further progress on EU financial integration will give the EU the opportunity to “build an innovative, state-of-the-art financial system that would improve the EU’s growth performance”. Fonteyne (see IMF, 2010) confirms that “Europe has made considerable progress in integrating its financial markets... [but] Europe is still a long way from achieving a [fully integrated] single financial market”. Haas (see IMF, 2007) confirms the progress made, citing deepness, liquidity and completeness of markets as major factors. Haas analyses long-term government bond spreads for the EU and highlights their convergence over time, reduction in volatility, and increasing importance of common news as a driver of yields. The author also points out that differences in yields will persist due to differences in perceived credit risks of sovereigns and the lack of an EU-wide bail-out mechanism.10
Specific factors that have enhanced integration include: “harmonisation of secondary market conventions, new issuance policies, and active debt management.” New products have also been offered by government debt issuers competing for business, such as, inflation-indexed bonds. State-of-the-art secondary market infrastructures with more use of electronic trading have increased integration, particularly through the narrowing of spreads. Haas (see IMF, 2007).
Jappelli and Pagano (2008) and Adam et al. (2002) show the convergence in money and public debt markets following the adoption of the euro. The authors point out that most of the convergence took place before the euro was launched and among the “non-core” EMU countries. Greece joined the euro area in 2001, and hence convergence was observed around that time. The authors question whether yield convergence continued after the introduction of the euro; Jappelli and Pagano (2008) argue that, to some extent, further yield spread reductions were due to rising German yields because of the weakening German budget rather than further reduction of yields in non-core countries. Adam et al. (2002) conclude that government bond market convergence was almost complete.
Adam et al. (2002) suggest the reason for such a dramatic fall in peripheral countries interest rate differentials pre- and post-1999 is due to reductions in cross-country inflation-differentials. The authors’ analysis of the degree of sigma- and beta-convergence suggests that financial integration took place in the government bond market at a high speed, indicating that the various barriers were easily overcome.
2.3 High debt Europe
Velculescu (2010) carries out arithmetic on the EA’s public finances, calculating forward looking measures of public sector intertemporal net worth.11 This captures the future expected burdens of, for example, healthcare and pension liabilities on public finances, which yield results in stark contrast to the standard backward-looking fiscal indicators used by governments, such as the ‘general government fiscal deficit’ and ‘public debt’ ratios. These backward-looking measures miss out the likely impact of future burdens on current policies, whereas, “the forward looking measures account for the effects of current fiscal policies on future assets and liabilities, to see if the intertemporal budget constraint is satisfied.” Results suggest that the public sector intertemporal net worth of the EA is deeply negative and projected to worsen over time as populations age.
Velculescu (2010) argues that in order to bring future liabilities in line with governments’ abilities to generate assets in the future, current policies must be strengthened. By putting pressure on the EA’s intertemporal budget constraints, soaring government bond yields during the EA sovereign debt crisis have limited governments’ abilities to generate sufficient fiscal surpluses to meet current debt obligations. Figure 2 shows the current – and projected future – state of peripheral EA countries public finances. Greece’s intertemporal net worth is approximately -620% of GDP,12 suggesting that public sector liabilities will be that much greater than assets by 2060. Factors contributing to the deterioration of net worth over time include weak structural fiscal balances; high levels of net debt; slowing population growth; declining working age population growth; and a doubling of the population aged 65 years and above (significantly increasing of old-age dependency ratio).
Forward-looking measures should be incorporated into policy-making and communicated with the public. They clearly indicate the current unsustainable path of the EA’s public finances and the need for remedial action. Current escalated sovereign bond yields of Greece, Ireland, Portugal and Spain compound this urgent need. Velculescu (2010) calculates that the EU requires an upfront permanent fiscal adjustment of approximately 6% of GDP to put the EU’s finances on track. Future burdens on fiscal positions are found to outweigh the cost of the 2008 – 2009 economic crises. The fiscal effort which would be required to meet the Maastricht Criteria by 2012 is found to be insufficient to plug the intertemporal net worth gap.
Figure 2: Public Finances
Abbildung in dieser Leseprobe nicht enthalten
*General government debt, percentage of GDP, 2010 forecast by The Economist/EIU. (Economist, 2010a).
**Budget balance, percentage of GDP, 2010 forecast by The Economist/EIU. (Economist, 2010a).
***Financial net worth, percentage of GDP, 2009. Approximate figures.
****Intertemporal public sector net worth, percentage of GDP, 2009 – 50 year horizon. Velculescu (2010).
Baldacci and Kumar (2010) assess the impact of public debt and fiscal deficits on long term government interest rates over the period 1980 to 2008. The authors find that higher public debt levels and fiscal deficits result in significant increases in long-term interest rates. By how much long-term rates increase depends, in part, on initial fiscal-, institutional- and structural conditions and spill-over effects from global financial markets. Various impact channels were identified by the authors, including: (1) an expected steepening of the yield curve due to persistent deficits; (2) large deficits and debt levels, and a weak recovery increasing concern about a governments ability to service its debt, thus increasing risk premiums; (3) financial sector stress augmenting fiscal risks and thus worsening fears over debt-sustainability; and (4) higher inflationary expectations arising due to concerns about the monetisation of debt, thus increasing nominal government bond yields. Channels (1) through (3) appear to be working during the 2010 sovereign debt crisis.
Baldacci and Kumar (2010) find that government bond yields increase by 17 basis points following an increase of 1% of GDP in the fiscal deficit. They also find that an increase in the public debt ratio of 1% point of GDP results in an increase of 5 basis points in government bond yields. The authors identify several factors which could worsen the impact of high fiscal deficits on long-term interest rates, including: (1) an initial weak fiscal position; (2) weak and inadequate institutions; and (3) structural factors such as low domestic savings; and restricted access to capital markets. Greece fits the three conditions; it had a high fiscal deficit going into the crisis; weak tax enforcement, discredited national statistics office, and a large current account deficit. The authors argue that the above factors tend to be compounded when risk aversion is global in nature, because in periods of financial stress markets react less favourably to debt build up. The additional impact on bond yields of a 1% of GDP increase in the fiscal deficit is 7 basis points. For countries which are ageing faster than others yields increase 10 basis points more for each 1% point GDP increase in fiscal deficit. Baldacci and Kumar (2010) stress the non-linear nature of the impact of worsening fiscal conditions on long-term government bond yields.
[...]
1 To their outrage these four countries have often been referred to as the PIGS – perhaps the reasoning behind this is related to their excessive domestic consumption and borrowing which played a part in their economic demise.
2 EFTA was formed in 1960 for those countries that did not join the then European Economic Community (EEC) – now the European Union (EU).
3 The European Union (EU) began as a Customs Union, then operated as a Common Market for many years.
4 Spain, Portugal, and Ireland joined in 1999; Greece joined in 2001.
5 All figures are calculated as percentage change on previous quarter at an annual rate. (Economist, 2010a)
6 The law of one price states that identical assets in different localities should be priced identically. If priced differently, arbitrage opportunities would exist which would bring the prices together almost instantly.
7 Contagion can be defined as when cross-country correlations increase during ‘crisis times’ relative to during ‘tranquil times.’ (IMF, 2007).
8 Austria, Germany, Belgium, Finland, France, Italy, Spain and Portugal.
9 The SGP is an agreement between the EA member states to keep public finances healthy in order to maintain stability in the EMU. Deficit levels are ‘capped’ at 3% of GDP and public debt levels 60% of GDP. Warnings and sanctions were to be made against profligate members who breached the ceilings, but after France and Germany breached the ceilings but were not punished, credibility was lost.
10 Such a bail-out mechanism was created in 2010 in response to the sovereign debt crisis, however, it is only temporary and is due to expire in 2013.
11 “Public sector intertemporal net worth reflects total current and projected future net liabilities of the public sector under unchanged policies.” Velculescu (2010).
12 This calculation is based on existing economic policies being carried forward to 2060. However, structural reforms taking place, which will improve this figure.
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