Current Account Imbalances in the Southern Euro Area

Abstract

This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.The paper examines the causes, consequences, and potential cures of the large current account deficits in the Southern Euro Area (SEA). These were mostly driven by a decline in private saving rates. But it was the European Monetary Union and the Euro, which enabled these countries to maintain investment rates, and thus run larger current account deficits, by improving their access to the international pool of saving. The paper finds that the deficits in SEA in 2008 were larger than can be explained by fundamentals, though the situation varies substantially across countries. It also finds that although the global financial crisis has started to force some unwinding, the current account deficits are expected to remain high in the medium run, though again with substantial variation across countries. The paper argues these large external deficits pose risks to the economy and therefore matter, even in a currency union, and discusses some policy options to reduce them.

Fiscal devaluation in the euro area: A model-based analysis

“…The consumption tax rate increases from 17.8 to 19.6 percent. 21 Results for Portugal are similar to the Spanish ones and are available upon request. 22 In the rest of the euro area, the implied decrease in social security contributions and increase in consumption tax rate are equal to 2.2 (to 4.9) and 1.7 percentage points (to 9.4), respectively.…”

“…In this section we show how results change when the fiscal devaluation is simultaneously implemented in Spain and the rest of the euro area. 21 In each region we assume a cut in employers' social security contributions of 1 percent of ex ante GDP and a concurrent rise in consumption tax also equal to 1 percent of ex ante GDP so that the reform is ex ante revenue-neutral, for a period of 4 years. 22 Figure 6 reports the results for the main Spanish variables.…”

Trade imbalances within the euro area and with respect to the rest of the world

“…(Slavov 2009. ) According to Jaumotte and Sodsriwiboon (2010), the Southern euro area countries have had current account deficits far beyond what can be explained by the IMF's macroeconomic balance (MB) approach or external sustainability (ES) approach (see also International Monetary Fund (2006)). Barnes et al (2010) came very close by pointing out that the predictive power of standard models to explain the imbalances in the euro area has become weaker (see also Ca' Zorzi et al (2012)).…”

How have global shocks impacted the real effective exchange rates of individual euro area countries since the euro’s creation?

“…Other recent papers have examined the divergences in current account balances within the euro area since the creation of the euro, their determinants and/or implications in the context of growing discussions on intra-euro area imbalances (see e.g. Berger and Nitsch (2010); Jaumotte and Sodsriwiboon (2010); Giavazzi and Spaventa (2010)). …”