Instability of the Eurozone? On Monetary Policy, House Prices and Structural Reforms

Abstract

Extended summaryThis paper deals with potential instabilities of the eurozone stemming from an insufficient interplay between monetary policy and reform effort on the one hand and the emergence of intra-euro area divergences on the other. As a first step, we assess the effect of EMU on structural reform and investigate this question by an examination of the relationship between fixed exchange rates and reform in two wider samples of countries. We also stress that loose monetary conditions which prevailed until some months ago can also manifest themselves in asset price inflation, notably in the housing market. When these bubbles burst, for example, when housing prices stop rising, this often leads to a prolonged period of economic instability and weakness rather than consumer price inflation.As a second step, we point out that risks for EMU are not only increasing because longer-term disequilibria become evident in fiscal and monetary policy, but also because serious divergences are now appearing within the euro area which threaten its long-term cohesiveness. The most manifest example of this threat comes from what promises to be a long-term divergence between Germany and Italy which for the time being was offset by asynchronous developments of house prices in both countries. There are still large differences within the euro area, with the small countries performing much better than the large ones on almost every indicator. This suggests that better policies can make a large difference even if monetary policy is the same for everybody.Finally, we construct a simple formal model in order to investigate whether EMU is in danger from internal tensions which could lead to severe instabilities.The experience so far has shown that some countries are continuously losing competitiveness. Is this a structural problem in the sense that these countries just have problems in keeping inflation at level that does not imply a continuing loss of competitiveness? Or is the persistence of higher inflation one can observe in some countries due to the internal dynamics of a monetary union in which any country that starts with higher inflation rate also has a lower real interest rate, which stimulates demand, and thus leads potentially to even more inflation. The purpose of our theoretical section is to discuss what the main factors are which could lead to such diverging cycles.JEL Classifications: D78, E52, E61

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“…From a theoretical point of view, one can argue that it is one characteristic feature of housing markets that the supply of real estate cannot be easily expanded [Belke and Gros (2007), OECD (2005) and Shiller (2005)]. Therefore, housing markets should exhibit a lower price elasticity of supply than, for instance, stock markets, which means that additional demand (caused by global excess liquidity) will be reflected to a higher degree in house price increases than on stock markets.…”

Global Liquidity and House Prices: A VAR Analysis for OECD Countries

“…First, over the last 30 years, the euro area index of house prices has tended to follow that of the US quite closely, but with a lag of around 18 months. Given that the US housing market turned at the end of 2006, one could thus expect that the Euro area market is likely to do the same (Gros, 2007). Will the world excess liquidity in the end be capable to stop this trend?…”

Bubble detection in housing prices: Evidence for OECD countries between 1970 and 2015

“…Posteriormente, la morosidad aumentó y el valor de los productos financieros respaldados por las hipotecas se desplomó. Se propagó la incertidumbre y las dificultades financieras se extendieron entre el shadow banking, y luego se permearon al resto de las instituciones financieras (Taipalus, 2006;Belke et al, 2007;Martin, 2011;Brunnermeier et al, 2014). Luego de que los precios empezaran a caer en algunos estados a finales del 2006 el mercado de hipotecas subprime colapsó gatillando una crisis financiera más profunda, que hundió a la economía mundial dentro de una recesión solo comparable con la Gran Depresión de 1929 (André, 2010).…”

“…En línea con este resultado, Engsted et al(2015) no encuentran un vector de cointegración entre precios y rentas pero sí una raíz explosiva, detectando una burbuja. La fecha estimada de quiebre es para el tercer trimestre del 2008, momento en el que los precios de las propiedades crecieron especialmente rápido (Belke et al, 2007). En contraste con este resultado, la inversión en nuevas casas parecía estar cercano a su equilibrio de largo plazo de entre un 5 y un 6 % del PIB (Conefrey et al, 2010), y además poseía un bajo ratio de hipotecas/PIB (Calza et al, 2013).…”

“…Para el caso de este país para el año 2009 el ratio de hipotecas/PIB es de 13% y la relación préstamo/valor es de un 50%, en ambos casos las más bajas entre los países de la unión europea, y ha sido históricamente bajo debido a la dificultad de los prestamistas para la reposesión del activo en caso de que el prestatario deje de pagar como consecuencia de lo lento y costosos que son los procedimientos judiciales (Calza et al, 2013). Además, en un indicador sintético del grado de desarrollo y completitud del mercado hipotecario desarrollado por el FMI se encuentra entre los países grandes con menor desarrollo de este segmento junto con Francia y Alemania (Belke et al, 2007;Caliman, 2011).…”