6.3 Regional intra-euro area imbalances through
6.3.1 The regional view of the sectoral net lending/net
This regional analysis starts with Figure 6.4b, which shows the same financial deficits/surpluses as in Figure 6.4a (though limited to the government sector and the private sector),12but distinguishing for ana- lytical purposes between external surplus and external deficit groups.
The accounts are compiled here,13separately, for the group of countries that had run current account surpluses (external surpluses) over a period of five years up until the onset of the financial crisis in 2007 (‘exter- nal surplus group’ – Belgium, Germany, Luxembourg, the Netherlands, Austria and Finland) and separately for those that ran current account deficits (‘external deficit group’ – Ireland, Estonia, Greece, Spain, France, Italy, Cyprus, Malta, Portugal, Slovakia and Slovenia).14 The criterion used here to assign countries to each group is chosen for illustrative purposes, to work out some common stylised facts that can be observed in the boom period. Each of the groupings is rather heterogeneous, for instance, comprising countries with very large external deficits or sur- pluses, while others have current account positions that are close to balance. Countries also differ considerably concerning other indicators (such as fiscal position, presence of boom-bust housing market cycles,
and so on). In addition, the composition of the group is obviously closely tied to the reference period and would change over time. Ger- many, for instance, would have been in the ‘external deficit group’ if a similar exercise had been conducted at the beginning of the century, while Italy and France would have been in the ‘surplus group’ at that time: this, in itself, underscores the important point that corrections and reversals of imbalances within monetary union do occur over time.
Taking such a grouping-of-countries view, Figure 6.4b highlights the pronounced increase in financial deficits of the private sector in the external deficit group during the boom years, easily financed by match- ing stable and ample private sector surpluses (as well as by sharp reductions in government deficits) in the external surplus group.
From 2008, the financial crisis triggered an abrupt reduction of the financial deficits of the private sector in the external deficit group, which turned into surpluses mid-2009. At the same time, in the external sur- plus group, the private sector surpluses increased further. In the absence of any significant improvement in external balances (the line ‘euro area’ in Figure 6.4), these mounting private sector surpluses had their counterpart in generally higher government deficits.15
Furthermore, as the external deficit group, taken as a whole,16 did not improve their fiscal situation sufficiently during the boom years (given that they still had an overall public deficit of 1.4 per cent of GDP in 2007), their public finances ended up seriously impaired by 2009–10, and in need of substantial and immediate corrective measures.
This contrasts with governments in the external surplus group that used the boom period to turn their overall deficit into a surplus (in 2007), although this did not prevent the later occurrence of excessive deficits that were also in need of correction.
In total, the gradual but ultimately substantial increase of the gap in external balances between the two groupings that emerged prior to the recession of 2008, failed to reduce noticeably thereafter, during the recession and the following recovery. Initially, it failed to respond to the considerable adjustment movement in the private sector balances that seemed largely compensated, or counteracted, by matching move- ments in government deficits. More recently, however, some reduction in external deficit of the external deficit group could be observed, driven by significant reductions in stressed countries (largely reflecting contraction in domestic demand).
A more complete sectoral decomposition of the differences in pri- vate sector balances between the two country groupings is shown in Figure 6.5. During the crisis, starting from the far lower levels reached at
(a) External surplus group(b) External deficit group –10–8–6–4–20246810 –10–8–6–4–20246810 2002200220022003200420052006200720082009201020112012 Government Financial corporations Non-financial corporations Households Total economy
Government Financial corporations Non-financial corporations Households Total economy –10–8–6–4–20246810 –10–8–6–4–20246810 2000200120022003200420052006200720082009201020112012 Figure6.5Netlending(+)/netborrowing(−)bycountrygrouping(four-quartersums;percentagesofGDP) Note:Thenetlending/netborrowingshowninthefigurehasbeenadjusted,forconvenience,soastoexclude‘acquisitionslessdisposalsof non-financialnon-producedassets’(inordertoavoidthedistortionscausedbythelargeproceedsfromthesaleofUMTSmobilephonelicences 2000). Sources:EurostatandECB.
the height of the boom, the net lending of households increased more in the external deficit group than in the external surplus group, possibly associated with a sharper reversal of housing-led consumption booms as well as a need to boost savings to repair balance sheets. Financial cor- porations’ surpluses (mostly their retained earnings) were significant in both country groupings, but increased slightly more in the external sur- plus group in the wake of the crisis, after having dipped at the peak of the boom.
Overall, the heterogeneity between country groupings seems most pronounced in the case of NFCs. First, whereas the NFCs in the exter- nal deficit group maintained a traditional17 net borrowing position throughout the period, those in the external surplus group experienced atypical long-lasting net lending positions from 2003, positions of the kind that can be observed during recessions or that can be associated with strong foreign direct investment abroad. Second, the expansionary financial balances of NFCs in the external deficit group turned around earlier (compared with the external surplus group) at the start of the crisis, with their net borrowing position peaking in the third quarter of 2008. In contrast, in the external surplus group, the peak was only reached in the first quarter of 2009, as it was the crisis itself that pushed corporates in this group temporarily from a surplus to a deficit position, essentially via a steep reduction in their retained earnings.
The growing imbalances between the two country groupings can receive two very different interpretations. According to one view, the imbalances reflect increased financial integration and the easier cross- border circulation of savings within the monetary union. In such a benign view, greater imbalances were seen as allowing an optimal allocation of savings to more profitable investment prospects within monetary union, assuming a sufficiently efficient intermediation car- ried out via financial institutions and markets alike, apparently resolving the ‘Feldstein-Horioka (1980) puzzle’ (Blanchard and Giavazzi, 2002)18. Another view interpreted these growing external imbalances mainly as reflecting the impact of local demand booms and supply rigidities as well as associated distortions in competitiveness. Looking more deeply into other elements of the accounts, namely, regional differences in sav- ings and investment, can provide further evidence on these competing views.