Tuesday, March 5, 2013

A Missing Piece In Europe’s Growth Puzzle

by Reza Moghadam

iMF Direct

March 5, 2013

Even before the latest euro area GDP numbers and Italian elections cast a shadow over the continent, economists were struggling to reconcile the steady improvement in market sentiment with the more downbeat data on the economy, production, orders, and jobs.

This video looks at this puzzle from a somewhat different perspective than the usual—and still correct—narrative of weak banks and over-indebted public sectors caught in a vicious cycle. More specifically, we examine the role of household and corporate balance sheets in the countries under financial market stress and the implications for policy priorities.

Some countries in the euro area do not just suffer from over-extended government and bank balance sheets, but also from over-extended household and corporate balance sheets. While the type of stress (household, corporate, or bank) differs from country to country, it is sufficiently large to be a potential drag on domestic demand. The negative relationship between pre-crisis indebtedness and post crisis growth—in incomes, consumption, and investment— is striking.


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