DP9404 Political Credit Cycles: The Case of the Euro Zone

Author(s): Jesús Fernández-Villaverde, Luis Garicano, Tano Santos
Publication Date: March 2013
Keyword(s): bubbles, Euro crisis, Financial crisis, political economy
JEL(s): D72, E0, G15
Programme Areas: International Macroeconomics, Public Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=9404

We study the mechanisms through which the adoption of the Euro delayed, rather than advanced, economic reforms in the Euro zone periphery and led to the deterioration of important institutions in these countries. We show that the abandonment of the reform process and the institutional deterioration, in turn, not only reduced their growth prospects but also fed back into financial conditions, prolonging the credit boom and delaying the response to the bubble when the speculative nature of the cycle was already evident. We analyze empirically the interrelation between the financial boom and the reform process in Greece, Spain, Ireland, and Portugal and, by way of contrast, in Germany, a country that did experience a reform process after the creation of the Euro.