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The Global Crisis special issue of Economic Policy

The Global Crisis was a watershed, not just for economies around the world, but for economics as a discipline. This column introduces a special issue of Economic Policy that collects key papers on the Global Crisis published in its aftermath between 2009 and 2014. The papers chart the evolution of economists’ thinking on the causes of and cures for the Global and EZ Crises. 

As much as the Great Depression shaped macroeconomic and financial sector policies for generations to come, so the Global Crisis and EZ Crisis will continue to influence policymaking in the short-to-medium term. And as much as economists have been blamed for having missed early warning signs of these two crises, they have contributed significantly to the analysis of the crises and policy proposals on how to address them. The following outlines some of the major themes  of papers published in the special issue of Economic Policy.

One major theme concerns the factors explaining both of the crises and the extent to which countries were affected by them. A large literature has explored commonalities across crisis countries, relating to macroeconomic imbalances, financial sector fragilities and policy variables. Applying this to the the euro periphery countries shows that their pre-crisis domestic vulnerabilities resemble those of earlier crises, including the East Asian crisis of 1997, the Nordic banking crisis of the early 1990s and the Japanese banking crisis of the 1990s (Sayek and Taskin 2014). So while each crisis and each country is special, the extensive knowledge accumulated through these past banking crises, including in many emerging markets, could have helped to both provide early warning signals and design recovery policies. On the other hand, evidence from the Great Depression shows that the decision by many countries to use fiscal stimulus policies was the right one ­– specifically, evidence from the 1930s shows that, where it was applied, expansive fiscal policy actually worked (Almunia et al. 2010). While this might stand in contrast to standard neoclassical macro, it is certainly consistent with the argument that that the impact of fiscal stimulus will be greater when banking systems are dysfunctional and monetary policy is constrained by the zero lower bound. Both of these conditions were observed in many EZ periphery countries.

The global dimension

International capital flows were an important part of the pre-crisis boom as much as their retrenchment was an important dimension of the crises, especially dramatic in the wake of the Lehman Brothers’ failure. During the Global Crisis, banking flows were primarily affected and developed countries suffered more than emerging markets – a striking difference to the current turmoil on international capital markets (Milesi-Feretti and Tille 2011). Capital flow volatility was in many cases closely related to current account imbalances. Many EZ periphery countries suffered from increasing current account imbalances going into and during the Crisis, which raises questions about their causes. While a lot of emphasis has been put on the imbalances between core and periphery countries, Chen et al. (2013) point to a large impact of declines in export competitiveness and asymmetric trade developments of periphery countries vis-à-vis the rest of the world (rather than EZ core countries) on their external balances. However, these developments are linked back to imbalances between core and periphery countries, though through capital flows. Specifically, the current account imbalances were financed mostly by intra-Eurozone capital inflows, which permitted external imbalances to grow over many years until the EZ Crisis hit.

Every country is special, and some even more so …

In spite of the commonalities across crisis countries, there are also idiosyncrasies, especially in crisis resolution. Iceland has often been pointed to as having taken a very different approach to resolving the crisis, with the government cutting banks loose early on (with the result that the Icelandic government never lost its investment grade credit rating). The resolution of this crisis came in the wake of an impressive boom-bust cycle in Icelandic banking, ranging from the rise of the Icelandic banking system following financial liberalisation, its rapid (over)expansion and, ultimately, its collapse in the fall of 2008 (Benediktsdottir et al. 2011). The Icelandic case shows:

  1. The (mostly negative) role of politics in general, and the risky strategy of trying to build an international financial centre more specifically;
  2. The hazardous role that flexible exchange rates can have in the presence of large capital flows; and
  3. The mismatch of European banks’ footprints with regulatory perimeters, an issue partly – at least within the Eurozone – addressed by the banking union established in 2014.

The Greek sovereign debt crisis was at the core of the EZ Crisis, culminating in the first restructuring of Greek government debt in 2012. While including a heavy haircut, Zettelmeyer et al. (2013) show that the timing and design of the restructuring left money on the table from the perspective of Greece. As has become clear over the following years, it also created a large risk for EZ taxpayers and turned the dynamics of the follow-up debt restructuring rounds in purely political conflicts between Greece and its creditor countries. Ultimately, in spite of the expectations, the first debt restructuring kicked the can down the road, leading to a second restructuring a few years later and talk about further debt relief in the near future.

One of the countries suffering from ‘contagion’ of the Greek debt restructuring was Cyprus, whose banks had not only overextended and overleveraged, but had also loaded their balance sheets heavily with Greek government bonds. Beyond these spillover effects, however, weak corporate governance within the local banking sector, inadequate regulation of cross-border banking, worsening competitiveness, and bad political decisions at the European and, especially, the Cypriot level contributed both to the crisis and the bungled resolution in fall 2013 (Michaelides 2014).

From crisis resolution to regulatory reform

Early on, observers noted the difference between the rapid and coordinated reaction of monetary policymakers to the crises – providing ample liquidity to unfreeze markets on the one hand – and the uncoordinated and rather inefficient reaction to bank failures on the other (Pisani-Ferry and Sapir 2010). Their early assessment of European responses to the Global Crisis points to reforms to come – most prominently the Comprehensive Assessment of 2014, including asset quality reviews of banks representing 85% of the Eurozone’s banking system and stress tests, and the banking union, also established in 2014. In the absence of bank resolution frameworks that allowed an effective and swift intervention into failing banks, most European countries (with the notable exception of Iceland) decided in 2008/9 for bailouts in the form of public recapitalisation. One of the justifications for this approach was to support lending to the real economy. Mariathasan and Merrouche (2012) – considering public recapitalisation of banks across 15 OECD countries during the Global Crisis – find that only large recapitalisations and infusions of common equity are associated with higher total regulatory capital ratios and sustained loan growth. These findings send the important message that if you bail out, you better do it well!

Sovereign and banks – united we collapse!

The deadly embrace of sovereign and banks has been at the core of the EZ Crisis. This vicious cycle started in January 2009 when the nationalisation of Anglo Irish by the Irish government showed the limitations of fiscal support for national banks. It came to full light with evidence of the Greek sovereign’s distress in May 2010 (Mody and Sandri 2012). The banking union is partly a response to this deadly embrace, although many observers would argue that it has not completely solved the problems.

The deadly embrace of sovereigns and banks is also reflected in banks’ home bias – that is, the extent to which they prefer domestic over foreign investment, contributing to the withering of the Single European Market in banking in the wake of the EZ Crisis. While in the periphery banks increased their domestic exposure in response to increases in country risk, they did not do so in core countries, suggesting distorted incentives in periphery banks. On the other hand, across the Eurozone, banks react to higher redenomination risk by increasing their home bias (Battistini et al. 2014).

Looking forward

The papers included in this special issue are just a sample of a large number of papers assessing the recent crises that have been published in Economic Policy. These papers have also been an important source for the crisis consensus narrative recently published on Vox, and a forthcoming collection of columns on making the Eurozone a sustainable currency union. Economic Policy continues to publish papers in this area, also often reported here at Vox. A recent example is a paper by Eichengreen and Panizza (2016) on the credibility of debt reduction through large primary fiscal surpluses in EZ periphery countries, and of the bank bias across Europe’s financial system and its repercussions for growth and stability. Stay tuned for more analysis and policy discussion in Economic Policy.

Editor’s note: The column introduces a special issue of Economic Policy, which is partly owned by CEPR.


Almunia, M, A Bénétrix, B Eichengreen, K H O’Rourke and G Rua (2010) “From Great Depression to Great Credit Crisis: similarities, differences and lessons”, Economic Policy, 25(62): 219-265.

Battistini, N, M Pagano and S Simonelli (2014) “Systemic risk, sovereign yields and bank exposures in the euro crisis”, Economic Policy, 29(78): 203-251.

Benediktsdottir, S, J Danielsson and G Zoega (2011) “Lessons from a collapse of a financial system”, Economic Policy, 26(66): 183-235.

Chen, R, G M Milesi-Ferretti and T Tressel (2013) “External imbalances in the Eurozone”, Economic Policy, 28(73): 101-142.

Eichengreen, B and U Panizza (2016) “A surplus of ambition: Can Europe rely on large primary surpluses to solve its debt problem?”, Economic Policy, 31(85), 5-49.

Mariathasan, M and O Merrouche (2012) “Recapitalisation, credit and liquidity”, Economic Policy, 27(72): 603-646.

Michaelides, A (2014) “Cyprus: From boom to bail-in”, Economic Policy, 29(80): 639-689.

Milesi-Ferretti, G M and C Tille (2011) “The great retrenchment: International capital flows during the global financial crisis”, Economic Policy, 26(66): 289-346.

Mody, A and D Sandri (2012) “The Eurozone Crisis: How banks and sovereigns came to be joined at the hip”, Economic Policy, 27(70): 199-230.

Pisani-Ferry, J and A Sapir (2010) “Banking crisis management in the EU: An early assessment”, Economic Policy, 25(62): 341-373.

Sayek, S and F Taskin (2014) “Financial crises: Lessons from history for today”, Economic Policy, 29(79): 447-493.

Zettelmeyer, J, C Trebesch and M Gulati (2013) “The Greek debt restructuring: An autopsy”, Economic Policy, 28(75): 513-563.

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