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The Challenge of Economic Rebalancing in Europe

The Challenge of Economic Rebalancing in Europe

Perspectives for CESEE Countries

Edited by Ewald Nowotny, Doris Ritzberger-Grünwald and Helene Schuberth

In the long aftermath of the acute global financial crisis of 2008/09, “rebalancing” the economy with new sources of growth and productivity remains a persistent necessity. This book addresses the resulting trade-offs and challenges. These needs, and the corresponding policy challenges, are especially prevalent in Europe, in particular Central, Eastern and South-Eastern Europe. On this issue, this book contributes lessons learned from earlier balance sheet recessions. It also addresses the often overlooked link between macroeconomic imbalances and economic inequality. Further contributions focus on the interaction between monetary policy and financial stability, adding a regional perspective to these important issues.

Chapter 7: Private and public sector deleveraging in the EU

Jan in 't Veld, Peter Pontuch and Rafal Raciborski

Subjects: economics and finance, financial economics and regulation, international economics, money and banking


The recovery from the worst financial and economic crisis in a generation has been much slower than usual after recessions in the euro area and the European Union (EU). Potential output growth has been on a declining trend for decades, due to a slowdown in total factor productivity (TFP) growth and population ageing, but this trend has worsened further after the crisis. The credit boom in the early 2000s brought a misallocation of investment and resources, which now poses a weight on the recovery. There is also the risk of ‘hysteresis’ effects, as long spells of unemployment can induce a loss in human capital endowments, leading to longer-lasting exclusion from the labour market. Historical evidence indicates that financial crises are associated with deep recessions, abnormally weak recoveries, and prolonged, even permanent, reductions in the level of output (Reinhart and Rogoff, 2009). Parallels are drawn with the lost decade that Japan faced after the bursting of its bubble in the 1990s (Koo, 2011). In contrast to ‘normal’ business cycle recessions, balance sheet recessions are deeper and more prolonged. They follow when debt-financed bubbles burst and asset prices collapse, while liabilities remain. In order to repair balance sheets, households and firms are forced to increase savings and/or pay down debt. This deleveraging process causes demand to decline and forms a significant and persistent drag on growth. In this chapter we describe debt developments and deleveraging in EU member states.

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