Perspectives for CESEE Countries
Edited by Ewald Nowotny, Doris Ritzberger-Grünwald and Helene Schuberth
Chapter 7: Private and public sector deleveraging in the EU
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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