Friday, 20 April 2012

Graph of the week: Eurozone dependency

This week's graph comes from the Economist as another verification of my earlier ideas on the causes of eurozone contagion.


Here's what it says:
"Borrowing too much from foreigners can imperil your nation's health
LOTS of countries in the rich world ran pro-cyclical current-account deficits before the financial crisis hit, which is to say they borrowed heavily when times were good. Yet only a handful have seen yields on their sovereign debt spike to alarming levels. One reason for this, as the chart below shows, may be an over-reliance on fickle foreigners to finance those deficits. Italy, which has a high rate of domestic savings (and thus is less reliant on finance from abroad) and yet also suffers from high yields on its debt, is an outlier."
(Daily chart, The Economist, 13th April 2012)
I would add that the key reason why foreigners financed the CA deficit is linked to the common currency and the banking regulations which led to a levelling of spreads across the eurozone. This essentially meant that Greece and Germany for example, could borrow at the same cost. Despite having the same zero-risk status and low interest rates, investing in the periphery became more attractive than investing in the North simply due to an attractiveness of a new market. And when this new market is considered to be risk-free, all the better! 


9 comments:

  1. how is Italy an outlier in the graph? It is directly on the best fit line

    the economists at the Economist should be more careful in their terminology

    ReplyDelete
    Replies
    1. I don't think they meant the outlier on the graph - I think they meant an outlier in the reliance on foreigners to finance the CA deficit. Or, even more precise, an outiler in the set of peripheral eurozone countries caught up in the contagion, which are featured on the upper left side of the graph. Even though, ever since the introduction of the euro, Italy never again experienced a CA surplus (see the first graph)

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