Self-Fulfilling Crises in the Eurozone: An Empirical Test

CEPS Working Document No. 366, 2012

31 Pages Posted: 25 Jun 2012

See all articles by Paul De Grauwe

Paul De Grauwe

CESifo (Center for Economic Studies and Ifo Institute for Economic Research); London School of Economics & Political Science (LSE); Centre for Economic Policy Research (CEPR)

Yuemei Ji

KU Leuven - Faculty of Business and Economics (FEB)

Multiple version iconThere are 3 versions of this paper

Date Written: June 22, 2012

Abstract

This paper tests the hypothesis that government bond markets in the eurozone are more fragile and more susceptible to self-fulfilling liquidity crises than in stand-alone countries. We find evidence that a significant part of the surge in the spreads of the PIGS countries (Portugal, Ireland, Greece and Spain) in the eurozone during 2010-11 was disconnected from underlying increases in the debt-to-GDP ratios and fiscal space variables, and was the result of negative self-fulfilling market sentiments that became very strong since the end of 2010. We argue that this can drive member countries of the eurozone into bad equilibria.

We also find evidence that after years of neglecting high government debt, investors became increasingly worried about this in the eurozone, and reacted by raising the spreads. No such worries developed in stand-alone countries despite the fact that debt-to-GDP ratios and fiscal space variables were equally high and increasing in these countries.

Keywords: eurozone, crise, government bond markets, Portugal, Ireland, Greece, Spain, debt-to-GDP

Suggested Citation

De Grauwe, Paul and De Grauwe, Paul and Ji, Yuemei, Self-Fulfilling Crises in the Eurozone: An Empirical Test (June 22, 2012). CEPS Working Document No. 366, 2012, Available at SSRN: https://ssrn.com/abstract=2091056

Paul De Grauwe (Contact Author)

CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

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Germany

London School of Economics & Political Science (LSE) ( email )

Houghton Street
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Centre for Economic Policy Research (CEPR)

London
United Kingdom

Yuemei Ji

KU Leuven - Faculty of Business and Economics (FEB) ( email )

Naamsestraat 69
Leuven, B-3000
Belgium

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