CEPII, Recherche et Expertise sur l'economie mondiale
Risk Shocks and Divergence between the Euro Area and the US in the aftermath of the Great Recession


Thomas Brand
Fabien Tripier

 Highlights :
  • Highly synchronized during the Great Recession of 2008-2009, Euro area and US economies have diverged since.
  • This paper assesses the role of financial frictions and credit allocation to non-financial corporations in explaining the divergence observed between the two economies.
  • A positive risk shock increases the volatility of idiosyncratic uncertainty in the financial sector making credit interest rate higher and corporate credit lower.
  • Risk shocks dominate all other shocks in explaining the divergence after the financial crisis between the two
  • Risk shocks have stimulated US growth in the aftermath of the Great Recession and have been the main driver of the double-dip recession in the Euro area.

 Abstract :
Highly synchronized during the Great Recession of 2008-2009, the Euro area and the US have diverged in the period that followed. To explain this divergence, we provide a structural interpretation of these episodes through the estimation for both economies of a business cycle model with financial frictions and risk shocks, measured as the volatility of idiosyncratic uncertainty in the financial sector. Our results show that risk shocks have stimulated US growth in the aftermath of the Great Recession and have been the main driver of the double-dip recession in the Euro area. They play a positive role in the Euro area only after 2015. Risk shocks therefore seem well suited to account for the consequences of the sovereign debt crisis in Europe and the subsequent positive effects of unconventional monetary policies, notably the ECB’s Asset Purchase Programme (APP).


 Keywords : Great recession | Business cycles | Uncertainty | Risk Shocks | Divergence

 JEL : E3, E4, G3
CEPII Working Paper
N°2021-04, March 2021

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