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Keynes Fund

Summary of Project Results

The project aims at providing a rigorous perspective of the crisis in the euro area, reconstructing its financial history and assessing the consistency of leading interpretations against stylized facts and economic models.

Documenting the financial history of the euro-area crisis is a key building block for a comprehensive interpretation of the root causes of the current prolonged slump. The collection of detailed data on the dynamic of banking flows and portfolio allocation could help reconcile the different views on crisis, within a more balanced analytical framework.

By way of example, many commentators interpret the build-up of Target2 accounting imbalances across countries as an evidence of excessive borrowing by the debtor countries during the crisis. Yet, especially in the first phase of the crisis, Target2 imbalances corresponded to a massive withdrawal of credit by the core-countries’ financial institutions. Without a balance-of-payment constraint at national level (inconsistent with monetary union), these institutions were able to repatriate funds and disengage from loss-making and risky loans without suffering from any losses. The liquidity effects of these withdrawals, however, exacerbated the crisis in the debtor countries, consequently raising the overall costs of the crisis. Moreover, since possible losses on Target2 balances are ultimately guaranteed by the euro-area taxpayers, the ‘liquidity run’ by creditor countries’ intermediaries on the peripheral debt caused a shift of risk onto the euro-area citizens. Over time, Target2 balances also recorded capital movements and ‘capital flight’ across border. However, it is important to understand the nature of these movements in different phases of the crisis.

We aim at collecting and organizing evidence on:

  1. Capital flows across countries and in and out of the area
  2. The dynamic of banking crises and bailout
  3. The process of restructuring financial intermediation along national border
  4. The evolution of the balance sheet of financial intermediaries
  5. Policy initiatives at country and European levels

Based on this evidence, we will define different phases of the crisis, marked by both market and policy developments. As stressed by President Draghi in 2014, an effective European response to the crisis was long hindered by insufficient European institutional development in banking supervision and regulation, burden sharing, and fiscal cooperation. European policy makers were required to agree at the same time on urgent stabilization initiatives and a new financial and fiscal architecture. Political bargaining resulted in shifting incentives and destabilizing shocks. Insufficient institutional development often caused European initiatives to be implemented in the wrong sequencing, and with considerable delay, thus creating room for belief-­‐driven speculative runs.

Different phases of policy developments corresponded to different levels of cohesion and policy cooperation. To a large extent, the eruption of the euro-crisis coincided with a break down in intra-European cooperation, with country leaders pursuing contradictory agendas on their own initiatives.

A new phase in the crisis was marked by the agreement on the European Stability Mechanism (ESM). The conditionality of the ESM programme made it possible for the European Central Bank to announce a credible intervention policy to stabilize interest differentials in the euro area: the Outright Monetary Transactions (OMTs). The success of the OMTs created the policy premise for a renewed season of stricter and constructive cooperation, pushing forward institutional changes, especially as regards the banking system.

Research Output

The Euro Crisis in the Mirror of the EMS: How Tying Odysseus to the Mast Avoided the Sirens but Led Him to Charybdis

The Euro Crisis in the Mirror of the EMS: How Tying Odysseus to the Mast Avoided the Sirens but Led Him to Charybdis, Giancarlo Corsetti, Barry Eichengreen, Galina Hale and Eric Tallman, Open Economies Review, Vol. 31, pp. 219-236 (2020)


Why was recovery from the euro area crisis delayed for a decade? The explanation lies in the absence of credible and timely policies to backstop financial intermediaries and sovereign debt markets. In this paper we add light and color to this analysis, contrasting recent experience with the 1992–3 crisis in the European Monetary System, when national central banks and treasuries more successfully provided this backstop. In the more recent episode, the incomplete development of the euro area constrained the ability of the ECB and other European institutions to do likewise.

Official Sector Lending Strategies During the Euro Area Crisis

Official Sector Lending Strategies During the Euro Area Crisis, Giancarlo Corsetti, Aitor Erce and Timothy Uy, The Review of International Organizations, Vol. 15, pp. 667–705 (2020)


In response to the euro area crisis, policymakers took a gradual, incremental approach to official lending, at first relying on the blueprint followed by the International Monetary Fund, then developing their own crisis resolution framework. We describe this process of institutional development, marked by a substantial divergence in the terms of official loans offered to. We use a unique dataset of the characteristics of the various official loans to provide key stylised facts, and use regression and event analysis techniques to study the effect of different lending terms on market borrowing costs and fiscal performance. Euro area loans, when in longer maturities and lower rates, go hand in hand with improved market access. Instead, the terms of IMF loans appear to have no significant effect on market access, but primary balances are larger when IMF maturities are longer. We discuss arguments for refocusing debt sustainability analysis and embed debt management techniques in programme design, while considering the trade-off between adjustment incentives and official lending.

Debt Crises, Fast and Slow

Debt Crises, Fast and Slow, Giancarlo Corsetti and Fred Seunghyun Maeng, Journal of the European Economic Association, jvad076, (2023)


We build a dynamic model where the economy is vulnerable to belief-driven slow-moving debt crises at intermediate debt levels, and rollover crises at both low and high debt levels. Vis-à-vis the threat of slow-moving crises, countercyclical deficits generally welfare-dominate debt reduction policies. In a recession, optimizing governments only deleverage if debt is close to the threshold below which belief-driven slow-moving crises can no longer occur. The welfare benefits from deleveraging instead dominate if governments are concerned with losing market access even at low debt levels. Long bond maturities may fully eliminate belief-driven rollover crises but not slow-moving ones.

Media Coverage

Project Information

Project Code: JHLP
Project Investigators
  • Professor Barry Eichengreen
  • Professor Giancarlo Corsetti
Research Round
Fourth Round (April 2014)

Project Investigators

Professor Giancarlo Corsetti is Pierre Werner Chair at the European University Institute. He specialises in International Macroeconomics and Finance.

Professor Barry Eichengreen is George C. Pardee and Helen N. Pardee Professor of Economics and Political Science, at Berkeley Economics, University of California and a former senior policy adviser at the International Monetary Fund.