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The Euro-dividend: public debt and interest rates in the Monetary Union

  • L. Marattin
  • S. Salotti

The ongoing massive fiscal policy stimulus triggered increasing concerns on the potential impact on interest rate levels, as economic theory predicts. Particularly, the deterioration of some EMU countries’ fiscal positions has been putting at risk Eurozone’ financial stability. In this paper, we estimate a Panel VAR (PVAR) model on the EMU area employing annual data from 1970 to 2008 in order to assess the qualitative and quantitative impact of public debt on interest rates Our results show that prior to the introduction of the Euro an increase in public debt led to positive and significant effect on long-term nominal interest rates, with a stronger effect for high-debt countries. After the introduction of the single currency, the effect vanishes (in line with Bernoth 2004). We interpret this result as a confirmation of the crucial role of the monetary union in weakening the automatic risk-premium-based channel between debt shocks and returns on government bond.

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Paper provided by Dipartimento Scienze Economiche, Universita' di Bologna in its series Working Papers with number 695.

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Date of creation: Feb 2010
Date of revision:
Handle: RePEc:bol:bodewp:695
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  1. Thomas Laubach, 2003. "New evidence on the interest rate effects of budget deficits and debt," Finance and Economics Discussion Series 2003-12, Board of Governors of the Federal Reserve System (U.S.).
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  8. Miller, Stephen M. & Russek, Frank S., 1996. "Do federal deficits affect interest rates? Evidence from three econometric methods," Journal of Macroeconomics, Elsevier, vol. 18(3), pages 403-428.
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  10. Martin Feldstein & Charles Horioka, 1979. "Domestic Savings and International Capital Flows," NBER Working Papers 0310, National Bureau of Economic Research, Inc.
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