Synopsis of the Euro Area Financial Crisis

The paper is putting forward a structural narrative for the euro area financial crisis and its asymmetric consequences through the monetary union. We conjecture three originating factors to the euro area financial fragmentation and discuss the role of specific financial frictions in transmitting and amplifying them: (i) the macroeconomic spillovers of sovereign market tensions through risky banks, (ii) the adverse real-financial feedback loop from rising corporate default to weak banks and credit supply constraints, (iii) bank deleveraging process at times of unprecedented regulatory overhaul. We develop global DSGE model featuring a sovereign-bank nexus, a granular set of relevant financial frictions. The model is calibrated for 6 regions in order to reflect the financial heterogeneity across the largest countries of the euro area. The counterfactual scenarios show that the interplay between sovereign, bank and corporate solvency risks generated sizeable procyclicality in some jurisdictions of the euro area during the crisis and severely impaired the transmission of the single monetary policy.