Decoupling after the Crisis: Western and Eastern Business Cycles in the European Union

ABSTRACT

The aftermath of the crisis in Europe renewed the interest in the comovement business cycles and the ability of the European Central Bank (ECB) to implement a common monetary policy. Depending on the examined time period, the sample of countries and the utilized methodology, the research shows evidence of both convergence and decoupling of European business cycles. The present paper extends this research agenda by applying Bayesian dynamic latent factor models to the time series of GDP growth and the inflation of the Eurozone and Central and Eastern Europe (CEE) countries from 2000 till 2018. The results show evidence of two distinct business cycles in the Eurozone and the CEE, as well as the progressing decoupling in the European Union and convergence within the Eastern and Western Europe. Comovement of inflation has been slowly declining in the Eurozone, suggesting decreasing effectiveness of the EBC in following the inflation target in the entire euro area.

KEYWORDS:

• business cycles
• Central and Eastern Europe
• dynamic factor models

JEL CLASSIFICATION:

• C33
• C38
• F02
• F42
• F62

Notes

1. https://cepr.org/content/euro-area-business-cycle-dating-committee (13.01.2019).

2. It should be noted that over a longer period of time part of the regional factor could be pulled into the European factor. This creates discrepancies between variance decomposition for the entire period (with a higher role of the European factor) and in sub periods (with a higher role of the regional factors).

3. The results are not reported here for brevity, but they are available upon request.

4. The results are not reported here for brevity, but they are available upon request.