The great (De)leveraging in the GIIPS countries. Domestic credit and net foreign liabilities 1998–2013

This paper considers the relationship between domestic credit and foreign capital flows in the GIIPS countries before and after the outbreak of the global financial crisis. Cointegration analyses on the pre-crisis sample reveal that domestic credit and net foreign liabilities are cointegrated for Greece, Italy, Portugal and Spain, but not for Ireland. For the first four countries the long-run coefficient is in all cases around one, suggesting a one-to-one relationship between domestic leveraging and foreign capital inflows. Estimation of VECMs on data from the pre-crisis period shows that the adjustment to deviations from the long-run relationship takes place through changes in domestic credit for Greece and Italy, while the adjustment is bidirectional for Portugal and Spain. These results suggest that “push” from foreign capital inflows was an important factor in the pre-crisis leveraging. The deleveraging after the crisis was largely unrelated to developments in foreign capital flows