Current Account Adjustment of the Euro Area in the 2010s: Causes and Policies

Abstract In the early 2000s, several countries in the euro area (EA), mostly in the South, experienced an increase in current account deficits, while Northern countries saw an increase in current account surpluses. During the euro crisis, the South transitioned from a current account deficit to a surplus, while the North's surplus widened, thereby increasing the EA's overall current account surplus. To analyze the causes of the current account adjustment in the EA during the 2010s and to identify economic policies that reduce external imbalances, we employ a New Keynesian DSGE model with three regions (the North of the EA, the South of the EA, and the rest of the world). Our analysis reveals that the EA's expansionary monetary policy, fiscal consolidation, and lackluster productivity performance explain a significant portion of the current account adjustment. Furthermore, we find that the fiscal revaluation and expansion of the North would have limited effects on external imbalances.