Luca Fornaro

Some thoughts on the interactions between public debt, public investments and productivity growth in the euro area. Key risk is that the union ends up being split between a fiscally sound/high growth block and a fiscally stagnant one.

www.ecb.europa.eu/pub/pdf/sint...

Spain during the 2000s is a good example of these dynamics, but productivity growth slowdowns during large surges in trade deficits are quite common.

Is the EU heading towards a financial resource curse? Cheap imports (and capital flows) from China could crowd out economic activity in tradable industries in the EU, causing a productivity growth slowdown. crei.cat/wp-content/u...

Here you can find the full slides ecb.europa.eu/pub/pdf/sint..., while here is the recording of the panel ecb.europa.eu/press/confer..., which features great contributions by
@isabelschnabel.bsky.social, @agnesbq.bsky.social, @pietphc.bsky.social and @refetgurkaynak.bsky.social.

Deeply honored to have participated in a panel at the
@ecb.europa.eu Forum in Sintra. My remarks focused on the risk that high legacy debt may push part of the euro area into fiscal stagnation, and how a pro-growth approach to fiscal policy can mitigate this risk.

Luca Fornaro on Hysteresis, Endogenous Growth, and Aggregate Demand Policies Puntata podcast · Macro Musings with David Beckworth · 19/05/2025 · 1 h

This Macro-Musings episode 🔈
podcasts.apple.com/it/podcast/m...
featuring @lucafornaro.bsky.social provides extremely insightful and clear views on macroeconomic policies to counter hysteresis and stagnation 📈

Powerlifting through Hysteresis On strength lost, strength regained, and the scars that shape an economy.

What do powerlifting and economic hysteresis have in common? My latest newsletter explores this connection, building on @petercontibrown.bsky.social Conti-Brown's powerlifting journey and @lucafornaro.bsky.social's hysteresis research. macroeconomicpolicynexus.substack.com/p/let-it-fai...

New column by @lucafornaro.bsky.social and Martin Wolf cepr.org/voxeu/column...

Three graphs of the evolution of public debt, primary surplus, and productivity growth in Italy compared to other advanced economies. Public debt-to-GDP ratios have climbed to historic highs in most advanced economies. This column studies the connection between productivity growth, fiscal policy, and public debt. Using a theoretical model, it argues that a feedback loop is possible between fiscal policy and growth. Large primary surpluses are associated with fiscal distortions which depress investment and productivity growth, and lead to further pressure on public debt-to-GDP ratios. A fall into fiscal stagnation can result from hysteresis effects or pessimistic animal spirits. Meanwhile, exiting fiscal stagnation requires large policy interventions that reduce the public debt-to-GDP ratio, such as credible pro-growth strategies.

@lucafornaro.bsky.social & Martin Wolf argue that a feedback loop is possible between fiscal policy and #growth. Exiting fiscal stagnation requires large policy interventions that reduce public debt-to-GDP ratio, such as credible pro-growth strategies.
cepr.org/voxeu/column...
#EconSky

Buon 25 aprile!

Taking stock, our paper suggests that fiscal stagnation is a tangible risk, and avoiding/escaping it requires that fiscal authorities design credible pro-growth fiscal plans.

Here's a link to the paper mwolfunisg.github.io/website/fist.... It is still preliminary, so comments are welcome.

Pro-growth policies are more appealing. Credibly promising to lower fiscal distortions boosts investment and growth. High growth, in turn, reduces the debt-to-GDP ratio. But, due to a time-consistency problem, this strategy requires commitment on the side of the government.

Austerity, in theory, is simple. Increase the primary surplus today to lower public debt in the future. But austerity discourages investment and growth. So exiting stagnation through austerity is painful and takes a long time, especially if animal spirits are pessimistic.

How to optimally escape fiscal stagnation? First, marginal policy changes won't do it. Exiting stagnation requires a big push, i.e. a large change in fiscal policy to reduce the public debt-to-GDP ratio. Two strategies to do so: fiscal austerity and pro-growth policies.

A shift from fiscal soundness to stagnation can be interpreted as the result of self-defeating austerity. During the transition toward fiscal stagnation, in fact, high primary surpluses depress growth so much that the debt-to-GDP ratio may not decline, or even rise.

What makes the economy fall into fiscal stagnation? This may happen through hysteresis effects, i.e. a moderate negative fiscal shock may lead to a sharp deterioration of the long-run fiscal outlook. But pessimistic animal spirits can drive the economy into fiscal stagnation too.

Due to this feedback loop, the economy may enter a fiscal stagnation steady state, i.e. a self-perpetuating state of high fiscal distortions and weak growth. Technically, our model has multiple steady states. so a fiscally sound and a fiscal stagnation steady state may coexist.

Our model suggests that this is a risk, because of a feedback loop between fiscal policy and growth. Large primary surpluses and high fiscal distortions depress investment and growth. But low growth calls for high primary surpluses to ensure the sustainability of public debt...

Let's start from Italy. Since the early 1990s, Italy had to post high primary surpluses - high taxes + low public investment - to sustain its public debt. Over this period, productivity growth slowed down dramatically. Will other high-debt countries face a similar scenario?

New paper with Martin Wolf on Fiscal Stagnation.

Key insights: 1) High public debt may push the economy into fiscal stagnation, a persistent state of low growth and high fiscal distortions. 2) Pro-growth policies are crucial to exit stagnation, but they require credibility.

I like that Brunnermeier and Merkel at least nod (without citation for some reason) at @gianlucabenigno.bsky.social and @lucafornaro.bsky.social ‘s work on the Financial Resource Curse (e.g crei.cat/wp-content/u...) 3/n

In an AER paper w Martin Wolf (of U.St.Gallen) @gianlucabenigno.bsky.social and @lucafornaro.bsky.social show that the Financial Resource Curse has even larger negative implications when flows go to the world technological leader, I.e. the US (ungated here: www.newyorkfed.org/research/sta...) 3/n

Too many recent takes on this issue ignore the downsides of Treasuries’ global safe haven status. 2/n

Large capital inflows, sectoral allocation, and economic performance This paper describes the stylized facts characterizing periods of exceptionally large capital inflows in a sample of 70 middle- and high-income countr…

Finally, in my own paper with @gianlucabenigno.bsky.social and @lucafornaro.bsky.social, we show that the Financial Resource Curse is not merely a theoretical possibility by presenting careful empirical evidence that it is a general phenomenon www.sciencedirect.com/science/arti... 4/n

Very clear and comprehensive piece by Brunnermeier and Merkel on the pros and cons (for the US) of US Treasuries being a global safe asset. 1/n

This is very cool

And for those that want to know more, this survey is an excellent starting point.

This calls into question how fiscal distortions and public debt interact with business investement over the medium run. Martin Wolf and I are working on this, stay tuned for a new paper coming out soon.

In particular, focusing on the medium run you soon find out how monetary and fiscal policy are tightly connected. For instance, subsidizing business investment may be a useful complement to a monetary contraction during a disinflation, or during the green transition.