The Balance Sheet Channel of Fiscal Policy: Sovereign Exposure and Credit to Firms in the European Periphery

Alberto Montagnoli, Miroslava Quiroga-Trevino and Christoph Thoenissen

CAMA Working Papers from Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University

Abstract: This paper provides empirical evidence on the balance sheet channel of fiscal policy in peripheral European economies. Our findings using a Panel VAR, reveal that shifts in financial institutions' balance sheets following a debt-financed fiscal expansion reduce credit provision and investment in these countries. Moreover, the analysis indicates that economies with higher sovereign exposure experience more severe credit crunches and investment declines. To explore the underlying mechanisms, we employ a DSGE model that incorporates banks as primary holders of sovereign debt. The model shows that sovereign exposure amplifies the negative effects on credit supply, lowering investment and capital formation.

Keywords: SVAR; DSGE; Bayesian estimation; fiscal policy; sovereign debt; bank capital regulation; crowding out; Euro Area (search for similar items in EconPapers)
JEL-codes: C11 E32 E44 E62 H63 (search for similar items in EconPapers)
Pages: 49 pages
Date: 2026-06
New Economics Papers: this item is included in nep-dge, nep-eec and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:een:camaaa:2026-42

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