BUSINESS CYCLE TRENDS WITHIN THE EUROPEAN CORE AND PERIPHERY: IMPLICATIONS FOR UKRAINE

Abstract

Economic theory suggests that economic integration can promote business cycle co-movement, which in turn facilitates the institution of common counter-cyclical policies. However, evidence from empirical studies on co-movement within the EU and Europe as a whole is mixed, particularly concerning a so-called group of peripheral countries. This article argues that the existence of large international shocks and their heterogeneous impact on national economies changes the interpretation of co-movement. A decomposition of business cycles into common and country-specific components via a flexible Bayesian dynamic factor model with time-varying parameters and stochastic volatility reveals that the patterns of co-movement among the EU core and periphery are similar after common shocks – such as the Great Recession and the COVID-19 pandemic – and the upward bias introduced by the use of the Pearson correlation coefficient is accounted for. However, it is found that there is another important distinction between the EU core and periphery; that is, during the period of the Great Re-moderation that followed the Great Recession, the business cycles of the core EU countries converged to a lower level of volatility than those of the periphery. Moreover, it is shown that various standard measures of business cycle co-movement can conflate co-movement and volatility convergence, which alters their interpretation. Importantly, this article relates the experience of the EU core and periphery to that of Ukraine. In particular, it is found that the business cycle of Ukraine is similar to those of the EU periphery in terms of the level of its volatility and co-movement vis-à-vis the core EU countries, which has important implications for further development of Ukraine's European integration policy.