Two different eurozones: disentangling the labyrinth of the European economic dynamics

Purpose This paper aims to analyze the possible interdependencies among fiscal, monetary and growth variables by applying multivariate Granger Causality and determining an ultimate “causality path” excluding redundant relationships based on a complex endogenous system for each country. Design/methodology/approach We adopt a novel approach to test Granger Causality within the framework of Vector Autoregressive models. This approach enables us to expand the scope of relevant variables, which is typically limited to two or three, previously mentioned. Moreover, we employ graph-theoretic techniques for causal analysis, utilizing the PC algorithm (Colombo and Maathuis, 2014; Spirtes et al., 2000) to determine the optimal causal ordering among all statistically significant relationship. Findings Our findings highlight the continued division between “core” and “peripheral” Euro area countries, with monetary policy variables playing a crucial role in the economic growth of “core” nations. Stable inflation contributes to sustained growth in these countries, while fiscal variables contribute to growth across most nations. Originality/value The literature concerning the relationship among different macroeconomic variables such as prices, output and monetary policy indicators such as interest rates and interest payments, may be incomplete or misguided due to the exclusion of relevant information because studies are mostly based on a bivariate or a trivariate framework dynamics. In this sense, one goal is the extension of the system, which may be crucial, because the omission of relevant variables may lead to biased results. Furthermore, we apply graph-theoretic methods for causal analysis by using the PC algorithm to determine the ultimate causal sequence among all possible ones and, finally, we aim to understand and disentangle the transmission process and the relationships among economic policies in a Euro area country-level analysis.