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[Article series] The experts behind Luxembourg's COVID-19 fight

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Published on Thursday, 14 May 2020

Prof. Christos Koulovatianos is a Full Professor in the Department of Finance at the Faculty of Law, Economics and Finance at the University of Luxembourg

His project, entitled “Nonperforming Mortgage Loans in Luxembourg and the EU After Covid-19” was selected for funding under the Fonds National de Recherche (FNR)’s COVID-19 Fast Track Call. The project seeks to examine if the COVID-19 shock has caused a critical increase in the number of households that have not been able to pay their mortgages and to study the extent to which banks in Luxembourg and the EU face a risk of increased nonperforming loans as early detection allows for developing policies that can tackle financial instability.

Prof. Koulovatianos is also part of the Research Luxembourg Covid-19 Taskforce (Work Package 7 on Financial Stability) and one of the contributing authors to the first RECOVid working note Economic effects of Covid-19 in Luxembourg (6 April 2020).

1)     Could you tell us more about your background and expertise?

CK: My background is in economics and my specific research interests lie in the intersection between finance and micro-founded macroeconomics. I am interested in discovering the factors behind why people make the economic decisions that they do. In particular, I have worked on topics such as asset pricing, household finance, fiscal policy with emphasis on taxation, on determinants of foreign direct investment and sovereign-bond returns, on dynamic games, growth models and resource economics.

Another important, more personal aspect of my background, is my nationality. Being Greek, I followed the events and the subsequent effects of the economic recession beginning in 2008 very closely and I have a good understanding of what went wrong in Greece. At the time, given my junior position, I was more of a spectator than an actor. However, in 2020, I am taking the opportunity to contribute actively.

2)     How is your expertise relevant in the current COVID context?

CK: Let me start with a weather analogy. There are meteorologists who predict the weather a couple of days in advance and there are climatologists who study long-term trends and underlying theory. These are two groups of people that have some things in common, but also many differences. The meteorologists focusing on day-by-day predictions don’t have to explain why it’s raining tomorrow or why the weekend will be sunny, they measure and take the data for granted.

During normal times, the person who is modelling the climate and trying to explain climate change is useless for the weekly forecast, but if there is an extraordinary event which threatens the whole structure, like warming of the North Pole, we tend to turn towards the climatologists for explanations and advice. In this analogy, I’m a climatologist. An economic shock as strong as the COVID-19, may lead to bankruptcies of companies that play a central role in the production structure. I am here to share my expertise, by way of research and studies, of how crises may impact the economy, and more specifically financial stability in Luxembourg. 

3)     What is your specific role in ongoing COVID projects?

CK: My role is essentially to collaborate with STATEC or existing people and institutions who run macroeconomic models that cannot foresee catastrophic events such as the 2008 financial crisis which caused massive bankruptcies of firms and drove over nine million US households into negative net worth. To deal with such extraordinary events, we don’t have detailed economic crisis models to run on incoming data, but we do have prototype crisis models. Right now, I am running a study that extends such prototype models on the potential macroeconomic impact of Luxembourg households not being able to pay their mortgages in an FNR-funded project that I will be working on with colleagues in the Finance department entitled, “Nonperforming Mortgage Loans in Luxembourg and the EU After Covid-19”.

More generally, I have an interest in studying financial markets. I have done work on asset pricing and how we can understand stock-market fluctuations: how stock markets respond to a rare disaster, and what they do when they lack information about the future and must operate under the extreme uncertainty of ‘unknown unknowns’. Research has shown that during wars and times of economic crisis, people tend to invest their money into assets are the least likely to lose value, such as gold or bonds, but which are also the least productive for the economy. On the other hand, when people are confident in the positive performance of the economy, then they will be more likely to invest their money in riskier, but economically productive outlets, like the stock market.

In the context of the economic effects of the COVID-19 pandemic, we would also need to closely consider the effects of a possible second wave and the re-instatement of confinement measures. In this case, Investors become more and more sceptical to invest after each cycle, leading to panic in the markets. This would be a worst-case scenario for the global economy. This is also where my research intersects with the current COVID-19 situation. When the effects of a crisis can be modelled and predicted in advance, this gives governments and other decision makers time to plan and mitigate negative effects through policy.

4)     Could you tell us more about your collaborators?

CK: The COVID-19 research tasks can be split into two equally important and complementary categories. The first category of tasks is “empirical”, this of collecting relevant, accurate and updated data on financial stability before and after the COVID-19 lockdowns (some of it confidential). The second category of tasks is this of “applied theory”, of further developing prototype crisis models for predicting the dynamics of different categories households, rich/poor, working in occupations more or less affected by COVID-19 lockdowns, etc., and for assessing the economic impact of different policies.

This categorisation of tasks has led to a synergy of two groups of collaborators, an “empirical group” and an “applied-theory group” that did not have the opportunity to interact as much in the past. The first category of collaborators, the “empirical group” is key actors in data collection and harmonisation in STATEC (for Luxembourgish data) and the Austrian Institute of Economic Research (for Luxembourgish and other EU-country data). These collaborators are data experts with a deep understanding of economic trends in Luxembourg and other EU countries. Smooth collaboration with STATEC in data collection is guaranteed through two key colleagues of mine at the University of Luxembourg Department of Finance, Prof. Ulf von Lilienfeld-Toal and Dr. Francois Koulischer, who have done remarkable empirical work with mortgage data under another FNR (CORE) grant. They will use state-of-the art data analysis methods and they will bridge the “empirical group” with the “applied-theory” group.

The “applied-theory group”, in which I specialise the most, already actively participates in “webinars” (led by top universities, such as Princeton, Chicago, Stanford, European University Institute, etc.) that study how prototype crisis models can be developed into full-fledged models that can evaluate policies for dealing with the risk of household and company bankruptcies. In the Department of Finance, my collaborators and I have been studying such models through macro reading groups and homework exercises in PhD courses, requiring demanding numerical simulations. This knowledge investment might pay off during these challenging times.