Economic surveys and country surveillance

Economic Survey of the Euro Area 2012

 

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OECD Economic Surveys: Euro Area 2012 | OECD Free preview | Powered by Keepeek Digital Asset Management  

The euro area is experiencing a crisis related to sovereign debt in several countries. The crisis has its origins in the build-up of excessive financial, fiscal and economic imbalances in the euro area and the global credit cycle. The resolution of these imbalances has so far been incomplete, leading to a renewed bout of instability beginning in mid-2011. There is a risk that fiscal consolidation and potential bank deleveraging may restrict economic activity before the benefits of healthier public finances and reforms to boost growth materialise. High risk-spreads and self-fulfilling expectations could lead to unsustainable debt dynamics. There is a risk of global spillovers from these developments. This calls for both short-term action and long-term reforms.

Decisive action is needed to stabilise vulnerable euro area sovereign debt markets. Fiscal consolidation, economic governance reforms and financial assistance by the European Financial Stabilisation Mechanism (EFSM), the European Financial Stability Facility (EFSF), as well as the future ESM (European Stability Mechanism) and IMF support, are major steps forward, even if confidence has not yet fully been restored. Euro area stability funds should be expanded further, subject to conditionality, to provide credible support. For Greece, which is an exceptional case and had an unsustainable debt burden, debt should be restructured in a voluntary way. Bank balance sheets need to be rebuilt, while avoiding excessive deleveraging.

Fiscal consolidation is necessary with monetary policy continuing to maintain price stability. Domestic demand is weak, especially in countries with severe financial and fiscal crises, and there are large downside risks. With inflationary pressures expected to remain moderate in an environment of weaker growth in the euro area and globally, the ECB has eased monetary policy by reducing short-term interest rates and has expanded the balance sheet to provide liquidity to banks and thereby support the monetary transmission mechanism. A wider set of non-standard measures could be needed if the transmission process becomes further impaired. The public finances in most countries face difficulties. The automatic stabilisers should in principle be allowed to work around the structural adjustment path, consistent with fiscal commitments. For countries with some fiscal space, the pace of planned consolidation could be eased if the state of the economy worsens subject to long-term sustainability considerations. Countries under financial assistance programmes should stick to headline targets as agreed in the programmes, while countries facing close market scrutiny should continue to meet the agreed budgetary targets and stand ready to pursue further consolidation measures if needed. Achieving prudent debt-to-GDP ratios will take many years of tight fiscal policy and would be facilitated by stronger growth.

Ambitious structural reforms are needed to boost growth, improve debt sustainability and rebalance the economy. These should tackle weaknesses in product market regulation, labour market institutions, tax systems, and strengthen the Single Market. While the full gains take time to materialise, many reforms would boost activity even in the short run. Structural measures would help address the causes of excessive imbalances in both surplus and deficit countries, including regulations that discourage investment and wage-setting mechanisms that weaken competitiveness. In particular, structural reforms have an important role to play in resolving excessive imbalances in countries having accumulated high levels of indebtedness and experiencing significant losses in competitiveness. Structural reforms would help to ease high debt burdens, restore competitiveness and attract foreign capital. In countries with low potential growth and weak domestic demand, structural reforms especially in the service sectors could boost investment and domestic activity.

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EU structural, fiscal and financial governance have been strengthened, but these measures now need to be implemented and there are some areas where reforms should go further. Economic co-ordination and fiscal governance have been upgraded, notably around the EU Semester, the new Macroeconomic Imbalance Procedure and reforms to the Stability and Growth Pact. Further proposals are under consideration. Effective implementation of the new regime will be essential for its success. The Council retains discretion in enforcing fiscal discipline, although many decisions will now be taken by reverse qualified majority, making it harder to form blocking majorities. National fiscal institutions are being strengthened and could play an important role in improving fiscal performance. A wide range of reforms to financial oversight have been made, including the creation of EU micro- and macroprudential bodies. Additional reforms should tackle excessively close risk exposures between domestic banks and governments, which encourage moral hazard and add to risks of financial instability. The weak financial crisis management arrangements should be improved by strengthening bank supervision, backed by common financing relying as much as possible on private sector funds.

How to obtain this publication

 

 

The complete edition of the Economic Survey of the Euro Area is available from:

 

Additional information

For further information please contact the Euro Area Desk at the OECD Economics Department at eco.survey@oecd.org.

The OECD Secretariat's report was prepared by Sebastian Barnes, Charlotte Moeser and Jon Pareliussen under the supervision of Piritta Sorsa. Research assistance was provided by Isabelle Duong.

www.oecd.org/eco/surveys/euroarea

 

 

 

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