Progress is underway, but we are still not out of the woods. The improvement in financial conditions since December and the orderly restructuring of Greek debt certainly are welcome developments. The longer-term refinancing operations of the ECB have already addressed important financial stability risks for the EU banking system. The signing of the commitment to fiscal stability among 25 EU Members is another very positive event.
Yet, we still cannot draw too much comfort from these signs of healing. How many times have we seen conditions ease only for the crisis to return? Risk spreads on government debt remain at unsustainable levels for several European countries, and they have shown recent signs of creeping up again. So what needs to be done to overcome the crisis once and for all?
Decisive and immediate short-term action is required to fully stabilise vulnerable euro area sovereigns.The absolute priority must be to stabilise the most fragile euro area sovereigns. We call on the informal ECOFIN later this week to expand the available stability funds further to provide a credible level of support. The ‘mother of all firewalls’ should be in place – strong enough and broad enough to ensure that it does not need to be used. In addition, monetary conditions should remain supportive for some time and the pace of fiscal and financial retrenchment should be carefully managed.
The origins of the euro crisis lie in the build-up of excessive financial, banking, economic and fiscal imbalances during the upswing of the credit cycle. Economic catch-up, weak financial supervision and too low real interest rates in some countries triggered housing and credit booms, fuelled by excessive risk taking and bank lending from other euro area countries.
Returning to sustainable growth is a major challenge for both creditor and debtor countries, particularly as the monetary union excludes nominal exchange rate adjustments and leaves only the difficult options of relative price reductions, and the strengthening and rebalancing of growth through structural reforms. Both will take time.
The concern is that bank deleveraging, fiscal consolidation and economic adjustment could unduly restrict demand in the short term before the benefits of long-term adjustment on stability and growth materialise. However, recent OECD analysis of past experience shows that – contrary to conventional wisdom – some structural reforms can have positive effects even in the short run. Imagine the flows of investment that could be unleashed if regulations keeping new entrants out of markets were dismantled, and better conditions for doing business were put in place.
For this sustainable recovery to occur, Europe needs a strong banking system that is able to lend for growth-enhancing investment. The EU is undertaking a major exercise to improve the positions of banks, so that they achieve sustainable funding positions, are well capitalised and fully account for the quality of their portfolio. The upgrading of financial oversight needs to deliver stronger banks and reduce systemic risks in the euro area.
However, we are still missing a crucial ingredient for recovery: growth.Demand in the euro area and neighbouring economies remains vulnerable. Debt burdens are high, confidence is weak. Let us not forget that, today, 24 million people in Europe are unemployed and that the youth unemployment rate is at record levels of up to 50% in some countries.
The underlying growth performance of the EU and euro area economies over the past decade has been disappointing, with slowing productivity growth adding to ageing pressures. While many economies are still in first gear, there are huge opportunities to boost growth by removing or improving the poorly-designed regulations and institutions that hold them back. The OECD Euro Area Survey shows the five country-specific priorities identified by the OECD in its Going for Growth assessment.
But seizing these opportunities will require greater ambition and tackling vested interests. The experience of OECD countries shows that crises offer the best opportunities for change. These opportunities must be seized to transform the growth outlook, enhance social benefits, and reduce inequality and social exclusion, particularly of older workers and young labour market entrants with low skills.
Reforms in highly indebted countries can help restore competitiveness, reallocate resources to new growth sectors and reduce the debt burden. But, reforms are not just needed in such countries. For example, the OECD has long argued that reducing regulatory obstacles in the services sector of surplus countries such as Germany would strengthen domestic demand, which would be “win-win” for Germany and the euro area.
For these structural reforms to bear fruit in the short term, it is essential that confidence be restored. This is why both structural reforms as well as confidence-enhancing fiscal and financial policies should be implemented simultaneously, as a single coherent package.
This process needs to be underpinned by a stronger Europe.A step change in the political commitment to the Single Market is needed. Regardless of the considerable progress made so far, the project is unfinished. Cross-border economic activity in Europe is held back by chequered implementation of the Single Market and incoherent conditions for doing business across borders.
Implementation of the Single Market thus needs to be improved, both legally and on the ground. There should be an annual report for each country setting out remaining obstacles to its economic integration within the EU. New initiatives, including the proposed “Single Market Act”, must be carried through. And more attention is needed to promoting a coherent approach to cross-border regulation and infrastructure.
The build-up of imbalances and the crisis uncovered flaws in the design of the EMU – mainly the inherent instability of a monetary union without a fiscal union. The need for a new cross-cutting approach to economic, financial and fiscal governance is obvious. Thus, the “six pack” economic and budgetary governance package and the new “fiscal compact” are especially welcome. They have substantially upgraded EU and national fiscal institutions.
A new European Stability Mechanism is coming into place and a vast programme of reforms to financial oversight is being undertaken – including the creation of the European Supervisory Authorities and the European Systemic Risk Board. Many of these measures were considered unthinkable before the crisis.
However, the Survey highlights three key pieces of unfinished business.
First, recent reforms have gone a long way to improving the design of economic and budgetary governance. There is not a great deal more that can be done within the existing structure of the Union on this score. Despite reverse majority voting, the Council retains a margin of discretion: this makes it vital that euro area governments show their ability to implement the reforms and stick to their commitments.
Second, some difficult regulatory issues need to be tackled to ensure financial stability. It is essential that the euro area and the Single Market have a credible crisis management framework. Such framework would require common funding arrangements and a more integrated approach to financial supervision. At the same time, the excessively close link between sovereigns and domestic banks needs to be addressed by ensuring that these have adequate capital, avoid excessive concentration of risk and take full account of their sovereign exposure.
Third, despite everything that has been done in terms of governance, the only guarantee that there will not be another build-up of imbalances, another crisis, in the future is making euro area economies more robust. Economies must be able to withstand the pressures and maintain competitiveness within the monetary union. A special priority is making national labour markets work better, with greater flexibility, and increasing labour mobility across Europe’s regions.
Ladies and Gentlemen,
Although we mostly focus on the unfinished business, we should always keep in mind how much Europe has already achieved: the Treaty of Rome, the 1986 Single Market Act, the creation of the euro as a single currency, and the many reforms during the five years since the financial crisis began. These impressive achievements should generate the confidence to take the bold decisions necessary to put the economy back on a sustained growth path – for the sake of the European Union as a whole, its individual Members and their citizens.
Please count on the OECD to continue to support Europe, to design, promote and put in place better policies for better lives.
Thank you."
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