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EUROPES GROWTHPROBLEM (AND WHATTO DO ABOUT IT)
bruegelpolicybriefISSUE2013/03APRIL 2013
by Zsolt DarvasResearch Fellow at [email protected]
Jean Pisani-FerryDirector of Bruegel
and Guntram WolffDeputy Director of Bruegel
POLICY CHALLENGEThe European Union's weak long-term growth potential and unsatisfactory recov-ery from the crisis represent a major policy challenge. Over and above the struc-tural reform agenda, which vitally important, bold policy action is needed. Thepriority is to get bank credit going. Banking problems need to be assessed prop-erly and bank resolution and recapitalisation should be pursued. Second, foster-ing the reallocation of factors to the most productive firms and the sectors thatcontribute to aggregate rebalancing is vital. Addressing intra-euro area competi-
tiveness divergence is essentialto support growth in southernEurope. Third, the speed of fiscaladjustment needs to be appro-priate and EU funds should befrontloaded to countries in deeprecession, while the EuropeanInvestment Bank should in-crease investment.
EU15 GDP relative to the US, 1980-2017 (US = 100)
THE ISSUE The European Union's pre-crisis growth performance was disap-pointing enough, but the performance has been even more dismal since theonset of the crisis. Weak growth is undermining private and public deleverag-ing, and is fueling continued banking fragility. Persistently high unemploymentis eroding skills, discouraging labour market participation and undermining theEUs long-term growth potential. Low overall growth is making it much tougherfor the hard-hit economies in southern Europe to recover competitiveness andregain control of their public finances. Stagnation would reduce the attractive-ness of Europe for investment. Under these conditions, Europe's social modelsare bound to prove unsustainable.
Source: Bruegel based on IMF Word Economic Outlook October 2012. Note: GDP is
measured at purchasing power parity. EU15: EU members before 2004. EU12: EUmembers that joined in 2004/2007.
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
120
100
80
60
40
20
0
EU15GDP
EU15GDP/employee
EU12GDP
EU12GDP/employee
US = 100
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EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
1. For data for all EUcountries for all
indicators studied inthis Policy Brief, see the
supplementary charts,available at
http://www.bruegel.org/index.php?id=257.
broadly stable relative to the US,but this is largely due to pre-crisis
job creation a positive develop-ment on its own. Relative GDP peremployee declined by five per-centage points between 1997 and2007 and by another six percent-age points since1. There is somecomfort to be found in the contin-ued catching-up of the countriesthat joined the EU in 2004 andafter, but their future will also be at
stake if the advanced Europeancountries continue to lag behind.
Unlike the US and Japan, Europesgrowth and unemployment num-bers have consistently disap-pointed since 2007 (Figure 1).Productivity developments remainweak, even in EU countries withhealthier private and public bal-ance sheets. Unemployment con-tinues to grow and set newrecords. This is again in contrast tothe developments in the US,
where the initial impact on em-ployment of the recession wasmuch worse, but where job cre-ation has resumed, the unemploy-ment rate has declined from itspost-2007 heights, and invest-ment has also resumed (Figure 2).
What are the reasons for the wors-ening performance since 2007?Obstacles to productivity per-
formance? Ill-timed publicdeleveraging? Banking sectorweaknesses? Or, especially in theeuro area, capital misallocationand misaligned prices? In thisPolicy Brief four sections we dis-cuss these questions, beforedrawing policy conclusions.
THE PRODUCTIVITY PROBLEM
Before 2007, Europe's weak pro-
ductivity performance reflectedwell-known structural weak-nesses: insufficient investment inhuman capital and research, alimited ability to transition froman imitation-based economy toan innovation-based economy,excessive reliance on establishedfirms in traditional industries and,in a number of countries, a growthmodel that was based on boom-
ing but low-productivity construc-tion and traditional services.
2005 2010 2015 2005 2010 2015 2005 2010 2015 2005 2010 2015
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90
130
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110
100
90
130
120
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100
90
130
120
110
100
90
EU15 EU12 UnitedStates Japan
April2008 Sept2011 Oct2012
Source: Bruegel calculations using different editions of the IMF World Economic Outlook. Note:the first vertical line indicates 2007, the second 2012.
Figure 1: Growth forecasts at different dates (2007= 100)
Table 1: GDP, GDP per capita and GDP per employee at PPP (US=100)
1982 1987 1992 1997 2002 2007 2012 2017EU15 GDP 115 105 106 99 96 94 90 83
GDP/capita 75 71 74 72 73 72 71 67
GDP/employee 80 80 82 83 79 78 74
EU12 GDP 11 11 12 13 13
GDP/capita 28 30 36 39 41
GDP/employee 37 40 45 47
Japan GDP 38 38 41 37 32 31 29 27
GDP/capita 75 75 85 81 72 72 73 70
GDP/employee 68 72 76 74 69 70 67
Source: Bruegel based IMF October 2012 WEO and Eurostat. PPP = purchasing power parity.
EUROPES PRE-CRISIS GROWTHPERFORMANCE was disappointing
enough, but the performancesince the onset of the crisis hasbeen even more dismal. Table 1shows that while the total outputof EU15 countries (EU membersbefore 2004) exceeded that of theUnited States by 15 percent in1982, it is expected to be 17 per-cent lower in 2017. EU15 percapita income has remained
EU15 EU12* UnitedStates Japan
2007 2008 2009 2010 2011 2012 2013 2007 2008 2009 2010 2011 2012 2013
102
100
98
96
94
110
105
100
95
90
85
80
Employment Businessinvestment
Source: Bruegel based on AMECO database, European Commission. Note: * in right hand panel,EU 9 (not including Bulgaria, Latvia, Malta).
Figure 2: The impact of the recession on employment and businessinvestment (2007 = 100)
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EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
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2. See Zachmann, Georg(2012) Smart choices
for growth, PolicyContribution 2012/21,
Bruegel.
3. See Becker, Torbjrn,Daniel Daianu, Zsolt
Darvas, VladimirGligorov, Michael A .Landesmann, Pavle
Petrovic, Jean Pisani-Ferry, Dariusz K. Rosati,
Andr Sapir andBeatrice Weder di
Mauro (2010) Whithergrowth in central and
eastern Europe? Policylessons for an
integrated Europe,Blueprint Volume XI,
Bruegel.
4. See Darvas, Zsolt
(2012) Compositionaleffects on productivity,labour cost and export
adjustments, PolicyContribution 2012/11,
Bruegel.
5. See eg Bank of Eng-land (2012) Inflation
Report, November, p33.
6. See Altomonte, Carloand Gianmarco Otta-
viano (2011) The roleof international produc-
tion sharing in EU pro-ductivity and
competitiveness, EIBPapers vol 16 no1.
Efficiency of public administra-tions, education levels and weak
innovation performance havebeen additional impediments togrowth2. Most of the countries thatjoined the EU in 2004/2007 em-barked on technological transfer-driven convergence3.
Since 2007, the EU15 has taken aproductivity holiday, while pro-ductivity has increased rapidly inthe US (Figure 3). In terms of totalfactor productivity, both the EU15
and EU12 lag behind Japan. Eveneconomically stronger countries,such as Germany, lag behind theUS, and the evolution in theUnited Kingdom does not differmarkedly from that of continentaleconomies. Some hard-hit coun-tries, such as Ireland, Spain andLatvia, have apparently recordedoutstanding labour productivityperformances since 2007, but
most of these gains have beendue to compositional changes,such as the shrinkage of low-pro-ductivity construction and lowvalue-added services and theirtotal factor productivity develop-ments were weak4. In terms of pro-ductivity there have been veryfew truly good performers in theEU. Poland is one.
Labour hoarding can partly ex-
plain the initial response to theshock of the recession. Employ-ment contracted by five percentbetween 2007 and 2010 in theUS, while in several Europeancountries the employment shockwas of limited magnitude. Publicpolicies, such as Kurzarbeit, ascheme financed by the Germangovernment to support part-timework and keep workers em-
ployed, were one factor behindthis response. Firms also hoarded
labour, expecting a rebound andthereby limiting the initial rise inunemployment. Five years on,however, the productivity setbackhas become permanent, con-tributing to lower potential output.This cannot be regarded as acyclical phenomenon anymore.In the short run, weak productiv-ity performance can be related toinsufficient demand through the
so-called productivity cycle. But aweak cyclical position of theeconomy cannot explain sus-tained poor productivity.
A number of structural factorshave also contributed to weakproductivity performance5:
Banking problems: the in-creased cost and reducedavailability, of working capitallimits investment and therebythe adoption of new technolo-gies, and may lead to a shifttoward more labour-intensive,but less efficient production.
Low level of integration in theglobal value chain: the com-plexity of firms internationali-
sation strategies is related toproductivity6. Countries thatare more integrated into theglobal value chain, such asGermany and Poland, took ad-vantage of global demand andthereby achieved better pro-ductivity performance than
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96
9407 08 09 10 11 12
101
100
99
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96
95
101
100
99
98
97
96
9507 08 09 10 11 12
EU15 EU12 US Japan
Labourproductivity Totalfactorproductivity
Source: Bruegel based on Conference Board TED database January 2013 . EU15: EU membersbefore 2004. EU12: EU members that joined in 2004 and 2007.
Figure 3: Productivity developments, 2007-2012 (2007=100)
0
20
40
60
80
100
0
20
40
60
80
100
90 95 00 05 1020
40
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80
100
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90 95 00 05 100
40
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0
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120
160
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240
90 95 00 05 10
Households Non-fin.corporations Government
EU15 EU3* US Japan
Source: Bruegel based on data from Christian Dembiermont, Mathias Drehmann and SiripornMuksakunratana (2013) How much does the private sector really borrow? A new database fortotal credit to the private nonfinancial sector, BIS Quarterly Review, March, pp 65-81 (privatedebt), Eurostat (public debt except for Japan, GDP and exchange rates), and McKinsey (public
debt for Japan). Note: the vertical line corresponds to 2008Q3. * EU3: the aggregate of theCzech Republic, Hungary and Poland (data for other new member states is not available).
Figure 4: Gross debt (% GDP), 1990Q1-2012Q3
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EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
more inward looking countries,such as the UK and Spain.
Pro-cyclicality of business re-search and development ex-penditures: the lingering crisisreduces the pace of innovationand companies adoption ofmore innovative technologies,which weakens business in-vestment, and thereby reducesthe productivity increase.
Impediments to reallocationacross sectors and betweenfirms: dysfunctional financial
systems hamper productivity-enhancing restructuring, whileobstacles arising from labour,capital market and bankruptcyregulations weigh more heavilyin a time of profound change.
Uncertain macroeconomic andfinancial outlook can alsomake companies cautiousabout investing, thereby grad-ually eroding productivity.
THE DELEVERAGING PROBLEM
In the run-up to the crisis, privatesector debt increased substan-tially in the EU and the US, while inJapan the deleveraging processthat started in the 1990s contin-
ued (Figure 4). Household andcorporate indebtedness in-
creased substantially, whilepublic debt was rather stable oreven declining slightly7.
Since the beginning of the crisis,private debt deleveraging inEurope has proved slower than inthe US. In the aftermath of theGreat Recession, Europe put theemphasis on fiscal exit strate-gies, overlooking private debtproblems. Corporate and house-
hold debt has continued to in-crease as a share of GDP. In theUS, household debt has sharplyreduced and corporate debt hasstabilised. Whereas public debthas increased more in the US thanin Europe since 2007, total debt(excluding the financial sector)has increased markedly less. TheUS is therefore ahead of Europe inthe aggregate deleveraging
process. In Japan, meanwhile, pri-vate debt has remained stableand the whole of the increase intotal debt has come from the gov-ernment sector.
A combination of factors is re-sponsible for this outcome:
Lower profitability of the corpo-rate sector in part of Europe,
which has made it dependenton borrowing; Different bankruptcy laws and
procedures. Household debt inthe US was significantly re-duced through personal bank-ruptcies8.
More expensive financing con-ditions in part of Europe, espe-cially southern countries in theeuro area and bank weaknessleading them to continue ex-
tending credit to weak firms inorder to avoid the realisation oflosses (a process known aszombification)
Lower nominal GDP growth, inpart as a consequence of moreaggressive budgetary consoli-dation against the backgroundof a still-weak private economy.
THE BANKING PROBLEM
Financial intermediation is ofcentral importance for growth.Ample international experiencedocuments that the growth of aneconomy is negatively affectedby a weak financial system. Thecase of Japan illustrates that acombination of banking problemsand debt overhang in thecorporate sector can have long-lasting negative consequences
for growth.
Financial intermediation in Europeremains centred on the banks, al-though there is some evidence ofa gradual and slow shift to capitalmarkets9. Although transforma-tion of the financial system to-wards a greater share of capital-market based intermediation islikely to be a long-term trend that
will have profound implicationsfor Europes economy, in the short
7. See Ruscher, Eric andGuntram B. Wolff
(2012) Corporate bal-ance sheet adjustment,
stylized facts, causesand consequences,
Working Paper2012/03, Bruegel.
8. The Economist(2012) The hangover.America is recovering
from the debt bustfaster than Europeancountries. Why?, 21
January,
http://www.economist.com/node/21543139.
9. Darvas, Zsolt (2013)Can Europe recover
without credit?, PolicyContribution 2013/03,
Bruegel, and ECB(2013) Monthly Bul-
letin March, p45, docu-ments the substitution
effect with MFI loansgrowing at a very sub-
dued rate or evenshrinking since 2009,
and debt securitiesgrowing in volume at a
higher rate than before2009.
Government
Non-financialcorporations
Households
Total
60
50
40
30
20
10
0
-10
-20
EU15 EU3 Japan
US
Source: Bruegel based on BIS, Eurostat, McKinsey. Note: EU3 is the aggregate of the Czech Re-public, Hungary and Poland (data for the other new member states is not available). We do not
show data on financial corporations, because an increase/decrease in their gross debt can indi-cate increased/decreased lending activities.
Figure 5: Change in gross debt (in % of GDP) from 2007Q4 to 2012Q3
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10. Speedy restructur-ing in Sweden fostered
economic adjustmentand productivity
growth, while in Japanthe 'zombification' of
banks contributed to adecade of stagflation
when productivityhardly improved.
11. European Commis-
sion, EU state aid con-trol and financial
stability, presentationat Bruegel workshop, 8
March 2013.
11. There were similardevelopments to the
southern euro-areacountries in the Baltic
states, and there was arapid adjustment, but at
a very high price. SeeBlanchard (2012)
Lessons from Latvia,IMF Direct: http://blog-
imfdi-
rect.imf.org/2012/06/11/lessons-from-latvia/.
EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
Banks with weak balance sheets
lend on too expensive terms orlend to insolvent borrowers tokeep them afloat are a drag ongrowth. In year five of the crisis,Europes banking system remainsfragile. About a fourth of the Euro-pean banking system is stillunder state aid control and de-pends on public support11,whereas banks have for long re-gained independence in the US.
Risk premia paid by banks are sig-nificantly higher in Europe than in
Japan and the US (Figure 7).
THE PRICE MISALIGNMENT ANDCAPITAL MISALLOCATIONPROBLEM IN THE EURO AREA12
Excessive housing booms havedistorted prices and wages andled to the misallocation of capitalin a number of EU countries, asexemplified by constructionbooms and the unsustainably
high share in the economy of theconstruction sector prior to the
term bank-based financial inter-mediation remains of central im-
portance given its large base.
Bank-based credit growth in themajority of EU countries has beenweak since 2008. The statisticsfor the euro area paint a picture ofvery subdued credit growth. Theyear-on-year growth rate of euro-area credit has not exceeded twopercent, compared to the pre-crisis 10 percent. In the UK, bank-based credit declined, while in
Poland and Romania credit growthslowed down in 2009/10, but sig-nificantly accelerated afterwards.The European numbers comparewith more robust credit growth inthe US, which has bounced backto five percent annual growth.
Credit growth is particularly weakin the south of Europe. Demandfor credit is weak, reflecting the
economic outlook and subduedbusiness confidence. Lendingconditions in countries understress remain tight and thesupply of credit limited. Also, writ-ing-down bad loans reduce creditaggregates. The European CentralBank continues to stress that de-spite an improvement in the mon-etary transmission mechanism,monetary policy action does notget properly transmitted to all
euro-area countries, and this im-pairs the provision of credit to thereal economy.
Speedy resolution of bankingproblems is an important condi-tion for growth to resume. The pastexperience of Sweden and Japanillustrates the benefits of speedyaction (Figure 6)10. During the cur-rent crisis, in the US, significant
bank restructuring occurred rela-tively early in the crisis.
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
0%
5%
10%
15%
20%
25%
30%
35%
Yearssincefirstloss
Percentage
oftotalloss
Sweden
Japan
Source: Jean Pisani-Ferry and Bruno van Pottelsberghe (2009) Handle with care! Post-crisisgrowth in the EU, Policy Brief2009/02, Bruegel.
Figure 6: Distribution of bank losses in the Japanese and Swedishbanking crises in the early 1990s
01/01/08 01/01/09 01/01/10 01/01/11 01/01/12 01/01/13
700
600
500
400
300
200
100
0
Japan
EU
US
Source: Datastream.
Figure 7: Bank 5-year credit default swap (CDS) spread, 1 January2008 2 April 2013
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EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
recession. In such conditionsoutput had grown above potential
and was bound to adjustdownward (Figure 8).
At the same time, the share ofmanufacturing declined signifi-cantly in the south of Europe, andalso in France, while in the northof Europe, the manufacturingshare was relatively stable(Figure 9).
In the euro area, the process was
accompanied by a major distor-tion in relative prices (Figure 10).The real exchange rate of allsouthern euro-area membersbecame overvalued, while itbecame undervalued in mostnorthern members. Since euro-area members do not have stand-alone exchange rates, onlyintra-euro area adjustment cancorrect for these divergences.
Adjustment has started, butprogress is too slow. The goodnews is that the export perform-ance of eg Ireland, Spain and Por-tugal is outstanding. The externalindebtedness of these countriesis so high that further improve-ment in the trade balance isneeded to achieve external sus-tainability. Price adjustment hasstarted in several countries, but
the inflation rate in Italy, a coun-try that also needs sectoral reallo-cation toward the tradable sectorto revive growth, remains aboveeuro area average. At the sametime, the inflation rate in Germanyhas remained low and is expectedto remain below euro average.Major differences in labourmarket conditions translate onlyslowly into inflation differentials.
Relative wages have started toadjust, but prices exhibit rigidity.
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
9%
8%
7%
6%
5%
4%
3%
2%
1%
0%
Centre North South
Source: Bruegel based on Eurostat data. The three groups are North (Austria, Finland, Germany,Netherlands), Centre (Belgium and France) and South (Greece, Ireland, Italy, Portugal, Spain).These groups result from a systematic analysis based on an array of indicators.
Figure 8: Share of construction in total value added, euro-areacountries
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
20%
15%
10%
5%
0%
Centre North South
Source: Bruegel based on Eurostat data. See note to Figure 8 for breakdown of country groups.
Figure 9: Manufacturing, share in total value added of country group
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
1.10
1.08
1.06
1.04
1.02
1.00
0.98
0.96
0.94
0.92
0.90
South
Centre
North
Source: Bruegel based on Eurostat data. See note to Figure 8 for breakdown of country groups.
Figure 10: Harmonised Index of Consumer Prices, cumulative deviationwith respect to the euro area since 1998
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Without the relative price adjust-ment, the necessary reallocation
of economic activities toward thetradable sector in the south willnot take place. Absent a symmet-ric enough adjustment, meaninginflation in the euro area is at twopercent with higher-than two per-cent inflation in Germany andother surplus countries and closeto zero inflation in the south, thesouth will need to deflate. Thatwould endanger both private andpublic debt deleveraging, putting
debt sustainability at risk and de-laying the recovery even further.
CONCLUSIONS
Europes long-term growth strat-egy has so far failed. Various ini-tiatives have been unable toincrease the growth potential ofthe EU15. EU12 members have onaverage performed better, but
their futures will crucially dependon the EU15 because of the EUsfinancial and trade integration.
This failure is now compoundedby a danger that the short- tomedium-term challenges will in-teract perversely with the longerterm ones and lastingly weigh onEuropes performance. Much ofEurope suffers from a mutually re-inforcing interaction between lim-
ited productivity gains, protracteddeleveraging, weak banking sec-tors and distorted relative prices.This combination contributes toan overall weakening of economicgrowth and threatens to turn intoself-perpetuating stagnation. Thisdark picture calls for bold policyaction significantly beyond whatis currently being undertaken.
Policy action should comprehen-sively address all four aspects of
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EUROPES GROWTH PROBLEM AND WHAT TO DO ABOUT IT
the problem. But the quest forgrowth is elusive. Growth policies
are by nature difficult to encapsu-late in a few recommendations.So the following suggestions arein no way exhaustive.
The sequencing of policy action isimportant. Without credit, invest-ment and growth, any structuralreform is likely to fall victim topopular rejection. If fiscal re-trenchment does not deliver re-sults, support for it will vanish.
Therefore, the strengthening ofbanking systems and the recogni-tion of bad loans should be priori-tised in order to create conditionsfor a resumption of private-leddemand. Relative price and wageadjustment and structural re-forms should also be pursued, butare unlikely to deliver immedi-ately, in particular in the absenceof growth.
The most urgent priority is there-fore restoring a fully functional fi-nancial system, which is aprecondition for the resumptionof productivity andgrowth. Europe fortoo long has refusedto recognise this.The forthcoming in-troduction of theSingle Supervisory
Mechanism (SSM)offers a unique op-portunity to com-plete the strengthening of theEuropean banking system. Beforethe ECB carries out the compre-hensive assessment of thebanks brought under its supervi-sion, national authorities shouldtrigger a recapitalisation of under-capitalised banks and a resolu-
tion of insolvent ones. The ECBshould make clear that it will not
accept undercapitalised banks forthe single supervisory system.
Countries outside the SSM shouldalso revitalise their domesticbanks. The European Commissionshould encourage governmentsto bear the fiscal costs if neces-sary by announcing that deficitincreases from public recapitali-sations carried out until end-2013will be treated as one-off costswithin the framework of the Ex-cessive Deficit Procedure.
Negotiations for the Bank Resolu-tion and Recovery Directiveshould be urgently completed toachieve a level playing field. It isimportant that cross-country dif-ferences in banking resolution areminimised to avoid a major frag-mentation of the single market.
The establishment of a bankingunion is one of the most impor-
tant projects to re-establishgrowth in the euro area andbeyond. It will greatly contributeto repairing monetary policytransmission in the euro area. It
needs to involve allkey elementsbeyond supervision(centralised resolu-tion mechanismand an appropriatecommon fiscal
backstop) that areunder discussion.Banks that have
passed the ECBs comprehensiveassessment should be broughtunder the banking union andbecome truly European bankswith clearly defined burden-shar-ing arrangements.
Fostering the reallocation of fac-
tors to the most productive firmsand the sectors that contribute to
Europes long-term
growth strategy has
so far failed; various
initiatives have not
increased the growth
potential of the EU15.
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aggregate rebalancing is vital forproductivity and growth. It in-
volves bolder monetary action incombination with targeted fiscalsupport. As banks may choosenot to lend to SMEs because loansare subject to significant haircutswhen taken as collateral in centralbank repo operations, there is acase for providing support to theenhancement of this collateral. Inthe euro area, theECB cannot carrythat fiscal risk. In-
stead, temporarycollateral enhance-ment schemesshould be explored,for example, in liai-son with the Euro-pean InvestmentBank (EIB). Furthermore, EIB facil-ities should also be used to sup-port credit, in particular for SMEs.Better access to finance of SMEs
would greatly help the creation ofnew employment in the exportsector.
Appropriate speed of fiscal adjust-ment is paramount. The speed offiscal adjustment needs to beadapted to the context of stagnat-ing economies throughout the EU.This is especially a concern wherehouseholds and firms are still inthe process of deleveraging. At
the same time, it is important toensure maximum credibility tothe medium-term consolidationprocess. To this end, the new Eu-ropean fiscal framework shouldbe mobilised in full so that com-mitments to future fiscal consoli-
above two percent, as long aseuro-area price stability remains
ensured.
Last but not least, pro-growthreforms are of central importanceto increase long-term productivityand need to be continuedvigorously throughout the EU. TheEU should provide incentives toaddressing weaknesses inproduct, labour and capitalmarkets as well in the building ofskills. To this end it should explore
new approaches, includingcontractual budgetary supportwithin the framework of sector-specific initiatives.
Europes growth problem does notresult from a single set of chal-lenges. It involves the supply andthe demand sides; real- and finan-cial-sector issues; and private andpublic-sector aspects. The EU is
used to policymaking by rules andprocedures. This is fine in normaltimes, but it is not the right ap-proach to address the currentquagmire. It is not by adding a newlayer of procedures that this prob-lem will be solved. It is by formulat-ing a diagnosis, setting priorities,formulating a strategy, and imple-menting it across policy areas.
This Policy Brief was prepared for
the informal meeting of EU financeministers (ECOFIN) of 12 April2013. Thanks for research assis-tance are due to Francesca Barbi-ero, Adrian Bosshard, GiuseppeDaluiso, Hannah Lichtenberg andErkki Vihril.
dation are made adequately spe-cific and credible and emphasis
should be put on structural meas-ures with a lasting medium-termimpact. Pension reforms are oneway of credibly increasing debtsustainability allowing for aslower fiscal consolidation path.
A frontloaded payment of EUfunds to countries in deep reces-
sion as well as addi-tional EIB capital topromote growth ini-
tiatives is war-ranted. The fiscalretrenchment in theSouth of Europe inparticular is likely tofurther dampeneconomic activity
and increase social hardship un-dermining economic and politicalstability. Frontloaded paymentsfrom EU funds, as well as EU-sup-
ported investments, will help ad-dress demand weaknesses dueto fiscal adjustment and privatesector deleveraging.
Addressing intra-euro area com-petitiveness divergences is es-sential to support growth insouthern Europe. Wage rebalanc-ing should involve northernEurope as well as southernEurope. Consistent with the ECB
mandate, average inflation in theeuro area should not be allowedto fall below the two percenttarget and northern Europeshould refrain from domesticpolicy action that would preventdomestic inflation from rising
The speed of fiscal
adjustment needs tobe adapted to the
context of stagnating
economies through-
out the EU.
Bruegel 2013. All rights reserved. Short sections, not to exceed two paragraphs, may be quoted in the originallanguage without explicit permission provided that the source is acknowledged. The Bruegel Policy Brief Series ispublished under the editorial responsibility of Jean Pisani-Ferry, Director. Opinions expressed in this publication arethose of the author(s) alone.
Bruegel, Rue de la Charit 33, B-1210 Brussels, (+32) 2 227 4210 [email protected] www.bruegel.org