EU economic recovery is gathering momentum

New European Systemic Risk Board will monitor macro-prudential risks, issue warnings and recommendations for policy action.

By ARI SYRQUIN
January 20, 2010 11:04
4 minute read.
EU economic recovery is gathering momentum

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The economic recovery in the euro area is gathering momentum, albeit at a modest pace, according to the quarterly report on the euro area published by the European Commission recently.
Gross Domestic Product growth turned positive in the third quarter. Latest economic confidence indicators are broadly in line with the European Commission's growth forecast, which projects GDP growth to reach 0.7 percent in 2010 and to accelerate to 1.5 % of GDP in 2011.

At the same time, the report states that the current recovery is underpinned by massive economic support provided by governments around the world, which will eventually have to be scaled back.

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According to the report, 2010 will be a challenging and decisive year for euro-area policy makers and the euro-area economy.

Looking back on 2009, the report concludes that some groundwork has been put in place to go ahead. First, the European Economic Recovery Plan (EERP), launched in December 2008, helped cushion the collapse of economic activity. Second, recognizing that Europe's economies cannot rely on life support forever, the Ecofin Council in October articulated clear and transparent principles for the eventual exit from the formidable government and central bank interventions. Provided that economic circumstances do not unexpectedly deteriorate again, fiscal consolidation will start in 2011 at the latest and will include a consolidation effort of well beyond 0.5% of GDP growth per year. Depending on national features, some member states will have to start consolidation earlier. It will have to be supplemented by structural reforms underpinning the long-term sustainability of public finances and minimizing the negative impact of the crisis on potential growth. The pace of fiscal adjustment and the deadlines for correction of the excessive deficits have to be differentiated according to country specific circumstances. In line with these principles, the Ecofin Council in December adopted recommendations to correct member states' excessive deficits.

Europe is reworking its financial market supervisory architecture. Following recommendations by the de Larosière Group and detailed legislative proposals by the Commission earlier this year, the European Council in December agreed to a new supervisory framework for the European Union. To better bolster the stability of European financial markets in future, a new European Systemic Risk Board will monitor macro-prudential risks and issue warnings and recommendations for policy action if risks are judged significant.

In addition, three European supervisory authorities for banks, insurance and securities markets will be created with a view to unifying supervisory practices across member states and to be able to act efficiently in a financial emergency. The European Parliament will start debating the reform package early next year with a view to establishing the new system in the course of 2010.

Looking ahead to 2010, uncertainty remains high, and setbacks in the recovery cannot be ruled out. In such an environment, to minimize potentially negative confidence effects, the conduct of credible, time-consistent and predictable economic policies is essential. For fiscal policy this means the need for full compliance with the recommendations for the correction of excessive deficits as agreed by the Council following proposals by the Commission.



The report expresses concern regarding the experience of Greece. In light of the ballooning public finance deficit, the Commission is supposed to come forward early next year with recommendations on how to correct the excessive deficit. The year 2010 will be particularly crucial for making progress on financial sector repair as the banking sector continues to be under stress.

How fragile and nervous markets still are was demonstrated last month when Dubai World's announcement that it was delaying debt service sent a shiver through global markets. The line of the report is that government support schemes should be kept in place only as long as necessary since they would eventually distort the industry, impede the integration of our financial market and hamper growth.

The report argues that there is a window of opportunity that governments must embrace proactively to boost growth and jobs. The European Commission seems to think that 2010 will be a decisive year for the world economy as a whole. Economic policy coordination by the G20 proved instrumental in averting global economic meltdown at a critical juncture. Nourishing the recovery and delivering strong and balanced growth for the world economy over the medium term is now one of the key challenges for the G20 going forward and will be at the top of the agenda at the G20 summit in Canada in June 2010.

The euro area says it is committed to playing a constructive role at the global level by boosting structural reform and putting in place an orderly and time-consistent exit strategy. In the US, continued support seems warranted in 2010 to spur the recovery and smooth the ongoing deleveraging of private households and corporations. At the same time, in order to counter potentially destabilizing sustainability concerns, it becomes increasingly important to define and articulate a credible strategy for the eventual withdrawal of the extraordinary fiscal and monetary stimulus measures.

syrquin@013.net

Ari Syrquin is the head of the International Department at GSCB Law Firm.

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