Recovery in the euro area taking hold, but more is needed to bring down unemployment and debt


By Christian Mumssen 

The recovery in the euro area is taking hold. After the worst economic crisis in Europe’s post-war history, output has now expanded for four consecutive quarters, and the IMF expects euro area GDP growth of 1.2 percent in 2014 and 1.5 percent in 2015. The turnaround in market conditions has been remarkable, with sovereign and corporate yields at historical lows in many countries. Strong policy actions have helped, at both the country and area-wide level. This has included setting up a firewall against market turmoil and laying the foundations for a banking union. And, after years of painful fiscal consolidation, the euro area’s policy stance will be broadly neutral this year, alleviating the drag on growth.


But there is no room for complacency:


·  Euro area government debt averaged 95 percent of GDP at the end of 2013, up from about 70 percent of GDP prior to the crisis. Six euro area governments had debt ratios at or above 100 percent of GDP.

·  The debt burden of households and corporations has increased substantially since 2000, when it was 115 percent of GDP, to 145 percent of GDP in 2013.

·   At the same time, the average unemployment rate for the euro area is now close to 12 percent, and above 25 percent for Spain and Greece.

Tackling the very high levels of debt, both public and private, and unemployment will require securing the ongoing recovery and raising the euro area’s longer-term growth potential. How can this be done?

First, policymakers should be prepared to provide demand support in the event of economic downturns. The ECB’s determination to address below-target inflation, demonstrated in its recent actions, is very important, because a prolonged period of “lowflation” could unhinge inflation expectations and would hamper efforts to reduce public and private debt burdens.  Also, a large negative growth surprise should not trigger additional fiscal consolidation.


Second, efforts to mend private sector balance sheets need to continue. The comprehensive assessment and single supervision of systemic banks should help strengthen the financial sector’s resilience. The new bank resolution mechanism should be supported by a common fiscal backstop. Working out the corporate debt overhang would help spur investment, and this will require further reforms of national insolvency regimes.


Third, more country-level reform efforts will be needed to revive domestic demand and reduce euro area imbalances. Many countries need to make further efforts to improve the functioning of labor markets and enhance competition in product and service sectors. To avoid a reemergence of large intra-euro area imbalances, countries that had large external deficits in the run up to the crisis should continue to enhance competitiveness, and countries with large surpluses such as Germany should boost investment.  


Finally, at the euro area level, members should explore ideas to further reinforce the architecture of the monetary union. Developing capital markets would help spur investment and growth. Over the medium term, ideas could be developed to simplify and strengthen the fiscal governance framework and expand the funding for public infrastructure projects.


These actions would go a long way to raise Europe’s growth potential, and bring down unemployment and debt.


Christian Mumssen is Director of the IMF’s Europe Office in Paris and Brussels, and Senior Resident Representative to the European Union.

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