[Index]
Russian
Geneva, 28 February 2003
EMBARGO
Not to be released before
4 March 2003, 00:01 GMT
Achieving
a sustained economic recovery
UNECE releases its Economic Survey
of Europe, 2003 No.1
The European Union's
economic performance was relatively
good in the second half of the 1990s,
with annual growth rates of real GDP
falling within a range of 2.5 to 3.3
per cent from 1997 to 2000 accompanied
by strong employment gains and moderate
inflation. But economic growth faltered
in 2001 and was even more sluggish in
2002.
"If such a performance
were to continue, the European Union would
not even come close to the ambitious strategic
goals agreed upon at the Lisbon European
Council in March 2000 for the end of the
first decade of this new millennium. The
crucial issue now is to lay the foundations
for a sustained and robust rate of growth
over the medium term" stresses Mrs. Brigita
Schmögnerová, Executive Secretary
of the Economic Commission for Europe
(UNECE) commenting on the first issue
of the Economic Survey of Europe 2003.
EU economic
recovery in 2003 pinned upon the United
States
Hopes for a recovery
in 2003 are pinned upon a cyclical upturn
in the United States, which is being relied
upon as the engine of global growth. But
the large domestic and external imbalances
in the United States (i.e. the indebtedness
of households and corporations and the
current account deficit) now constrain
its ability to continue playing this role.
Indeed, what is required in the United
States is a greater emphasis on the growth
of net exports, which means essentially
switching expenditures from imported to
domestically produced goods, in order
to reduce the large external deficit to
more sustainable levels. The mechanism
for achieving this is improved price competitiveness,
i.e. a depreciation of the dollar. This
process got underway with the decline
of the dollar that started in 2002 and
has continued in early 2003.
The implication, of course,
is that the expected cyclical impulse
from the United States to other countries
and regions is likely to be smaller than
is anticipated in current forecasts. This
points to the need for a greater reliance
on domestic sources of economic growth
in both western Europe and Japan. This
in turn would effectively help the adjustment
process in the United States to advance
more smoothly given the stronger import
demand from the rest of the world.
Economic growth can be
stimulated by reforms in capital, labour
and product markets and there is certainly
a need for more progress in these areas.
But in the current cyclical context there
is also a need for economic activity to
be supported by more expansionary economic
policies. The stance of monetary policy
in the euro area was further relaxed in
late 2002, but in view of the deteriorating
growth prospects this appears to have
been "too little, too late". A further
lowering of interest rates is now warranted,
given the persistent weakness of growth
in the three larger euro area economies,
especially in Germany.
Reforming
the Stability and Growth Pact
Economic developments
in the euro area in 2002 have once again
led to a conflict between the fiscal policy
rules embodied in the Stability and Growth
Pact (SGP) and the short-term stabilization
needs of individual countries. A principal
rationale for fiscal rules in the EMU
is that they are designed to protect the
ECB against pressures from high-debt countries
for debt bail-outs. Excessive levels of
government borrowing are also seen as
increasing the risk of interest rate spillovers
to the other members of the EMU. Although
these rationales are not uncontroversial,
it goes without saying that long-term
debt sustainability is a matter of considerable
concern, especially in view of the growing
fiscal pressures arising from population
ageing. The need to ensure generational
balance, i.e. an equitable intergenerational
distribution of fiscal burdens and social
welfare, constitutes an enormous policy
challenge. The fiscal pressures differ
considerably across countries but if not
tackled in time they risk undermining
the EMU. But the looming generational
imbalances also raise the wider issue
of whether government debt-to-GDP ratios
are always an appropriate measure of fiscal
prudence or vulnerability.
The crux of the issue
over quantitative fiscal rules, however,
is not only that they always contain an
element of arbitrariness but that they
also may be too rigid in unexpectedly
bad times when more flexibility is required.
The recent proposals by the European Commission
aim to alleviate some of the concerns
about the procyclical bias of the Stability
and Growth Pact by shifting the focus
of medium-term fiscal consolidation to
cyclically adjusted budget deficits and
by giving greater importance to the government
debt criterion in the budgetary surveillance
process. At the same time, the deterioration
of economic conditions in 2002 led to
a postponement of the date for meeting
the main fiscal targets (broadly balanced
budgets) from 2004 to 2006. While going
in the right direction, these new rules,
however, do not apply to countries with
significant budget deficits, which are
required to reduce their structural deficits
by 0.5 per cent of GDP a year from 2003,
i.e. they will have to pursue a procyclical
policy despite the worsening economic
outlook, an approach that may well prove
to be counterproductive.
An alternative solution
would be to fix long-term targets only
for government debt and to establish credible
fiscal rules and mechanisms that force
governments to pursue them without imposing
quantitative budget deficit targets in
the short-run. This would allow the automatic
stabilizers to be fully operational at
all times and to provide scope for a discretionary
stimulus when needed. It has also been
proposed that countries be provided with
some leeway for exceeding the current
reference value for budget deficits, depending
on the level of government debt. But,
in any case, there is no easy way to reconcile
short-term stabilization needs with long-term
concerns about fiscal sustainability.
There remains also the important issue
of public infrastructure investment, which
for reasons of intergenerational equity
is often financed by borrowing (the so-called
golden rule). The requirement to achieve
a close-to-balance government budget may
adversely affect the extent to which the
public sector capital stock is being rebuilt
and enhanced, if these investment expenditures
are not excluded from the calculation
of government financial positions. This
would have negative long-run consequences
for economic growth.
Implication
for acceding countries
The degrees of flexibility
in fiscal policy within the SGP and the
Code of Conduct (COC) also have significant
implications for the acceding east European
countries. Applying the current EU fiscal
rules could have particularly harmful
consequences for those economies that
are approaching EU accession with a weak
fiscal position in terms of the structural
fiscal deficits and public debt. Some
of the accession countries (in particular,
most of the central European economies)
seem to fall into this category. Although
until now there have been no accurate
estimates of their structural deficits,
recent research suggests that these might
be quite sizeable.
Their weak initial fiscal
positions will be a double burden for
the accession countries. They will require
first of all an initial structural adjustment
in the run-up to EU accession in order
to move closer to the reference fiscal
deficit levels; given their starting position,
this implies a risk of an excessive fiscal
tightening in this period, with obviously
negative consequences for economic growth.
Secondly, even after such an adjustment,
the EU's fiscal rules may be detrimental
for growth in the accession countries
due to the fact that their economies are
still generally immature: compared with
mature market economies, the east European
countries are more susceptible to external
disturbances and hence to higher volatility
of aggregate output. Consequently, in
a cyclical downturn they will be more
likely to exceed the fiscal deficit reference
level, a situation which would require
a needlessly severe fiscal tightening
(fiscal policy would in fact become pro-cyclical).
And thirdly, once they are members of
the EU, they will also be committed to
achieving the main fiscal target, that
of fiscal balance, which in some cases
may require a new round of fiscal adjustment.
Moreover, the net fiscal effect of EU
membership on the acceding countries is
expected to be negative, at least in the
short-run. Thus, even if revised in accordance
with current proposals EU fiscal rules
may still impose excessively harsh policy
constraints on newly acceding EU members,
effectively creating an impediment to
their economic growth.
More generally, the pattern
of growth that prevailed in eastern Europe
in 2001 and 2002 - when it was predominantly
driven by domestic demand - is no longer
consistent with the weak fiscal position
of some of these countries. This is not
a sustainable model of long-run growth
for catching-up economies which as a rule
rely on export-led growth and fixed investment,
a pattern that prevailed in eastern Europe
during the second half of the 1990s. These
considerations once again highlight the
importance of achieving a sustained upswing
in the EU's major economies which would
help to restore the balance of economic
growth in the ECE region as a whole, with
the larger economies resuming their leading
role as engines of growth for the smaller
and weaker east European economies.
For further information please contact:
Ref: ECE/GEN/03/P06