Fostering Growth in Europe Now

Abstract

Vidon, and desk economists for euro area countries in the European Department. DISCLAIMER: This Staff Discussion Note represents the views of the authors and does not necessarily represent IMF views or IMF policy. The views expressed herein should be attributed to the authors and not to the IMF, its Executive Board, or its management. Staff Discussion Notes are published to elicit comments and to further debate. EXECUTIVE SUMMARY Unprecedented actions have been taken by European countries and institutions to deal with severe economic and financial stresses plaguing the region. At the country level, this has included steps to rein in fiscal deficits and the recapitalization of weak banks. At the pan-European level, risks and contagion have been contained by the progressive strengthening of the firewall, comprehensive ECB liquidity support, and a new fiscal compact. Yet the rise in unemployment and recession indicators has undermined stability and policy effectiveness. Without a clear path for recovery of employment and growth, which was tepid even before the crisis, it is hard to see fiscal revenues recovering, debt ratios declining, the weakened financial sector regaining its health, and social support for adjustment taking hold. In short, a revival of growth seems key to reversing the vicious cycle of poor confidence, flagging growth, fiscal weakness, and bank vulnerability. Policy measures on both the supply and demand sides are needed, the former to anchor the medium-term growth prospects, the latter to support growth in the interim. These should be put in place quickly, not least because the public and markets have become accustomed to years of debate over structural reforms. Reforms also must be granular, targeting, in Southern Europe, labor market duality and the reduced competitiveness of the tradable sector, including relative price misalignments; and in Northern Europe, higher labor participation and a more vibrant services sector.

Downward Nominal Wage Rigidity, Currency Pegs, and Involuntary Unemployment

“…Barkbu, Rahman, and Valdés (2012) show that for the euro area as a whole, total factor productivity grew by less than 0.2 percent per year between 2000 and 2010. Productivity growth in the periphery of Europe was even weaker.…”

Labor Market Policies and IMF Advice in Advanced Economies during the Great Recession

“…They estimate that aligning such regulations in upstream industries to best-practice levels would raise total factor productivity by ½ to 3½ percent over the next 5 years, and by 1½ to 10 percent over the next 10 years depending on the countries considered. 35 See the discussion in Barkbu, Rahman, and Valdés (2012). 36 The recommendations for countries in this paragraph and the next are contained in the paper on "Fiscal Policies and Employment in Advanced and Emerging Economies" produced by the Fiscal Affairs Department, International Monetary Fund (2012).…”

Growth Recovery in Southern Europe: A Dozen Lessons, Old and New

“…The consumption dampening effect of internal devaluation was underestimated. Barkbu et al (2012) note that internal devaluations usually end up in drawn out recessions. How do GIPS compare to other Euro area countries?…”