Download Euro area fiscal policies and the crisis

Euro area fiscal policies
and the crisis
Vilém Valenta
Fiscal Policies Division
Czech public finances in a global context
Smilovice, 4 May 2010
Outline
1. ECB Occasional Paper
2. Past economic cycles and systemic crises
3. EA fiscal policies: exit from the crisis mode
4. Challenges for the SGP
5. Ways forward?
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ECB Occasional paper
Ad van Riet (editor): “Euro area fiscal policies and the
crisis”, ECB Occasional Paper No. 109.
1. Introduction
2. EA fiscal policies: response to the financial crisis
3. EA fiscal policies: response to the economic crisis
4. EA fiscal policies: the reaction of financial markets
5. The crisis and the long-term sustainability of EA
public finances
6. EA fiscal policies: exit from the crisis mode
7. Early lessons from the crisis
3
Past economic cycles and systemic crises
Objectives:
•
provide stylised facts on fiscal developments during
past recession periods
•
compare past systemic financial crises with ‘normal’
cyclical fluctuations
•
compare the past experience with the current
developments in the euro area and the US
4
Past economic cycles and systemic crises
Overview of the approach:
•
‘normal cycles’ – around 80 recession periods
in_20_advanced economies since 1960
•
‘crisis cycles’ – 5 systemic financial crises
in_Spain_(growth trough in 1979), Finland (1991),
Sweden (1992), Norway (1988), and Japan (1993)
•
for the current crisis a common real GDP growth
trough in 2009 is assumed
•
data sources: a mix of Eurostat, Ameco, OECD and
IMF data, EC’s Spring 2009 Economic Forecast
5
Total government revenue
Total government revenue
(annual change in ratio to GDP, % points)
(y-o-y growth relative to avg. over cycle, %)
Cycle range
Average cycle
United states
2
Systemic crises
Euro area
Cycle range
Average cycle
United states
8
1
Systemic crises
Euro area
3
0
-2
-1
-7
-2
-12
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
• linked to the economic activity – roughly stable ratio to GDP
• drop in growth dynamics more pronounced in ‘crisis’ cycles
• current developments in line with past systemic crises
6
Total government expenditure
Total government expenditure
(annual change in ratio to GDP, % points)
(y-o-y growth relative to avg. over cycle, %)
Cycle range
Average cycle
United states
6
5
Systemic crises
Euro area
Cycle range
Average cycle
United states
6
Systemic crises
Euro area
4
4
3
2
2
0
1
0
-2
-1
-2
-4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
• nominal rigidity (wages, pensions) and fiscal activism lead to
increases in expenditure-to-GDP ratios
• currently a large increase expected – in line with the past experience
during systemic crises
7
Real government consumption
Nominal government investment
(year-on-year growth, %)
(year-on-year growth, %)
Cycle range
Average cycle
United states
6
5
Systemic crises
Euro area
Cycle range
Average cycle
United states
35
30
Systemic crises
Euro area
25
4
20
3
15
10
2
5
1
0
-5
0
T-4
T-3
T-2
T-1
T
T+1
T+2 T+3
T+4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
• a flat pattern in ‘normal’ cycles
• systemic crises seem to have a stronger negative impact
• currently a peak in investment activity due to fiscal stimuli – much
more pronounced and protracted in the US
8
Government budget balance
Cyclically adjusted balance
(% of GDP)
(% of GDP)
Cycle range
Average cycle
United states
5
Systemic crises
Euro area
Cycle range
Average cycle
United states
5
Systemic crises
Euro area
0
0
-5
-5
-10
-10
-15
-15
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
• deterioration in fiscal balances, larger in ‘crisis’ cycles
• a strong adverse structural impact in ‘crisis’ cycles
• the EA and the US started from much less favourable fiscal position
than the countries hit by systemic crises in the past
9
Government debt
Government debt
(annual change in ratio to GDP, % points)
(annual change in ratio to GDP, % points)
Cycle range
Average cycle
United states
16
14
Systemic crises
Euro area
Spain
Norway
20
Finland
Japan
Sweden
15
12
10
10
8
5
6
4
0
2
0
-5
-2
-10
-4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
T-4
T-3
T-2
T-1
T
T+1 T+2 T+3 T+4
• steep increase in debt-to-GDP ratios during systemic crises,
stemming from more pronounced and protracted deterioration in
public finances + fiscal costs of bank bailouts (excluding guarantees)
10
Past cycles and crises – concluding remarks
Past cycles and crises
•
Some features of fiscal developments during the past
systemic crisis episodes differ from the other cycles.
•
Deeper and more protracted contractions
in_economic activity during banking crises led to
more pronounced deterioration of public finances.
•
In distinction to normal cycles, crisis cycles are
characterised by a considerable worsening of
structural fiscal balances.
11
Past cycles and crises – concluding remarks
Current situation
•
Current fiscal developments broadly similar to the
past crisis cycles – a considerable deterioration of
structural balances and a rapid accumulation of
government debt.
•
Current fiscal stimuli promise to accelerate
government investment, while past crises observed
steep declines.
•
Both the euro area and the US start from less
favourable structural fiscal positions.
12
Exit from the crisis mode – objectives
Three objectives of fiscal exit strategies:
•
Phasing out of the financial assistance to the banking
sector
•
Unwinding fiscal stimuli and restoring fiscal sustainability
•
Growth-enhancing structural reforms
13
Exit from the crisis mode – need for exit
1. Sound fiscal positions represent a prerequisite for the smooth
functioning of EMU.
2. Fiscal policies bolstered confidence through stimuli in the entry
phase, in the exit phase, confidence needs to be preserved by timely
fiscal consolidation.
3. Large fiscal imbalances may undermine economic growth via higher
interest rates crowding out private and public investment and
fuelling other economic imbalances.
4. As recent signs of contagion from the Greek fiscal crisis show, there
is also a risk for financial stability.
5. Market principle remains the most efficient system and government
involvement in the economy should be scaled down again.
14
Exit from the crisis mode – general principles
• The SGP represents an appropriate framework for ensuring sound
fiscal positions in the EU/EA.
• Structural fiscal adjustment should start no later than the economic
recovery and be significantly higher than minimum annual fiscal
effort of 0.5% of GDP.
• Strong and frontloaded fiscal adjustment is needed in particular for
countries with the most vulnerable fiscal positions in order to
maintain/restore confidence.
• The consolidation plans should be based on realistic and cautious
macroeconomic assumptions with a strong focus on expenditure
reforms.
• The fiscal consolidation strategies need to go well beyond the
correction of excessive deficits.
15
Exit from the crisis mode – additional criteria
– The level and expected dynamics of government
deficit/debt (affecting market sentiment).
– Expected duration of the recession.
– Past fiscal performance.
– Extent of contingent liabilities.
– Existence of other macroeconomic and financial
sector vulnerabilities.
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Challenges for the SGP – weak surveillance?
• Quantitative cornerstones 3% of GDP for deficit and
60% of GDP for debt.
• MTOs for structural government balance.
– Measurement problems (output gap, tax
elasticities).
– Did not become a nominal anchor –
implementation failed in most countries.
• Qualitative information in the SCPs.
– Only a formality for many countries.
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Challenges for the SGP – ways to strengthen
fiscal surveillance
• Quantitative assessment.
– Prudent and forward-looking approach.
– Detailed analysis of expenditure policies.
– Strengthened focus on debt and financing needs.
• Stability and convergence programmes.
– Presentation of no-policy-change and programme
scenarios, identifying policy gap to be filled.
• Improve quality of government statistics.
18
Challenges for the SGP – weak incentives?
• The crisis exposed deficiencies of past policies and demonstrated
need for establishing sound fiscal positions in good times.
• The 2005 reform of the SGP a mixed success – corrective arm
improved, but applied with delays, enforcement of preventive
arm remains weak.
• Large fiscal imbalances in most EA countries weaken the peer
pressure mechanism on which the SGP is resting.
• Activist fiscal response to the crisis (EERP) in conflict with the
SGP, potentially undermining its credibility.
• Fiscal stimulus measures did not foresee credible exit strategies
(TTT not met), which would have helped to anchor expectations
of fiscal sustainability
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Challenges for the SGP – ways to strengthen
fiscal incentives
• Market incentives – investors started to discriminate
between sovereigns; efficiency and accuracy however
uncertain (also due to contagion effects).
• Within current legislation, scope for strengthening
fiscal incentives at the EU level is limited.
– New Van Rompuy Task Force of the European
Council will look for ways to strengthen the EU
fiscal framework.
• Much can be done at the national level.
– Numerical fiscal rules in line with the SGP.
– Independent fiscal councils.
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Thank you for your attention!
[email protected]
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