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THE EURO AREA FISCAL POLICY RESPONSE TO THE ECONOMIC CRISIS: THE FIRST YEAR Ad van Riet Head of Fiscal Policies Division European Central Bank Bucharest, 18-19 November 2009 This presentation has been prepared with the excellent support of Cristina Checherita and partly draws on her work Outline 1. Introduction 2. The effectiveness of a fiscal impulse for the economy Automatic stabilisation Discretionary fiscal policies 3. Assessing the European Economic Recovery Plan 4. The fiscal outlook for the euro area 5. Lessons for fiscal discipline Decomposition of the fiscal impulse Fiscal impulse (Change in the general government balance; total or primary) Fiscal stance Automatic stabilisers (Change in the cyclically-adjusted balance) (Change in the cyclical component; Capture the impact of the cycle) Fiscal stance ~ Discretionary fiscal policy impact (Policy measures) Non-policy effects - revenue windfalls/shortfalls; built-in momentum of public expenditure (e.g. wages); output gap estimation Fiscal stimulus packages Other policy measures (Measures taken in response to the crisis) (including non-crisis related measures) 3 Fiscal impulse 2008-10 in euro area and US Change in budget balance due to automatic stabilisers and fiscal stance (% of GDP) 0.0 Euro Area US -1.0 -2.0 Automatic Stabilisers Automatic Stabilisers -3.0 -4.0 -5.0 Expansionary fiscal stance Expansionary fiscal stance Automatic stabilisers typically play a more important role in European economies compared to the U.S. due to larger public sectors -6.0 -7.0 -8.0 Source: ECB calculations based on IMF October 2009 World Economic Outlook 4 European Economic Recovery Plan • Aim: limit the impact of the economic crisis via coordinated fiscal measures at the EU and national level • Budgetary stimulus measures of €200 bn (~1.5% of EU GDP), o/w €170 bn from Member States and €30 bn from EU and EIB budgets • Stimulus to be differentiated across Member States to reflect their own needs and room for budgetary manoeuvre • Governments to ensure a timely, targeted and temporary fiscal stimulus (TTT-criteria for success) • Fiscal stimulus to be consistent with the Stability and Growth Pact and Lisbon Strategy 5 Four categories of fiscal stimulus measures Composition of stimulus measures (2009-2010) Euro area, share (%) in terms of budgetary impact Public investment Measures aimed 28% at households 50% Measures aimed at businesses Labour market 17% measures 5% Source: European Commission (2009 Annual Report on the euro area) and ECB staff calculations. 6 Size of fiscal stimulus packages 2009, 2010 Timely? Temporary? 2.5 % GDP 2 ESP AUT 1.5 FIN MLT DEU 2009 1.0 LUX EA16 FRA PRT NLD 0.5 SVN IRL BEL SVK/ CYP 0 GRC/ ITA 0 0.5 1.0 Fiscal stimulus 2010 1.5 2.0 7 1 Euro area budget balance over 1998-2010 -1.0 -2.0 -3.0 Government net lending (+) / borrowing (-) and components Euro area, percent of GDP -4.0 2 Accommodating the impact of automatic stabilisers (yellow) and organising fiscal stimulus (red) during the crisis has come at a very high cost for public finances. Also high structural deficit (blue) must be corrected. -5.0 -6.0 0 -2 -4 -6 -8 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Fiscal Stimulus Packages Cyclical component of budget balance Cyclically adjusted balance budget (excl. fiscal stimulus) Government budget balance Source: EC Forecast Autumn 2009 8 Euro area public finances under strain Budget balance of euro area countries in 2007 and 2010 (% GDP) 6.0 4.0 2.0 0.0 -2.0 -3% -3% -4.0 -6.0 Euro Area -8.0 -10.0 2007 -12.0 2010 -14.0 -16.0 BE DE IE GR ES FR IT CY LU MT NL AT PT SI SK FI Euro Area 9 Lessons for fiscal discipline • Need to comply with medium-term budgetary objectives • Coordinated fiscal expansion to remain exception rather than become the new rule, especially if result is excessive deficits • Any coordinated fiscal stimulus must be combined with credible exit strategies to anchor expectations of fiscal sustainability • Need to preserve confidence in the recovery phase via: a timely withdrawal of the fiscal stimulus measures adopting credible consolidation plans within the framework of the Stability and Growth Pact • Fiscal consolidation should meet the SSS-criteria for success: Substantial Structural Spending-based 10 THANK YOU FOR YOUR ATTENTION ! 11