IMF Says Euro Area Still Needs to Clean Up Banking Sector
| Author | International Monetary Fund |
The final report will be issued to the public once it has been discussed by the IMF's 24-member Executive Board.
"The worst of the decline of activity is now very likely behind us but the timing and the shape of the recovery remain highly uncertain," Marek Belka, Director of the IMF's European Department, told a meeting of the Eurogroup on June 8 (the Eurogroup includes the 16 finance ministers representing the euro area's member countries as well as the president of the European Central Bank).
The IMF's most recent forecast for 2009 sees a 4.2 percent decline in economic output for the euro area, and a recovery during the course of 2010 (see chart). "When it finally occurs, the recovery is likely to be slow," Belka said. Three important elements are weighing on the outlook.
* Remaining strains in the financial system, including those emanating from the recession, are creating uncertainty.
* Fragile confidence among consumers and businesses makes for weak demand.
* Structural rigidities, especially in the labor market, are threatening to turn the recession into a protracted period of slow growth.
"The banking sector is key to a sustainable recovery," Belka said. There are three reasons why cleaning up the financial system should be the top priority.
* First, without a properly functioning financial system, monetary and fiscal policies will not be as effective as they could be in supporting demand.
* Second, with the wave of losses from the recession still to hit the financial system, there continues to be a significant risk of a further negative feedback loop with the real economy.
* Third, without further comprehensive action, the European financial system could well remain on a drip-feed of taxpayers' money for a long time to come. Private investors will not step in, and constraints associated with government intervention will reduce overall efficiency. This would be a recipe for a prolonged spell of slow growth.
"Left to their own devices, banks have too many incentives to simply muddle through," Belka said. To make sure the remaining problems in the banking system are addressed, the IMF is backing a coordinated and proactive review of the financial positions and viability of banks.
While national supervisors have to be in the driving seat, the institutions of the European Union should set out guidelines to avoid cross-border distortions, ensure that...
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