Author: Nicolaus Heinen (+49) 69 910-31713
February 20, 2012
Surveillance of macroeconomic imbalances in the EU and the euro area is taking shape. On February 14, the European Commission published its Alert Mechanism Report (AMR), for the first time assessing macroeconomic imbalances within the framework of a structured procedure. What should one make of this report?
The report forms part of a structured surveillance procedure which – as an integral part of the European semester – assesses the overall economic situation of all 27 EU Member States at yearly intervals on the basis of a set of indicators (“scoreboard") for internal and external imbalances. A macroeconomic imbalance is said to exist when indicators breach previously defined thresholds.
The process is similarly designed as the fiscal surveillance of the Stability and Growth Pact. There is a preventive and a corrective arm.
In the current report, the European Commission identifies 12 countries with macroeconomic imbalances. Seven of these twelve countries are euro-area states: Belgium, Cyprus, Finland, France, Italy, Slovenia and Spain. The new approach will be considered particularly important in these countries as – given the lack of exchange-rate flexibility within the euro area – Member States are forced to fight internal and external imbalances by means of adjustments in the real economy if they seek to avoid being punished by the capital markets.
In this context, five questions are of particular interest to the euro area.
1. What implications can be derived from the report for the euro-crisis countries Greece, Ireland and Portugal?
None at all. Neither Greece nor Ireland nor Portugal has been investigated as they are already under economic policy surveillance in the framework of the euro rescue packages. Romania is a similar case as it currently benefits from the Commission’s balance-of-payments assistance programme.
2. Will there be excessive imbalance procedures against Spain and Italy?
That is unlikely. Spanish indicators on the current account balance and the labour market have breached the thresholds as a direct result of the housing bubble. Moreover, the current situation on the labour market is regarded as critical because of the current recession, ongoing adjustments in the construction sector and the slow wage adjustment.
However, a deeper analysis should not lead to an excessive imbalance procedure for the following reasons: First, during the past months, Spain has presented an ambitious reform package that is exemplary with respect to the increase in retirement age, reforms of the labour market, increase in consumption taxes and a debt brake. Second, the Commission’s assessment of the slow but steady structural recovery, which is supposed to reduce medium and long-term internal imbalances (housing bubble, labour market) as well as external imbalances (trade balance), is positive.
Italy is criticized for its poor external balance and its decreasing export market shares on world markets, its deteriorating productivity as well as its high government debt in view of the poor growth prospects.
Still, as long as Italy maintains its ambitious reform package, an excessive imbalance procedure will not be initiated. The Italian reform package is as qualified as the Spanish one regarding the increase of consumption taxes, a reform of the pension system and a transition towards flexible labour contracts. A current excessive deficit procedure already addresses the only critical indicator – government debt.
3. Will there be an excessive imbalance procedure against France?
The overall assessment for France is much more sceptical. France is criticised in particular for its decreasing shares in world export markets (loss of 19.5% during the past five years) that are echoed in a worsening of its trade and current account balance. Moreover, further concerns are voiced as regards price and non price competitiveness and the profitability of French companies. Last, increasing debt in public and private households is criticised.
France does actually not follow its reform path at the same pace as Italy or Spain. Despite the recent downgrade and the pressure from capital markets, reforms are not the top priority of national politics due to political campaigning (elections: April/May). Tax increases and spending rules designed to improve the situation of public households are still in the blueprint stage – similar to the increase of the retirement age and reforms on labour markets in order to activate the younger labour force.
Despite the Commission taking a critical stance towards France it remains to be seen whether an excessive imbalance procedure will be launched. Countries can quickly react to the assessment of the ECOFIN Council and signal their will to integrate reforms in their National Reform Programmes – an obligatory outline on a national reform roadmap that is to be delivered by all EU-27 countries by March. If they present a convincing new reform path, an EIP will not be considered any more.
4. Will there be any consequences for Germany?
Not yet. In contrast to what is the current state of discussion in Europe, the Commission has not criticized Germany for its success on export markets and its current account surplus as wages and domestic demand increased in recent years and current account surplus narrowed again.
However, that does not mean that Germany is fully on the sunny side of the street. Levels of public debt (2011: 83% of GDP) are still way above the Maastricht threshold and liabilities of the social security system arising from demographic change (implicit public debt) are estimated at around 250 % (GDP). Apart from that, in the labour market, there is still some room for improvement as regards market entrance barriers for less qualified people. Additional growth potential can be reaped by closing the skilled worker gap by means of qualification initiatives and fostering qualified immigration.
Nevertheless, the AMR underlines that there would be a “need for further horizontal analysis on the drivers and policy implications of large and sustained current account surpluses, especially in some euro area Member States.” Further assessments of the divergence of economic performance are to be forthcoming.
Irrespective of that, the assessment of the European Commission, the fact that Germany was only slightly below the upper Current Account Balance threshold (5.9% of GDP) and the critical stance of other actors (such as the OECD) towards the role of the German current account surplus could influence this year’s wage bargaining round in Germany.
5. Considering these restrictions, what are the benefits of this surveillance mechanism?
At present, the benefits are indeed limited. This is due not so much to the instruments as to the object of analysis, the euro area, itself.
Over the past 24 months the euro area has undergone a change of mentality that is spreading through Europe at the governance level and likewise entering the economic policy agendas of most of the euro countries. These countries are now on a promising path of reform towards budget consolidation and supply-side restructuring that at most might be undermined by political risks or institutional failure.
This development was not yet foreseeable in early 2010 when initial considerations on a macroeconomic coordination mechanism first emerged: the corrective action of the capital markets had been underestimated. And the positive effects of the stringent economic policy monitoring underway in Ireland and Portugal and spilling over to Spain and Italy were not yet in evidence. However, the macroeconomic surveillance may help to avoid past mistakes being repeated.
The example of Germany shows that the scoreboard indicators cannot cover all aspects of economic governance. There are still too many differences between the countries of the euro area for all of the existing shortcomings to be captured via a uniform assessment based on a macroeconomic checklist. Against this backdrop, we welcome the Commission’s announcement that the set of indicators constituting the scoreboard is to be reviewed at regular intervals.
The real benefits of the mechanism can only be reasonably assessed in the long run. It will be particularly needed in case European politics turns away from its current stance towards reform-oriented economic policy. In light of the recent easing of tensions in the capital markets, the ongoing euro bail-out and the increasingly pragmatic stance of the ECB such a development cannot be excluded. And this especially in the peripheral countries.
Author: Nicolaus Heinen (+49) 69 910-31713
© Copyright 2013. Deutsche Bank AG, DB Research, D-60262 Frankfurt am Main, Germany. All rights reserved. When quoting please cite “Deutsche Bank Research”.
The above information does not constitute the provision of investment, legal or tax advice. Any views expressed reflect the current views of the author, which do not necessarily correspond to the opinions of Deutsche Bank AG or its affiliates. Opinions expressed may change without notice. Opinions expressed may differ from views set out in other documents, including research, published by Deutsche Bank. The above information is provided for informational purposes only and without any obligation, whether contractual or otherwise. No warranty or representation is made as to the correctness, completeness and accuracy of the information given or the assessments made.
In Germany this information is approved and/or communicated by Deutsche Bank AG Frankfurt, authorised by Bundesanstalt für Finanzdienstleistungsaufsicht. In the United Kingdom this information is approved and/or communicated by Deutsche Bank AG London, a member of the London Stock Exchange regulated by the Financial Services Authority for the conduct of investment business in the UK. This information is distributed in Hong Kong by Deutsche Bank AG, Hong Kong Branch, in Korea by Deutsche Securities Korea Co. and in Singapore by Deutsche Bank AG, Singapore Branch. In Japan this information is approved and/or distributed by Deutsche Securities Limited, Tokyo Branch. In Australia, retail clients should obtain a copy of a Product Disclosure Statement (PDS) relating to any financial product referred to in this report and consider the PDS before making any decision about whether to acquire the product.