Putting the euro area on

a road to recovery

Paris, 25th November 2014

11h30 Paris time

Catherine L. Mann OECD Chief Economist

Key messages

The euro area continues to hinder global growth, which remains modest

Europe is doing poorly above all because of the lack of demand

Structural factors braking potential growth are interacting with demand weakness, raising the risk of prolonged stagnation

Constrained demand management policies explain part of this weakness

Some countries have made good progress on structural reforms to reverse the decline in growth, but others have to make greater efforts

Monetary, fiscal and structural policies are complementary tools to promote a faster and more widely shared recovery

2

The global economy is stuck in low gear

World GDP growth1

Per cent, seasonally adjusted annualised rate

1. GDP calculated at PPP exchange rates.

2. Weighted average of the Czech Republic, Hungary and Poland, where weights are moving nominal GDP measured at USD PPP. 3. Weighted average of Denmark, Norway and Sweden, where weights are moving nominal GDP measured at USD PPP. Source: November 2014 Economic Outlook database.

-8

-6

-4

-2

0

2

4

6

8

-8

-6

-4

-2

0

2

4

6

8

Average, 1995-2007

GDP Volume, percentage change

3

Column1 2013 2014 2015 2016

World 3.1 3.3 3.7 3.9

United States 2.2 2.2 3.1 3.0

Euro area -0.4 0.8 1.1 1.7

Japan 1.5 0.4 0.8 1.0

BRIICS 5.5 5.1 5.4 5.6

OECD Europe excl. euro area 2.0 2.8 2.7 3.0

Of which:

- UK 1.7 3.0 2.7 2.5

- CEE32 1.2 3.1 2.7 3.1

- Scandinavia3 0.8 1.6 2.1 2.6

Sluggishness is not evenly spread – the

euro area is a locus of weakness

GDP per capita

Volume index, 2008 = 100

Source: November 2014 Economic Outlook database.

4

94

96

98

100

102

104

106

108

110

94

96

98

100

102

104

106

108

110

Euro area Japan OECD Europe excl. euro area United States

Slow growth in Europe matters for

world trade and output

Share of world trade (2013) Per cent

Source: November 2014 Economic Outlook database.

Share of world GDP (2013) Per cent

5

Euro area 22%

Non-euro area EU

8% Rest of the world 70%

Euro area 25%

Non-euro area EU

11%

Rest of the world 64%

The expected follow-through to the initial

recovery has been repeatedly delayed

Source: November 2010, 2011, 2012, 2013 and 2014 Economic Outlook databases.

Past Economic Outlook projections of euro area GDP

Volume index, Q1 2008 = 100

6

92

94

96

98

100

102

92

94

96

98

100

102

Nov-10 Nov-11 Nov-12 Nov-13 Nov-14

The realisation of downside risks would

leave the euro area in stagnation

1. Downside scenario shown in red. The shocks modelled in the downside scenario are a 50 basis point reduction in inflation

expectations, a 10% decline in equity prices and a 100 basis point increase in the corporate bond spread, the equity risk premium

and the spread between household borrowing and lending rates.

Source: November 2014 Economic Outlook database; and OECD calculations.

7

Growth, inflation and unemployment in a downside scenario1

InflationPer cent

GDPAnnual percentage change

Unemployment ratePer cent

-1

0

1

2

3

-1

0

1

2

3

0

1

2

3

0

1

2

3

Average 1999-2007

ECB's inflation target

8

9

10

11

12

8

9

10

11

12

Average 1999-2007

Average 1999-2007

Source: November 2014 Economic Outlook database.

GDP, exports, consumption and investment

Volume indices, Q2 2009 = 100

Post-crisis euro area output weakness: not

export performance, but domestic demand

8

90

100

110

120

130

90

100

110

120

130

Real GDP Consumption Fixed investment Exports

Part of the euro area’s relative demand

weakness reflects constrained policies

Central bank assets Per cent of broad money (M3)

Source: Datastream; National Central Banks; and November 2014 Economic Outlook database.

Change in underlying primary balance Per cent of potential GDP

9

0

5

10

15

20

25

30

35

40

45

0

5

10

15

20

25

30

35

40

45

United States Euro area

Japan United Kingdom

-7

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

-7

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

United States UnitedKingdom

Japan Euro area

2007-2009 2009-2011 2011-2013

Macroeconomic policies in the euro area:

now becoming less of a drag on demand

ECB assets

Trillions of euros

Source: Datastream; and November 2014 Economic Outlook database.

10

Underlying primary balance

Annualised change during period, per cent of potential GDP

-1

0

1

2

3

4

5

6

7

8

-1

0

1

2

3

4

5

6

7

82012-2013 2014-2016

0

1

2

3

4

0

1

2

3

4ECB's target

The overall euro area story masks

divergences in performance

GDP Volume index, Q1 2008 = 100

Source: November 2014 Economic Outlook database. 11

60

70

80

90

100

110

80

85

90

95

100

105

2008 2009 2010 2011 2012 2013 2014

Germany France Italy Spain Portugal Ireland Greece (RHS)

Structural reform intensity in recent years

has been highest in the euro area periphery

Note: The responsiveness rate is calculated as the share of recommendations in Going for Growth 2011 for which 'significant'

action has been taken, where each recommendation is weighted by the inverse of average responsiveness to priorities in this

area in non-crisis circumstances, in order to reflect the fact that some areas of reform are more difficult than others. Aggregates

are unweighted averages. Periphery includes Estonia, Greece, Ireland, Italy, Portugal, the Slovak Republic, Slovenia and

Spain. Core is other euro area countries. Non-euro area OECD Europe includes the UK, Switzerland the Czech Republic,

Poland, Hungary, Sweden, Norway, Turkey, Iceland, and Denmark.

Source: Going for Growth (2015, forthcoming; figures are preliminary); and OECD calculations.

Responsiveness to Going for Growth reform priorities Responsiveness rate (per cent)

12

0

10

20

30

40

50

60

70

0

10

20

30

40

50

60

70

Periphery euro area Core euro area Non-euro area OECD Europe

2011-12 2013-14

1. Inflation to October 2014, unemployment rate as of September 2014.

Source: Eurostat. 13

Inflation1

HICP ,12-month percentage change

Unemployment rate1

Per cent

Inflation is too low across the euro area, and

where it is lowest unemployment is very high

0

5

10

15

20

25

30

0

5

10

15

20

25

30

-2

-1

0

1

2

-2

-1

0

1

2

ECB's target

Note: Non-euro area countries shown in red.

Source: November 2014 Economic Outlook database.

Fiscal consolidation in a slow-growth

environment: significant employment pain

14

Change in underlying primary balance and unemployment, 2007-14

AUT

BEL

FIN

FRA

DEU

GRC

IRL

ITA LUX NLD

PRT

SVK SVN

USA

JPN

GBR

-5

0

5

10

15

20

-5 0 5 10 15 20

Ch

an

ge

in u

nd

erly

ing

pri

ma

ry b

ala

nce

,

% p

ote

nti

al

GD

P

Change in unemployment rate, percentage points

Structural flaws like incomplete banking union

help explain the persistence of weak demand

1. Nominal interest rate minus latest 12-month inflation (HIPC).

Source: ECB.

Real interest rates1 on bank lending to enterprises Per cent

15

-2

0

2

4

6

8

10

-2

0

2

4

6

8

10

Germany Spain France Greece Italy

Credit has failed to revive in the periphery

Note: OECD Europe excl. euro area is aggregated in USD at Q1 2010 exchange rates. Euro area periphery is Greece, Italy,

Portugal and Spain. Core euro area is Austria, Belgium, Finland, France, Germany, Luxembourg and the Netherlands.

Source: BIS.

Credit to non-financial corporations Index, 2010 = 100

16

90

95

100

105

110

115

120

125

90

95

100

105

110

115

120

125Core euro area countries Periphery euro area countries

United States Japan

OECD Europe excl. euro area

Existing ECB Measures ECB Policy Options

Very low policy rates (incl. negative

deposit rates)

Open-ended or large-scale asset purchases:

Long-Term Refinancing Operations

(LTROs)

• Increased outright purchases of asset-

backed securities and covered bonds

Targeted Longer-Term Refinancing

Operations (TLTROs)

• Outright purchase of sovereign bonds

Outright purchases of asset-backed

securities and covered bonds

• Outright purchase of investment-grade

corporate bonds

Forward guidance

The ECB must act decisively to support

growth and head off deflation

Monetary policy stimulus – beyond measures already announced – is needed in combination with banking union and structural reforms

17

Fiscal policy: all available flexibility

should be used

Flexibility and discretion within the EU fiscal rules should be used to reduce the drag on demand

Germany: higher spending (e.g. childcare facilities, infrastructure) would add to euro area demand while addressing structural weaknesses

France and Italy: delayed consolidation can be justified in a context of weak growth and new structural reforms

Automatic stabilisers should be allowed to play fully

18

Fiscal policy: a reversal of the compression

of public investment would help

Government investment Volume index, 2009=100

Source: November 2014 Economic Outlook database. 19

0

20

40

60

80

100

120

140

0

20

40

60

80

100

120

140

Germany

United Kingdom

France

Spain

Greece

Portugal

Structural policies: making full use of

demand management tools is not enough

20

Structural flaws are impeding the effectiveness of demand management tools

The longer-term deterioration in potential output growth needs to be addressed by structural policies

Some structural reforms could boost

potential without widening the output gap

21

There is scope to make the composition of government revenues and expenditures more growth-friendly (e.g. in Italy, Spain)

Reducing labour tax wedges can boost labour demand (e.g. in France)

Liberalising services regulation can stimulate investment (e.g. in Germany)

More ambitious action to complete the Single Market would have a major impact (all countries)

Credible reform packages can improve confidence, giving an immediate boost to demand

Deficient demand (especially investment)

has in turn sapped potential output

Note: The chart shows the level of potential output in 2014 relative to a counter-factual based on pre-crisis trends. For the majority of

countries, the crisis has clearly been associated with lower potential output. Nevertheless, for a few countries the difference is

positive or only slightly negative, which is explained by a variety of factors: structural reforms (e.g. Germany); and in a number of

countries labour force participation has been much stronger than would have been anticipated on the basis of pre-crisis trends.

Source: OECD calculations. 22

Level of potential output in 2014 relative to pre-crisis trend Percentage points of pre-crisis trend potential GDP

-30

-25

-20

-15

-10

-5

0

5

10

-30

-25

-20

-15

-10

-5

0

5

10

Key messages

The euro area continues to hinder global growth, which remains modest

Europe is doing poorly above all because of the lack of demand

Structural factors braking potential growth are interacting with demand weakness, raising the risk of prolonged stagnation

Constrained demand management policies explain part of this weakness

Some countries have made good progress on structural reforms to reverse the decline in potential growth, but others have to make greater efforts

Monetary, fiscal and structural policies are complementary tools to promote a faster and more widely shared recovery

23

24

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