Remarks at EuroPlace Conference at NYSE:
Paris EUROPLACE International Financial Forum in New York — 22 April 2013
Ladies and Gentlemen,
I am delighted to have the opportunity to address such a distinguished and international audience, in the wake of the G20 and IMF meetings in Washington.
During the G20 discussions, the overwhelming concern was how to boost growth and job creation. We discussed the short-term effects of fiscal policy in this respect, the continued need for structural reform, as well as the functioning and role of the financial sector in financing the structural change underway.
At the same time, the G20 acknowledged that the global economy has avoided some major tail risks and that financial market conditions continue to improve. As far as Europe is concerned, the key tools we needed for fire-fighting are now firmly in place, and the perceived tail risk of a break-up of the eurozone has not materialised. Instead, sovereign funding conditions have significantly improved.
In my view, this financial market view reflects both the acknowledgement of the remarkable reforms undertaken in Europe – because these reforms are the precondition for the credibility of the firewalls we have established – but also the clear expectation that this path will continue to be followed.
Still, despite these reforms, the ongoing process of deep economic rebalancing continues to impact on the European economy. We expect growth to return only gradually in the second half of this year, together with an acceleration of world trade.
Several countries in the euro area are still caught in a process of balance sheet adjustment. The build-up of the large current account imbalances within the euro area coincided with the introduction of the euro, which reduced sovereign risk premia across the euro area, while financial market integration in the EU progressed and some euro area countries were catching-up. The imbalances accelerated with the global credit boom, starting in 2003 where markets severely underpriced credit risks. The long build-up of large external liabilities had become a source of systemic concern in Europe.
This still has implications for future growth policies, namely structural policies, fiscal policy and our policy regarding the financial sector. In parallel, we must continue on our path to rebuild the architecture of Economic and Monetary Union towards EMU 2.0.
My first point concerns structural policies.
In some EU economies, debt levels of households, companies and governments are being reduced, but remain high. External adjustment is proceeding and needs to continue and intensify in some countries, which implies an ongoing shift of resources towards export-oriented sectors.
Fortunately, the adjustment is increasingly supported by a recovery in competitiveness in vulnerable countries. In some countries, where unit labour costs had accelerated considerably over the last decade, there has been a significant correction. In the surplus countries, increasing domestic demand is expected to support rebalancing over time as wages and unit labour costs increase relatively faster. However, the adjustment is inevitably weighing on the economy. In several countries, unemployment is unbearably high.
Openness to trade will support this process of adjustment. Europe must actively seek out global opportunities for growth. Protectionism would be the wrong medicine.
However, economic reforms take time to show their full effect. This brings me to my second point, fiscal policy.
A credible medium-term fiscal strategy and a comprehensive set of growth-enhancing structural reforms complement each other. Since the beginning of the crisis, the economic governance in the EU and in the Economic and Monetary Union has been significantly strengthened.
Fiscal policy has been the subject of much debate recently. This debate has often neglected the point of departure in Europe, namely the threat of market financing drying up, as positions in the private and/or public sector threatened to become unsustainable. Hence these positions needed to be corrected, in order to re-establish market confidence.
This is precisely why fiscal policy rules in the EU are implemented in a differentiated way, responding to country-specific situations. The main goal is to achieve structural sustainability of public finances in the medium-term. The June 2010 Toronto targets called for at least halving deficits by 2013 and stabilising the government debt-to-GDP ratios by 2016. And indeed, in the EU and the euro area the public deficit is forecast to fall from over 6% in 2011 to below 3% of GDP this year and the debt ratio is expected to stabilise by 2014. Consolidation continues to be necessary, but its pace is slowing in 2013 relative to 2012.
I believe that the focus on fiscal policy alone is a much too limited view when trying to trace the reasons for slower-than-anticipated growth in Europe. We are not in a normal cyclical downswing, but one whose fundamental cause lies in the macroeconomic imbalances and the ongoing balance sheet adjustment process.
This process has led to – and is exacerbated by – a fragmentation of the financial market in Europe. There is no doubt about the structural adjustment needs. However, the reallocation of resources is hampered where excessively tight financing conditions for businesses and households prevail.
In my view, this is caused by the still-unfinished repair of the financial system and banking sector. Today’s liquidity trap is in fact a financing trap. This is my third point.
While the US by and large proceeded with financial repair in 2008-9, which was crucial to its recovery, this process in Europe is still only partially achieved. This is acting as a critical drag on progress towards economic recovery.
In contrast to the US, the European economy remains a bank-based system. Europe should certainly become more open to more capital market financing, and we have already launched some initiatives and are considering what more can be done. But for the time being, bank dependence will prevail.
The European Investment Bank is now filling the gap where private banks are currently not capable of supporting the real economy. Its loan book amounts to over 450 billion euros, making it the largest supranational public bank. The capital increase of 10 billion euros allows the EIB to increase its lending in the EU in 2013 by around 40%. The EIB builds on contributions from the private sector, including private banks and capital market investors. We expect the EIB to unlock 180 billion euros of investment for growth over the next three years.
At the same time, we need to complete the repair of the financial sector, in order to unblock private investment. This is not about “bailing out bankers”, it is about letting credit flow to create growth and jobs.
The integrated financial market in Europe did not have the adequate governance arrangements in place, and recent events have demonstrated that vulnerabilities remain.
The banking union is essential to reverse the process of financial fragmentation in Europe and, thus, to preserve the integrity of the Single Market in the EU for financial services. It is also critical to ensure economic recovery and underpin the smooth functioning of the Economic and Monetary Union. Heads of state and government in Europe agreed on this last summer, and in view of recent events, there is a wide understanding that this work must now be accelerated to bring clarity. This is certainly the firmly held view of the European Commission, and I am glad that our view received so much backing from G20 partners.
Eventually, the banking union should comprise a single supervisory mechanism, a single resolution mechanism, a common, industry-financed resolution fund and, as a last resort, a fiscal backstop.
The banking union will reinforce financial stability by assuring more uniform and high-quality arrangements for the supervision and resolution of banks.
With the political agreement on the single supervisory mechanism, which entrusts the ECB with prudential supervision, Europe has made an important step towards a banking union. I say deliberately Europe and not the euro area, because the single supervisory mechanism is open for non-euro area Member States to participate in.
To my mind, the single supervisory mechanism is further evidence that Europe is addressing its challenges. Europe has often been criticised for slow decision-making, but in this dossier – which is a fundamental break with the past – it only took about 9 months from the first draft to the political agreement on the legal text.
More legal proposals are under discussion, in particular one on bank recovery and resolution, which is important as it clarifies, among other things, the rules on bail-in. The lack of common rules was one of the reasons why the events in Cyprus caused so much volatility.
Before the summer, the Commission intends to present a proposal on a single resolution mechanism. Already last September, the Commission said that a common resolution mechanism would be “the natural complement to the establishment of a single supervisory mechanism”.
Over time, a resolution fund, provided by the industry, should contribute to achieving the goal of minimising the cost to taxpayers of bank resolution in the future. Finally, the euro area is making progress in defining the rules under which the ESM could recapitalise banks directly, which is also a necessary feature of banking union.
Taken together, these elements will further reinforce financial stability by diluting the link between banks and their national sovereign.
The banking union cannot be completed overnight. After the agreement on the single supervisory mechanism the European Central Bank is expected to assume its tasks in full by July 2014. But we are committed to build on the progress with single supervision and to rapidly bring all the elements together.
Ladies and Gentlemen,
Let me conclude.
Europe is still undergoing a protracted balance sheet adjustment. This will be resolved over time, but it is weighing on economic activity in the short term. Yet there are clearly visible signs that the flows are moving in the right direction, and I think this is being recognised by market participants.
Economic policies are also moving in the right direction. The architecture of EMU has been reinforced, and this medium-term framework allows structural and fiscal policies to adapt to circumstances. We see structural and fiscal policies as a coherent whole, taking into account country-specific circumstances.
Countries receiving financial assistance are making progress. While at a somewhat different stage of their programmes, Ireland and Portugal have taken successful steps to re-enter the markets. Ten days ago in Dublin, finance ministers agreed to substantially lengthen the maturities of the official loans to support their efforts to regain full market access and successfully exit their programmes. Greece was already given more time last December, and the programme has been brought back on track. In Spain, the banking sector adjustment is progressing as planned.
The growth outlook in Europe today is a reflection of the imbalances of the past. But financing Europe today is about the growth opportunities of the future. Europe is making steady progress on the path to further integration, and decisive reforms, such as the single supervisory mechanism, have been agreed. I hope that every such step is a step further to underpinning your confidence in Europe.
Remarks at Federal Reserve of New York programme on Transatlantic Economic Interdependence and Policy Challenges:
Transatlantic Economic Interdependence and Policy Challenges – New York – 22 April 2013
Ladies and Gentlemen,
It is a pleasure to be with you this afternoon to discuss the policy challenges we face on both sides of the Atlantic.
Already back in 2007, the European Commission and the Federal Reserve of New York jointly organised a very successful conference on Transatlantic Economic Relations [The euro and the dollar: pillars in international finance]. In a way, today’s event is the follow-up to that conference, where we take stock of the challenges we have faced and the progress made in strengthening policy coordination since the global financial crisis of 2008-2009.
That crisis was born of excesses in financial innovation and macroeconomic imbalances – global as well as regional – that were allowed to develop unchecked during the credit boom years of the 2000s. At the onset of the crisis, the leaders of the EU and the US leaders, at a meeting in Camp David, took the initiative to go beyond the G7 and make the G20 the key forum for international economic cooperation. Since then we have cooperated closely to fight the recession, reform the international financial architecture, and improve the governance of international financial institutions. We have also beefed up global financial firewalls and put in place stronger and more effective financial regulation and supervision.
Back in 2009, the financial turmoil was accompanied by an economic shock, and world trade came to a halt. This underlined just how important stable, open trade relations are for our economies. That’s why I warmly welcome the launch of talks on a Transatlantic Trade and Investment Partnership, with its goal of removing barriers to trade and investment between Europe and the US. We estimate the potential gains for the EU and the US of such an agreement to be above 200 billion euros [around 260 billion dollars]. A particularly welcome positive externality of our bilateral cooperation is that rest of the world could also benefit from such a partnership to the tune of close to 100 billion euros [around 130 billion dollars].
So we must work hard to make this Transatlantic Trade and Investment Partnership a reality. At the same time, we need to act on many other fronts, because despite the progress made in recent years, these challenges are still formidable.
Europe is still undergoing a profound and necessary economic rebalancing. What looked like a fast catching-up process in some countries during the global credit boom that accompanied the first decade of the euro, proved not to be sustainable. The shock from the financial markets left Europe saddled with high levels of debt, both private and public. The deleveraging process is going to take time, and we need to find new sources of growth to ease the burden of adjustment. That’s why opening up global trade opportunities is so very important.
Since the crisis hit, Europe has been implementing a comprehensive policy response, which we have adapted and broadened over time.
Let me outline the three main pillars of our strategy:
The first is to return to growth and reduce unemployment. The current weakness in economic activity and the high levels of unemployment show how crucial it is to accelerate growth in the EU. This requires a permanent reduction in external imbalances. This adjustment is underway: current account deficits are narrowing in the countries with the largest external imbalances, for instance in Italy, Spain, Portugal and Ireland, and also in Greece. But some will have to run surpluses for a long time to come in order to complete the necessary deleveraging.
Structural reforms are the key to raising the growth potential of the European economy. And Europe is rising to this challenge. Most European countries have enacted major structural reforms, especially of labour and product markets, in recent years. We expect these to lead to significant employment and output gains in the medium-term.
Having said this, the reform agenda is not yet complete, so we cannot afford any complacency or lowering of our guard. Work is underway and must be taken forward to deepen the Single Market and increase competition in network industries, as well as to support small and medium-sized enterprises and nurture research and innovation.
To address the unacceptably high levels of youth unemployment, we need to continue to tackle the structural deficiencies in European labour markets. We also need to be proactively find ways to give hope to young people so that they do not become stuck in inactivity. Initiatives such as the European Youth Guarantee scheme are being put in place to help every young person into a job, education or training.
The second pillar of our response is consistent consolidation of public finances that is complementary to the process of structural reforms.
After we had deployed the full Keynesian arsenal of fiscal and monetary stimulus in 2009-10, it became necessary to move to a phase of consolidation to prevent our public finances from veering onto an unsustainable path. We have subsequently reduced fiscal deficits in the eurozone from around 6% of GDP on average in 2010 to below 3% this year, and with the debt ratio now stabilising.
We have further reinforced our economic governance and budgetary coordination, as reflected in the reformed Stability and Growth Pact. We have clearer, stronger rules that allow us to achieve the structural sustainability of public finances over the medium term. The pace of fiscal consolidation can be adjusted to reflect evolving economic conditions and to take into account negative cyclical effects. It is of course essential to strike the right balance between the impact of consolidation on growth and the need to ensure debt sustainability.
Now, we have received plenty of advice, also in recent days, on the pace of fiscal consolidation in Europe. Well, I will let you into a secret: the pace of consolidation in Europe has already been slowing down since last year. What has made this possible? There are three factors that have enabled us to have a smoother path of adjustment. First, the increased credibility gained since 2011 as a result of progress in balancing budgets. Second, the stabilisation effect of the measures taken by the ECB. And third, the reinforced economic governance that provides an effective medium-term framework for economic and fiscal policy. This year, in fact, the structural fiscal adjustment in the eurozone will be around ¾ of a percentage point, roughly half the level of last year (around 1.5 percentage points); while in the US, it is expected to be around 1.75 percentage points in 2013.
The Administration and Congress face the important task of making further progress towards a credible medium-term fiscal consolidation plan, as reflected in last Friday’s G20 communiqué. As in Europe, difficult decisions have to be made, for example on entitlement reform and the tax code.
The third pillar is the reform of the financial system. As in the United States, in Europe we needed a complete overhaul and redesign of financial markets regulation and supervision. In Europe we now have Basel III firmly in law, and we advanced the capital requirements already in a coordinated exercise in 2012.
Europe is firmly committed to complement better fiscal governance with better governance of the financial system. The construction of a banking union will reinforce financial stability through more uniform and high-quality arrangements for the supervision and resolution of banks. It will further reinforce financial stability by diluting the link between banks and their national sovereign.
Less than a year since the idea was first put on the table, the European Union has agreed on a single supervisory mechanism. We will not delay in putting in place the second pillar of the banking union, a single resolution mechanism, with a single resolution authority and common resolution fund, financed through levies on the sector itself, to deal with failing banks in an orderly and predictable way. The Commission is committed to come forward with a proposal to that end before the summer.
The possibility and rules for direct recapitalisation of banks by the European Stability Mechanism is the other important feature of the banking union we are building. The Eurogroup aims to agree the essential rules and details of a direct recapitalisation instrument for the ESM by June. This is a decision of the finance ministers of the eurozone but the European Commission has been providing technical expertise to facilitate an agreement and we will continue to do so in the coming weeks.
Taken together, these steps represent a decisive contribution to the repair of the banking system in Europe. The banking union cannot be completed overnight, but markets should take note that this is for us an essential priority. We are committed to moving it forward and to completing it as quickly as possible.
Ladies and Gentlemen,
This year the Federal Reserve System will be one hundred years old. Over a century it has delivered price stability, at least most of the time, and supported economic growth. In this respect, let me pay homage to Paul Volcker, who, at the head of the Federal Reserve, tamed inflation at the end of the 70s and early 80s, allowing the US to return to a sound growth path – a great achievement indeed. So it is not surprising that the Federal Reserve is now considered not only a US, but also a global public good.
Although much younger (it is just turning 15), the European Central Bank is an ‘early matured adolescent’ that has delivered on its mandate, despite the difficult and challenging times we have lived through. I don’t think it will be regarded as political interference if I say that these two institutions have done a very valuable and mostly successful job in the last five difficult years.
But as central bankers eagerly – and in my view, rightly – underline, monetary policy alone cannot cure flaws in economic fundamentals. This task is the responsibility of governments, of course with other economic actors and social partners.
And that is why we must stay the reform course. We need to deliver in terms of free trade, financial sector reform, structural reforms that boost growth potential, and consistent consolidation of public finances. We must do so in order to create the foundations for sustainable growth and job creation. Facing these challenges, we are indeed partners on both sides of the Atlantic. Thank you.