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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

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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

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Decomposition of the fiscal impulse

Fiscal impulse

(Change in the general government balance; total or primary)

Fiscal stance (Change in the cyclically-adjusted

balance)

Fiscal stance

~

Automatic stabilisers (Change in the cyclical component;

Capture the impact of the cycle)

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

(Measures taken in response to the crisis)

Other policy measures

(including non-crisis related measures)

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Fiscal impulse 2008-10 in euro area and US

Source: ECB calculations based on IMF October 2009 World Economic Outlook

Automatic stabilisers typically play a more important role in European economies compared to the U.S. due to larger public sectors

Automatic Stabilisers

Automatic Stabilisers

Expansionary fiscal stance Expansionary

fiscal stance

-8.0

-7.0

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

Euro Area US

Change in budget balance due to automatic stabilisers and fiscal stance (% of GDP)

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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

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Four categories of fiscal stimulus measures

Composition of stimulus measures (2009-2010)Euro area, share (%) in terms of budgetary impact

Measures aimed

at businesses

17%

Labour market

measures

5%

Measures aimed

at households

50%

Public investment

28%

Source: European Commission (2009 Annual Report on the euro area) and ECB staff calculations.

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Size of fiscal stimulus packages 2009, 2010

% GDP

BEL

DEU

IRL

GRC/ ITA

ESP

FRA

LUX

MLT

NLD

AUT

PRT

SVK/ CYP

SVN

FIN

EA16

0

0.5

1.

0 1

.52

2.5

2009

0 0.5 1.0 1.5 2.0Fiscal stimulus 2010

Timely? Temporary?

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Euro area budget balance over 1998-2010

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.

Government net lending (+) / borrowing (-) and components

Euro area, percent of GDP

-8

-6

-4

-2

0

2

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

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

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Cyclically adjusted balance budget (excl. fiscalstimulus)

Fiscal Stimulus Packages

Source: EC Forecast Autumn 2009

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Euro area public finances under strain

Budget balance of euro area countries in 2007 and 2010 (% GDP)

Euro Area

-16.0

-14.0

-12.0

-10.0

-8.0

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

BE DE IE GR ES FR IT CY LU MT NL AT PT SI SK FI EuroArea

2007

2010

-3%-3%

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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

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THANK YOU FOR YOUR ATTENTION !