Austria -- 2012 Article IV Consultation Preliminary Conclusions
July 2, 2012
Describes the preliminary findings of IMF staff at the conclusion of certain missions (official staff visits, in most cases to member countries). Missions are undertaken as part of regular (usually annual) consultations under Article IV of the IMF's Articles of Agreement, in the context of a request to use IMF resources (borrow from the IMF), as part of discussions of staff monitored programs, and as part of other staff reviews of economic developments.
While Austria has comparatively favorable macroeconomic fundamentals, these need to be strengthened further, especially in light of the ongoing crisis in the euro area and the legacy of an overly ambitious eastward expansion by the banking sector. We commend the authorities for the progress made so far in tackling these challenges. Going forward, we encourage them to:
• Fully implement the envisaged structural fiscal consolidation path and continue reforms to contain aging costs to put public debt on a downward trajectory;
• Develop a more comprehensive strategy for the disposal of legacy assets in banks with substantial state ownership to minimize final fiscal costs;
• Rapidly adopt a new early intervention and bank resolution framework to give supervisors stronger tools to deal with banking sector fragilities;
• Reduce in a budget-neutral way the taxation of labor to foster labor supply.
I. Macroeconomic Outlook And Challenges
1. After stalling in the second half of 2011, economic growth is set for a gradual revival throughout 2012 and 2013. Against the background of the ongoing financial crisis in the euro area, growth will remain modest this year and next, as a moderate pick-up in domestic consumption will partly be offset by slower external demand. Activity will remain somewhat below potential in both years, with unemployment rising slightly from a low level and inflation falling from its 2011 peak.
2. Starting from a relatively strong external position, the ongoing rebalancing of GDP growth toward domestic demand is welcome. Real wage growth is picking up, facilitating a shift in demand toward private consumption and resulting in a decline in Austria’s current account surplus. The continuation of these developments would contribute to restoring macroeconomic equilibrium within the monetary union.
3. Further intensification of financial stress in the euro area is the greatest threat to the Austrian economy in the short run. With strong trade and financial ties to the rest of the euro area and a large internationally active banking sector, Austria would have much to lose if efforts to bring the crisis under control faltered. To forestall this risk, the policy response needs to be first and foremost at the euro area level, as outlined in the concluding statement of the recent IMF Article IV consultation with the euro area.1 In this regard, we strongly welcome the decisions by the European Council at last week´s summit.
II. Fiscal Policy
4. The new consolidation path strikes a good balance between fiscal prudence and growth considerations and should be fully implemented in structural terms. While Austria’s fiscal position is favorable relative to other euro area countries, the public debt-to-GDP ratio is high and still rising. The planned average annual structural adjustment of almost ½ percent of GDP is fostering the credibility of the new fiscal rules and should put debt on a downward path. The adjustment is also relatively growth-friendly. Its full implementation needs to be ensured by rapidly identifying specific measures in health care, subsidies, and at the subnational level. To the same end, contingency plans need to be designed in case some consolidation steps do not generate the projected yield or new outlays emerge, with the possibility of further bank restructuring costs being an area of particular concern. Finally, while the structural adjustment should be strictly implemented, purely cyclical effects on the deficit (“automatic stabilizers”) should be allowed to work.
5. To anchor debt reduction and sustainability in the medium and long term, further expenditure reforms will be necessary. Even if a structural deficit close to balance is reached by 2016 as envisaged, aging-cost pressures will tend to push it up again and hamper further debt reduction. To contain these pressures, the authorities should soon adopt additional reforms, given the long implementation lags of such policies in particular in the pension area. The other main areas to tackle remain health care spending and subsidies.
6. While the recent introduction of a system of fiscal rules is commendable, more progress is needed in fiscal governance reform. Incentives for compliance with fiscal rules at the subnational level would be strengthened by streamlining intra-governmental financial arrangements, establishing a stronger nexus between spending decisions and financing responsibilities, and granting meaningful tax autonomy to states. These reforms should take place in connection with the renewal of the fiscal equalization law.
III. Financial Sector Policies
7. Intensive monitoring of systemic banks, including through regular stress tests, is warranted in light of the fragile European market situation. Large banks have improved the quantity and quality of their capital in response to stricter regulatory requirements and market pressures while avoiding disruptive deleveraging in their core markets. The increase in capital ratios in recent quarters is the result of genuine build-up of risk-bearing capacity, one-off accounting changes, and risk-weighted asset optimization. However, the continuing need to provision against non-performing loans keeps hampering profitability, thus reducing internal capital generation capacity. Swiss franc loans to unhedged borrowers in Austria are also a source of risk, which the authorities are rightly planning to address through additional supervisory measures, in line with the ESRB recommendations. Exposures to high-yield euro area countries are low in regional comparison with the exception of Italy, which is Austria’s second largest trading partner.
8. The mission welcomes the new macroprudential guidelines for large Austrian banks. Early implementation of the new Basel III capital requirements and capital surcharges on systemic banks will increase the capacity of these institutions to absorb unexpected losses. The requirement to draft recovery and resolution plans is a potentially important crisis management tool. Lastly, close monitoring of the funding structure of foreign subsidiaries to encourage reliance on local funding for new lending should help reduce structural vulnerabilities. Appropriately, the monitoring will take place in close cooperation with host country supervisors.
9. The recent experience with medium-sized banks has shown the cost of delaying the disposal of legacy and non-core assets. Regarding troubled banks with significant government ownership, we encourage the authorities to develop a strategy for a more efficient disposal of these assets with the goal of minimizing final fiscal costs. The exit strategy from government ownership following balance sheet clean-up should take into account the need to reduce overbanking in the Austrian market.
10. Putting in place a new early intervention and bank resolution framework remains a priority. Stronger intervention tools would give the Austrian supervisors a better basis -- and clearer responsibility -- to impose early and forceful corrective measures. The authorities have started consultations on the design of a new national framework based on principles consistent with the European Commission’s June 2012 proposal. We encourage rapid progress on this front.
IV. Structural Issues
11. Taxation of labor should be reduced in a budget-neutral way to foster labor supply and increase potential growth. A reduction in social security contributions would lower the burden on labor; there is also a case for smoothing marginal effective tax rates to improve incentives to get employment or move from part-time to full-time work. The fiscal impact could be offset by spending reductions or increases in less distortionary forms of taxation, such as environmental, excise, or real estate taxes. The latter is especially low in international comparison, and its increase could also strengthen the tax autonomy of subnational governments.
12. Substantial steps have been taken to increase the employment of older workers, and further action is desirable. The authorities have introduced several measures to reduce early retirement; together with the social partners, they should continue on this road of reform. Robust implementation is essential for maximizing the impact. In addition, there is clear scope for accelerating the timetable for unifying female and male statutory retirement ages and tying both to life expectancy. Further efforts to improve the employability of older workers (including reducing age-based wage premiums) would also be welcome.
The mission wishes to thank the authorities and all other counterparts for their cooperation and hospitality.