Press Release No. 14/423

Press Release: IMF Executive Board Concludes 2014 Article IV Consultation with Austria

September 15, 2014

On September 8, 2014, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation¹ with Austria.

Austria came through the global economic and financial crisis relatively well, reflecting the absence of large pre-crisis domestic imbalances. The main impact of the crisis was on the internationally active banking system and public debt. Before the crisis, Austrian banks had expanded rapidly in Central, Eastern and Southeastern Europe (CESEE). As their funding dried up post-Lehman, and their assets suffered from the end of the credit boom in CESEE, Austrian banks came under pressure and needed government support.

After a new slowdown in 2012 and 2013, a recovery is now taking hold. GDP is currently projected to grow at about 1.5 percent in 2014 and 1.7 percent in 2015, compared with 0.3 percent in 2013. Inflation has fallen from near 4 percent in late 2011 to 1.5 percent in May, but the risk of deflation remains low, as a tight labor market (with the lowest unemployment rate is the EU) keeps services inflation elevated. Austria’s current account and real effective exchange rate are broadly in line with fundamentals. Risks are mainly geopolitical, and include spillovers from Ukraine and Russia. Other factors include the European Central Bank (ECB)’s comprehensive balance sheet assessment and lower-than-expected growth in emerging markets and the euro area. Funding shocks for Austrian banks could give rise to spillovers to CESEE.

Austria’s public expenditure-to-GDP ratio is high. The counterpart is a high tax burden, especially on labor. With 1 percent of GDP in 2013, Austria’s structural deficit is not high. However, due to bank support, debt dynamics are not as favorable, and the public debt-to-GDP ratio will reach about 80 percent of GDP in 2014 and become higher than in any other European AAA country.

The restructuring of fully or partly nationalized banks has made progress, but challenges remain. The restructuring law for Hypo Alpe Adria includes a bail-in of €890 million in subordinated debt guaranteed by the state of Carinthia and an effective wipe-out of the underlying guarantee. The internationally active Austrian banks have been shifting to a new model, in which credit of their CESEE subsidiaries is, to a much larger extent, funded by local deposits rather than by parents. These large banks have strengthened their capital position, but capital gaps with peers remain. Neither the non-financial corporate sector nor the household sector is overleveraged, but housing prices warrant monitoring.

Executive Board Assessment²

Executive Directors commended the authorities for their sound macroeconomic management, which has helped weather the global financial crisis and deliver stable growth and low unemployment. Directors noted that, while Austria’s economic outlook remains positive, geopolitical developments could pose risks, especially to the financial sector given its exposure to Central, Eastern, and Southeastern Europe. They agreed that policy priorities ahead should continue to focus on preserving financial stability by completing bank restructuring and further strengthening macro-financial stability. Efforts should also continue to address long-standing structural issues to bring down the high debt and boost labor productivity and potential output growth.

Directors welcomed the reduction in the fiscal deficit and the authorities’ commitment to achieve a structurally balanced budget by 2016. They generally saw scope for more decisive expenditure and fiscal federalism reforms to make room for faster debt reduction and tax cuts, including from social security contributions. These steps would create buffers for absorbing aging costs, potential additional bank restructuring outlays, and other contingent liabilities. Directors highlighted the need for greater public spending efficiency by reforming public pensions and health care, better targeting subsidies, and by linking more closely expenditure and revenue responsibilities in the federal system.

Directors welcomed the recent progress in the restructuring of fully or partly nationalized banks, in particular Hypo Alpe Adria Group. They encouraged timely completion of the sale of Hypo’s Southeastern European subsidiaries while ensuring measures to avoid disruptive effects in host countries. Directors recognized that the recent bail-in of subordinated debt is in line with the European framework. They noted, however, that the retroactive effective voiding of a guarantee of the Austrian state of Carinthia, while designed and intended as an isolated case, could risk undermining the credibility of similar guarantees in the future. For the Volksbanken sector, Directors underscored that, given the structurally low profitability of the domestic banking market, speedy asset disposal in the apex institution and the rapid implementation of a streamlined association structure remain essential.

Directors acknowledged that the transition to a new funding model and stronger capital positions have reduced vulnerabilities of internationally active banks. They encouraged the authorities to continue to strengthen banks’ capital buffers and to accelerate the implementation of the EU banking union framework. Directors also highlighted the need for further refinement of the macroprudential framework.

Directors underscored that raising labor productivity and increasing labor force participation would improve longer-term economic prospects by boosting potential growth and mitigating the impact of aging. The enhancement of IT adaptation, better access to financing for start-ups, and the reduction of administrative barriers for new business could help expand the economy’s production frontier. Increasing the labor force by reducing the tax burden on labor and raising the effective retirement age would further boost economic potential.