July 20, 2011
MS. STANKOVA: Good morning, everybody, and thank you for joining this conference call on the release of the Article IV Consultations with the Euro Area. We're publishing today a set of papers, including Public Information Notice on the Executive Board's discussion, Staff Report, Selected Issues Paper, Spillover Report, and a Board paper called "Lessons from the European Financial Stability Framework Exercise", which is a precursor to a Financial Sector Assessment Program for the EU area.
Let me introduce today’s speakers. Luc Everaert is Assistant Director and Division Chief for Euro Area Policies in the European Department. Aasim Husain is Senior Adviser in the Strategy and Policy Review Department. Charles Enoch is Deputy Director in the Monetary and Capital Markets Department. With this I will pass the microphone to Luc for the introductory remarks on the Article IV Staff Report and then Aasim will say a few words on the Spillover Report.
MR. EVERAERT: Thank you very much, Olga, and welcome everybody to the call. I'm just going to very quickly go over some of the main messages because I understand that given the amount of volume that's out there, it takes some time to digest.
Essentially when we had the Board discussion yesterday, there were two main messages. One, we think that the recovery in the Euro Area is well underway but it's subject to a very important downside risk from the sovereign crisis affecting some of the Euro Area members. Addressing and containing this crisis remains the first priority for the Euro Area, but it's also very important to prevent spillovers to the region and the global economy. In short, what's necessary for the Euro Area is also good and essential for the world.
The second main message from the discussion is that we need much stronger economic governance in the Euro Area. We need that across all fronts. Essentially, we need more Europe at this point and not less Europe. So let me just very briefly elaborate.
I think on the outlook we're maintaining our forecast that was released in June of 2 percent growth for the Euro Area this year and 1.7 next year. Under this forecast, we think fiscal consolidation should continue and monetary accommodation can be gradually withdrawn. But as long as these sovereign tensions are in place, we do think that unconventional monetary policies need to remain in place. The key question is therefore how do we contain the sovereign crisis? What is necessary?
Directors stressed two things. It's obvious that all the program countries need strong program implementation, but what's more important and is the focus of these reports is that we need also a consistent and concerted effort at the Euro Area level. Here Directors see three essential actions. First, we need to very quickly implement the commitments to scale up the EFSF, but maybe even more importantly, we need to make it more flexible to allow it to intervene in many different ways and also on easier terms. The second point is that the authorities should clarify their approach to private-sector involvement both in program countries and in the ESM. The third point is that European banks need to be strengthened throughout the Euro Area with a very strong follow-up to the current stress tests that came out and with a preference to private-sector solutions.
But beyond addressing these current tensions, the message is also that we really need stronger economic governance for the Euro Area to restore confidence in the European project. Here the authorities are undertaking welcome action, but Directors felt that they will need to go a bit further to make sure that governance becomes more binding on national authorities. So clearly we need fiscal discipline and it will be unavoidable to subordinate some national fiscal sovereignty to the common good. We also need structural reforms to deal with imbalances and to foster growth, and in this area Directors would like to see more coordination and more binding procedures. And I think a very important and key lesson is that one cannot really have a monetary union without a fully integrated financial system and proper institutions to deal with it. In the context of the latter, you should see the set of papers called "The Lessons from the European Financial Stability Framework Exercise" where staff has analyzed the current setup not from a conjunctual perspective but from the perspective of the institutions. The key lessons are that we really think that the effectiveness to be improved through better information sharing and a more common approach to supervision, we really need to make sure that all the elements of the financial framework are consistent and, finally, and this is a call that some Directors made very strongly, we need to fill the remaining gap in crisis resolution and finally deal with burden-sharing issues at the Euro Area level.
The last point that was an important part of the consultation is the Spillover Report, and my colleague will mention a bit more, but in terms of substance, Directors really emphasized the need for European authorities to contain the trouble in the periphery and prevent contagion, and they called for immediate action because it would be very costly not just for the Euro Area but for the global economy to delay tackling the sovereign crisis. They also emphasized that raising the Euro Area's growth potential is essential and obviously very good for the rest of the world. I will now pass it over to my colleague who will say something more on the spillover exercise.
MR. HUSAIN: A little bit of background on the spillover work. The Spillover Report and related Selected Issues Notes are part of a pilot exercise by the IMF to examine the external effects of domestic policies in the five largest systemic economies, so that includes the Euro Area, China, Japan, the United Kingdom and the United States. The aim of this pilot exercise is to provide a global perspective for policy advice in bilateral Article IV discussions and to provide a new perspective in the Fund's multilateral surveillance work.
Some of you may have seen the press conferences held by our Acting Managing Director back in June at the conclusion of the Article IV mission to the five systemic countries, so this report is the first report itself that is coming out in published form. The others are expected to follow suit very soon. I believe perhaps the one on Japan might even be coming out later today.
The main message from the Spillover Report on the Euro Area as you've just heard from Luc is one that will not surprise, that stresses in the Euro Area could have major global effects especially if the stresses were to intensify. To support this message, we have broad-ranging analysis covering a number of analytical tools and tries to assess the global effects of the Euro Area's current and prospective monetary fiscal and even structural policies. I'm not going to try to summarize all that work now, but just to point the interested reader in that direction.
The resulting implication of the analysis is that containing the crisis in the Euro Area and stopping it from spreading to core Europe is critical for limiting spillovers. In other words, what is good for the Euro Area itself is good for the rest of the world.
MS. STANKOVA: Thank you, Luc, thank you Aasim. Now we are ready to take your questions if you have any.
QUESTIONER: Thank you. I'm reading a sentence in your report, "Serious trouble in the periphery spilling over into the core would upset the scenario of continued growth with a very unpredictable outcome." It seems to me that it's not characterized. Could you please tell us what would be the possible worst outcome?
MR. EVERAERT: We have in the context of the current financial crisis seen shocks that were unpredicted and unknown and I think that in the context of the Euro Area, it's very hard to predict how contagion is going to work. It's easy to look at the trade channels and the direct financial channels, but it's not so easy to look at investor confidence. So one bad-case scenario that we have in mind is of course that investors no longer have confidence in sovereign debt of a number of countries in the Euro Area and therefore that there is a withdrawal of investment and that could have quite unpredictable consequences. It's hard to tell. There are safe-haven effects, but then there are other effects as well, so we cannot really quantify these earthquake-type scenarios.
QUESTIONER: Thanks for the call. I'm just wondering since you all are talking about a comprehensive solution for solving the Euro sovereign debt crisis, if the current solution in the EFSF is large enough to handle either contagion into Spain or Italy and what the IMF is recommending specifically. I know it made some recommendations in the last assessment of the Euro Area -- what its specific recommendations are for comprehensively solving this sovereign debt crisis.
MR. EVERAERT: Thank you. That's two related questions. Maybe taking them in turn. I think the size as you know of the current Crisis Management Facility is being scaled-up to close to 500 billion euro and this is certainly sufficient to address the current needs, even the contagion from other countries, but I think it's important to note and European authorities are on board with this, that they have said they will do whatever it takes to safeguard Euro Area stability so it may be possible that in the future we need to revisit this.
What do we mean by a comprehensive approach? I think that it's an approach that has to solve a couple of uncertainties that are currently weighing on the markets. There are three essentially so let me just briefly recap. One is that if you want to deal with the crisis, you need flexible instruments. This is the approach that the IMF has as well. So we would really advocate the Crisis Management Facilities to allow interventions in secondary markets, provide guarantees, backstops for other fiscal agents and for banks if necessary. The second part is that we have this still continuing discussion about the extent of private-sector involvement and this is a large uncertainty that has to be resolved. We do not need to -- there are different ways to resolve this uncertainty, but the key point is to take that uncertainty off the table and that's a decision that national authorities in the Euro Area need to make. The third thing that we think and we also mentioned that last Friday when the stress tests came out is that in the current environment, most of the banks in the Euro Area should build additional capital buffers because that will provide additional confidence that these kinds of shocks can be handled.
QUESTIONER: Good morning. This call of yours for more power to be centralized within Europe, more Europe and not less, could you characterize how well you think the Euro Area authorities collectively have dealt with the crisis and particularly the Greek crisis? Two, given that, what appetite do you think there is politically within Europe and, indeed, what kind of practical potential is there for those authorities to take over a more centralized and coordinated role?
MR. EVERAERT: Thank you, Alan. It's not going to be easy to answer these questions in a nutshell, but let me say that initially there was a delay in handling the program, this is well known, and that requesting assistance earlier is always better. The second element of how the crisis was handled has to do with what I just have called the remaining uncertainties. It's the uncertainty of how you're going to deal with sovereign debt and how also are you going to deal with senior secured bank debt and statements in different directions that I think have contributed to uncertainty and this is something that has made the handling of this crisis much more difficult.
In terms of the appetite for some of the solutions that we proposed, I think we should be clear that a lot of steps are taken in that direction and we're just a step short of where we need to be both in the financial area as well as in the fiscal area. I think in the financial area the proposal on the table goes a long way in the direction of establishing a common framework to deal with financial institutions in the Euro Area, we just need to deal with the burden-sharing option and I think that is possible in the context of the current facilities. The other element which of course is on everybody's mind is the fiscal-discipline element and how much of national fiscal sovereignty has to be given up for the common good. I think here also it is not necessary to go to full fiscal federalism. It's just necessary that at some point there is a mechanism that can override some national decisions to make sure that there is enough fiscal discipline. Thanks.
QUESTIONER: I have two questions. The first one is given the state of things in Europe now with -- over Italy, I wonder what is your observation about how the initial crisis in Ireland was managed not only by Ireland but by Europe in general given that this seems to be the origin of what's going on right now? The second one is given the prospects of Italy, how urgent, or more than how urgent, how firm or aggressive would say is the response to what's going on now has to be from Europe in general?
MR. EVERAERT: The questions you raise have to do with country-specific cases and I'm not sufficiently familiar to be able to give you an answer, certainly not on the case of Ireland or what has to happen with respect to Italy's policies. But on your last point, what needs to happen in Europe, I just need to come back to the fundamental messages that we have here. I think resolving these uncertainties that I just discussed will help deal with the tensions also affecting now other countries in the Euro Area. Thank you.
MS. STANKOVA: I'd like to add on Ireland that a joint press conference was held last Tuesday in Dublin at the conclusion of the third review of the Extended Fund Facility assessment and solutions needed to address problems Ireland is facing were discussed at length including with the Deputy Director of the IMF's European Department. The video file is on your website so you can check on Ireland over there.
QUESTIONER: You said that it is essential to prevent the crisis to spread from the periphery to the core of Euro Land. The two countries that seem to stand on this fault line are Italy and Spain. I wonder if you could say what Europe could do to help these two countries to be involved in the -- contagion short of going through a program like Greece, Portugal and Ireland, and what would you expect these countries to do considering that for instance Italy passed an additional budget last week which was totally ignored by the markets in their reaction and Spain has passed a number of structural reforms including labor-market reforms which also seemed to be ignored by the markets?
MR. EVERAERT: Once again I must say that because I am not a specialist on Italy or Spain, I cannot speak about specific issues. But I think we really would like to insist that if the European leaders get together to solve the problems that are currently affecting Greece, Ireland and Portugal and make sure that we have some assurances about the sustainability of those programs that this to a large extent will help alleviate the tensions in other countries. That doesn't mean that both Spain and Italy should not do their own to deal with growth and to get on with structural reforms, but these are issues that are being dealt with in the bilateral consultations. Thank you.
QUESTIONER: I just actually wanted to go back to something which I think you already talked about, but to clarify the point. Are you then suggesting that the EFSF needs to be reformed to allow it to buy bonds on the secondary market and to take part in the recapitalization of European banks? Secondly, I wanted to know if you had any suggestions or preferences for the best way of achieving public-sector involvement in the next round of the Greek program. Thanks.
MR. EVERAERT: I think on the EFSF you are correct that we are calling for increased flexibility. As you know, right now the EFSF can only be used for lending in the programs and for interventions in the primary market. This we don't think is a sufficient toolkit. What exactly the other tools are depends on the different situations in different countries, so we'd really like to get more flexibility, more discretionary power over the use of the EFSF resources.
On the second question, we do not have any specific answer at this point because again this has to be dealt with on a country-specific basis, so I cannot really answer that question.
QUESTIONER: Good morning. My question was partially already answered. It was about Spain. During the Spring Meetings it was said that Spain had decoupled from the other economies in risk like Ireland, Portugal and Greece and I wanted to know your opinion about the risk of contagion to Spain right now. The second question is related to the euro. Why do you think the euro has been standing so well despite the very bad economic situation in Europe? Thank you.
MR. EVERAERT: On Spain I'd like to defer you to I think there is going to be a Board discussion on Spain in the next few days and all the details there about our view on Spain will be given.
On the euro, I think that one shouldn't forget that if you look at the numbers, 90 percent or 85 percent of the Euro Area is doing pretty well. In fact, growth in Germany has never been as high as it has been this year. It's above 3 percent and was so also last year. So I think that if we can contain the crisis to the periphery, we shouldn't be worried about the rest of the Euro Area. Thank you.
MS. STANKOVA: We have time maybe for one more question.
QUESTIONER: Two things. I just wanted to ask you about the language here because this press conference so far seems all pretty sanguine and 90 percent of Europe is growing and all of that, but the first couple pages talk about the euro being under a shadow and talking about how if conditions aren't fulfilled you can't have a monetary union which seems to suggest that the IMF is recognizing a fair amount of centrifugal force that's actually pulling the union apart potentially. I just wanted you to speak to that point because I assume these words are vetted very carefully and you don't put them out there without thinking about them and you see to suggest that given current directions if certain things aren't done this could put the currency union at risk. That's question number one.
Question number two is what level of involvement did Ms. Lagarde have in the actual choice of language here? Did she delete any phrases that we're not reading today or did she add any that we are?
MR. EVERAERT: Thank you very much. I must say I would like to correct your impression that this is a very sanguine report. I think the report is quite on the contrary alerting to one of the major downside risks or the largest downsides risk that we are facing in the Euro Area and so I think we need to deal with those two elements. First, the crisis in the periphery is not fully addressed yet and we need to continue to address this crisis along the lines that we have described. And as I mentioned, Directors think this should be done very urgently. We should not delay any longer removing some of uncertainties that are hanging over the solution of the sovereign crisis in the periphery.
The other point is that I think the Euro Area is of course a sustainable arrangement but we do think that in a number of governance areas there is a need to have more binding rules over national authorities. The two key areas are on fiscal discipline. We really need to have a bit stronger than the current proposals that are on the table and I think the European Parliament is thinking along the same lines. And the second thing is that on financial crisis management we really have to get that complete backstop in place for the Euro Area.
QUESTIONER: And Ms. Lagarde?
MR. EVERAERT: Yes. The documents were completed before Ms. Lagarde took up her position, so there was no influence at that point from her side.
QUESTIONER: So she had no review over this?
MR. EVERAERT: No. No. She chaired the Board meeting but she did not modify the report-- the papers were issued before she joined the IMF.
QUESTIONER: Thank you.
MS. STANKOVA: With this we'll conclude the conference all. Thanks very much. I would to remind you that embargo time on the conference call and the papers is 11:30 Eastern Standard time and I hope that gives you complete your stories before the embargo is lifted.
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