Speech

Welcome to today’s press conference on the economic outlook for Europe.

Europe has weathered well an unprecedented series of shocks, the pandemic and the energy crisis triggered by Russia’s war in Ukraine. Severe downside scenarios were avoided. This is a big accomplishment! 

Europe is now at a turning point— the continent is grappling with defeating inflation while it also needs to secure strong and green growth over the longer-term.

Europe’s economies have slowed this year, as expected, reflecting tighter macroeconomic policies and high energy costs. So far, labor markets have remained strong but high frequency indicators suggest a slowdown in services and a weakening of hiring.

Headline inflation is declining rapidly. But core inflation—a gauge of underlying inflation pressures—remains persistently high. In several countries wage growth has now caught-up to inflation or is exceeding it.

In our growth forecast for this year, advanced European economies are slowing to 0.7 percent, down from 3.6 percent in 2022. The slowdown in emerging Europe (excluding Belarus, Russia, Türkiye and Ukraine) is expected to bottom out at 1.1 percent.

Europe’s outlook for 2024 is for a gradual recovery. As prices decline and wages rise, Europe’s consumers are starting to recoup purchasing power which will lift domestic demand. The strength of the rebound will differ across countries. Specifically, manufacturing- and energy-intensive countries will be slower to recover than others.

• In advanced European economies, economic growth is forecast to fall from 3.6 percent in 2022 to 0.7 percent this year, before some pick-up to 1.2 percent next year.
• In emerging market European economies excluding Russia, Ukraine, Belarus and Türkiye, growth should drop from 4.5 to 1.1. percent this year, and then rise to 2.9 percent in 2024.
• Headline inflation is projected to decline thanks to lower energy prices and easing supply chain bottlenecks— We project it at 5.8 percent on average in advanced European economies this year, and 11.9 percent in emerging market European economies, excluding Russia, Ukraine, Belarus and Türkiye.
• Most countries will not reach their inflation targets before 2025.

The medium-term growth outlook is also not without its challenges. Europe has grappled with low productivity growth for some time. And the effects of population aging and labor-supply constraints are starting to bite. Geoeconomic fragmentation and the effects of climate change will add to these problems. In emerging European economies, a failure to raise growth could further delay income convergence with the continent’s advanced economies.

So, what can policymakers do to address them?

Price and fiscal stability are paramount for countries to prosper in a shock-prone world. Governments need to also tackle longstanding growth problems by creating more flexible and adaptable economies.

Let me tackle these challenges one by one:

First

Ending inflation. Experience from past inflation episodes cautions against easing too early. A central risk to the forecast is higher and more persistent inflation. Wage growth could prove to be faster than we assume in our baseline projections. This would push up labor costs and result in higher prices.

We recommend that central banks should maintain a restrictive monetary policy stance for as long as necessary to secure price stability. In economies where the current monetary policy stance is loose, policy rates may need to be raised or kept high for longer.

Second

Governments need to re-build or maintain fiscal buffers. In the first instance this means that extraordinary fiscal support should be unwound. But for many countries more ambitious fiscal consolidation is needed, especially where debt ratios are high or rising. This will require cuts in spending in non-critical areas, better spending targeting, and elimination of tax inefficiencies.

Third

Financial policies should pre-emptively address pockets of financial strain. Banks profits were boosted by cyclically rising net-interest-margins. These should be retained by increasing capital buffers. In this way banks build resilience against cyclical and structural risks to their real-estate credit portfolio, especially where housing and commercial real estate prices have fallen. Bank windfall taxes should be avoided as they distort the allocation of credit.

Finally,

Structural policies need to address the scars left by the recent crises and tackle longstanding growth problems. A core problem is Europe’s weak productivity growth. Reforms should focus on removing barriers that stand in the way of economic innovation and dynamism. State aid rules should not be softened, and the integrity of the EU’s single market maintained. Improving worker training and skills matching will be particularly important to facilitate the green transition.

CESEE countries need to focus on closing investment gaps in infrastructure and human capital. This will help attract inward investment and boost growth.

Let me summarize.

European policymakers need to remain focused on defeating inflation.

Restoring price and fiscal stability are paramount for countries to prosper in a shock-prone world. But Europe also needs to tackle well-known structural reform agenda in order to secure strong and green growth over the longer term.