MONDAY, 22 JUL 2019



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European Fiscal Board: Cyprus Will Overachieve Its Medium Term Objective in 2019

European Fiscal Board: Cyprus Will Overachieve Its Medium Term Objective in 2019

The European Fiscal Board recommends a neutral fiscal stance in the euro area, with appropriate country differentiation for 2020, in its annual report presented Tuesday in Brussels and discussed at the College of Commissioners.

In its annual report the European Fiscal Board admits that provided advice for 2019 under the prevailing assumption that the strong growth observed until mid-2018 would continue, but this has not materialized and the economy has weakened, in particular in some countries, warning that countries with a very high debt – Italy, in particular – need to bring debt on a firm downward path, calling for building fiscal buffers, to be better prepared to face future downturns.

For Cyprus and Greece it is estimated that, along with other five countries, they will overachieve their Medium Term Objective (MTO) in 2019 and thus have available fiscal space for 2020 (the rest is Germany,Luxembourg, Malta, the Netherlands and Austria).

The EFB warns though that sustainability also remains an issue where the debt ratio is close to or above 100% of GDP: Belgium, Greece, Spain, France and Portugal, where it remains very high and is hardly declining, due to expansionary fiscal policies.

Debt ratios are expected to decline – benefiting from the favourable combined effect of growth and interest rates – in all euro area countries except Italy, where debt is likely to reach 135% of GDP according to the Commission forecast.

It is currently estimated that among the seven, two of the largest euro area economies, Germany and the Netherlands, will be above their MTO in 2019 by more than 1% of GDP.

Countries that have not achieved their MTO (Belgium, Estonia, Ireland, Spain, France, Italy, Latvia, Portugal, Slovenia, Slovakia and Finland) should improve their underlying position as required by the Pact.

Still according to the European Fiscal Board the central scenario for 2020 is that the economy will strengthen again.

Therefore, the European Fiscal Board recommends a neutral fiscal stance for the euro area as a whole, with appropriate differentiation across countries.

In particular, the countries that have not yet achieved their medium-term budgetary objective (MTO) need to progress towards it as required by the Stability and Growth Pact and those with very high debt need to reduce their debt steadily.

By contrast, core Member States with large available fiscal space are advised to use more of it.

Economic growth in the euro area weakened in the second half of 2018. Following a string of negative growth surprises towards the end of 2018, economic activity is now expected to expand at a meagre 1.2% in 2019 on account of both external and domestic factors, according to the Commission 2019 spring forecast.

On the external side, a slowdown in world trade and manufacturing has substantially dampened foreign demand. Escalating trade tensions and a tightening of global financing conditions have been the main contributing factors. A number of temporary domestic factors are also at play in the largest euro area Members: a slump in the automotive sector, social protests and political uncertainty.

The outlook for domestic and external demand is expected to improve. The ongoing slowdown has been concentrated in the manufacturing sector, which is capital intensive, and therefore has had a limited impact on the labour market: net job creation is projected to continue both this year and in 2020, albeit at a slower pace, thanks to a continuing expansion in the services sector.

The unemployment rate in 2020 is forecast to fall below 71⁄2%, the lowest level since the euro’s introduction, and the ongoing tightening in the labour market is supporting wage growth and domestic demand in 2020.

At the same time, global economic activity should rebound in 2020, as emerging economies are expected to benefit from improved financing conditions thanks to a more accommodative monetary policy in the United States going forward.

Overall, economic growth in the euro area is expected to regain some momentum in the second half of 2019, with the economy operating around capacity. Thanks to resilient domestic demand, a pickup in global trade and the abating of negative country-specific factors in the largest Member States, GDP growth is expected to pick up at 1.5% in 2020, according to the Commission. Similarly, other main forecasters expect growth to be in a range of 1.3% to 1.5%.

However, the economic outlook is subject to significant downside risks. The forecasts for 2019 and 2020 have been progressively revised downward, and further negative surprises are possible.

 A flare-up of further trade tensions between the United States and China, and between the US and the EU, would adversely affect external demand and investment.

 The outlook for external demand is further subject to the risk of a weaker-than- expected recovery of emerging economies, particularly China. Substantial uncertainty also remains around an orderly withdrawal of the United Kingdom from the EU.

On the domestic front, a prolonged phase of high sovereign yields in high-debt countries could generate further stress for the banking sector, and lead to a tightening of credit conditions. On the upside, however, business confidence may be more resilient to trade tensions than is currently assumed, and domestic headwinds may dissipate faster than expected. Internal demand could therefore prove stronger than anticipated.

The growth outlook across the euro area is less uneven than in the past. Some country-specific weaknesses, however, remain: at 0.7%, economic growth in Italy is expected to be less than half the euro area average in 2020.

The unemployment rate for next year is also expected to remain highly uneven, spanning from 2.7% in Germany to 16.8% in Greece.

 In particular, unemployment in Greece, Spain and Italy is expected to remain above pre-crisis levels.

The budget deficit in the euro area is set to remain stable at 0.9% of GDP, as deficit- reducing factors are expected to be offset by policy measures.

Three factors are expected to support a deficit reduction on aggregate. First, economic conditions should help improve the budget balance, albeit only marginally.

Second, interest payments are set to decline further, although less than in previous years.

Member States can therefore benefit from these first two factors to improve their budget balances, but to a much lesser extent than what was observed in 2014-2018. Third, expenditure- increasing one-off measures in 2019 are coming to an end in 2020.

Overall, the three factors would entail a reduction of the nominal deficit by 0.3% of GDP in 2020 if they were not offset by new deficit-increasing discretionary measures.

With the exception of Italy, all euro area Member States are forecast to keep their deficit below the 3% of GDP reference value in 2020.


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