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The COVID-19 pandemic has led to severe socio-economic dislocations and hardship. Supported by an unprecedented policy response and by the easing of lockdown measures as the infection rate moderated, the euro area economy initially recovered strongly from the pandemic’s first wave. However, a large second wave and reimposition of containment measures suggest much slower growth momentum in the near term. The outlook is for a subdued economic recovery and low inflation, with a significant permanent output loss relative to the pre-crisis trajectory. Uncertainty remains extremely high, mainly due to different pandemic scenarios, including regarding the availability and effectiveness of potential vaccines and therapies and behavioral changes. Output growth is expected to be much lower through 2021Q1 than projected in 2020 October World Economic Outlook (WEO) but may rebound beyond then in light of recent promising news on vaccine development. The key policy challenge is to continue countering the pandemic while facilitating a robust and inclusive recovery, including by addressing the health crisis, containing economic scarring, supporting resource reallocation and transformation to greener and more digital economies, and limiting the crisis’s impact on inequality and poverty. In a downside scenario, sizable further stimulus would be needed.

Euro Area

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This paper highlights the factors that limit or increase cyclical divergence in the euro area and reviews one policy area that is important in fostering a speedy adjustment to shocks: the transmission of monetary policy via the housing market. A high interest rate sensitivity of housing markets is beneficial as monetary policy is more powerful in damping cyclical fluctuations overall in the euro area. However, housing and mortgage markets still differ widely, leading to asymmetric behaviour of individual countries. Large differences exist in home-ownership rates, financial markets, taxation and supply constraints. Moreover, it is important to have a financial system that can withstand asset price bubbles. In this context, the procyclicality of bank provisioning is of concern as it could lead to a credit crunch and reinforce a downturn. Prudential supervision across the area has become better co-ordinated, but still remains fragmented.

Economics --- Euro Area

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Although there is no single yardstick to gauge the degree of integration, there is ample evidence that financial markets in the euro area have some way to go before national demarcation lines will effectively disappear and financial market integration is satisfactory. While there has been a push towards integration from the centre, global developments, such as advances in information technology, falling communication costs and standardisation of products, have been the main drivers, while national policies often acted as an impediment. The integration of financial markets finally became a policy priority with the adoption of the FSAP as part of the Cardiff process launched in 1998. For the European Union to have a fully satisfactory regulatory framework for financial markets in place in 2005, further efforts are needed. This paper takes stock of current developments and proposes a set of further suggestions for policy action ...

Economics --- Euro Area

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This paper considers the increase in current account imbalances in euro area countries since the early 1990s. While the euro area as a whole has remained relatively close to external balance, the current account balances of individual countries have diverged: Spain, Greece and Portugal ran large current account deficits by historical norms for industrial economies, while Germany and the Netherlands ran large surpluses. These imbalances are larger and more sustained than those observed in recent decades. While there has been extensive discussion of the US and Chinese external positions in the context of the debate on global imbalances, more attention has been given to the developments in the euro area only in the wake of the recent sovereign debt crisis. This paper uses a period-average model estimated on data for OECD countries since the late 1960s to investigate the determinants of current account imbalances. Fundamental economic factors are found to play an important role, in line with earlier studies, but do not fully explain the extent of imbalances over the past decade. The strength of housing investment appears to capture important effects over this period. This working paper relates to the 2010 OECD Economic Survey of the Euro Area (www.oecd.org/eco/surveys/euroarea).

Economics --- Euro Area

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The euro area financial system took excessive risks during the global credit boom, which in some countries led to an unsustainable increase in credit, higher asset prices and housing booms. This process helped to fuel large imbalances within the euro area. Banks played a key role in channelling funds from economies with large surpluses to deficit countries, leading in some cases to the accumulation of considerable risks for borrowers and lenders. Weaknesses in the regulatory and supervisory architecture contributed to these problems in the euro area, as in other OECD economies. Gaps in microprudential regulation created an environment prone to excessive risk-taking: capital buffers were too small; the quality of capital was inadequate; banks’ models underestimated risks; and risks were shifted off-balance sheet and beyond supervisory oversight. Liquidity risks were not adequately monitored. Systemic risks were allowed to build up as the authorities largely failed to counter the credit cycle. Some large systemic banks contributed to growing imbalances and vulnerability. The decentralised European supervisory architecture was not sufficiently effective in supervising large cross-border institutions. When the financial crisis hit, the co-ordination of cross-border rescues proved problematic and complicated efficient resolution. Stronger regulations are needed to improve financial stability. Effective microprudential regulation is the first line of defence. This should be upgraded by implementing the Basel III capital accord, as has been announced by the EU authorities, and a range of related measures. Some consideration should be given to an accelerated phasing-in. Macroprudential regulation should be significantly developed to mitigate pro-cyclicality and reduce systemic risks posed by large cross-border banks. The creation of the European Systemic Risk Board is welcome. To improve cross-border supervision, the European Banking Authority should have sufficient powers and resources to ensure that a system based on national supervision leads to coherent regulation and effective supervision. In addition, a cross-border crisis-management framework for Europe is needed. Overall, significant steps have already been taken by the EU authorities to address these issues and further reforms are under way. This working paper relates to the 2010 OECD Economic Survey of the Euro area. (www.oecd.org/eco/surveys/EuroArea).

Economics --- Euro Area