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February 5, 2019
February 5, 2019
Ladies and Gentlemen,
It is a great pleasure to address you today and to share with you some views on key economic challenges for both the US and Europe.
It is an honour to be here in Harvard during my first official visit to the United States since becoming Vice‑President of the European Commission.
I would like to particularly thank the Centre for European Studies and Doctor Christian Ketels, of Harvard Business School, for this opportunity to address you.
Current Economic Situation
Looking at the world economy today, we can breathe a little sigh of relief. Globally, things are on the up. Here, in the US – the economy looks strong. GDP growth should be above 3% this year. The world’s second biggest economy – China – is set to grow by around 7%.
Where does Europe stand today?
After a deep and double-dip recession, a moderate recovery started in 2013.
Recovery in the euro area is progressing: GDP growth is projected at 1.3% this year and 1.9% for next year.
Green shoots are also slowly appearing in the creation of jobs.
EU unemployment has dropped to single digits: 9.8% for the European Union of 28 Member States. However, it remains in double digits at 11.3% in the euro area of 19 Member States.
Still, this is the lowest unemployment rate in the euro area since May 2012. Importantly, employment has started to rise both in the EU and in the euro area.
Inflation is very low, but it is driven mainly by external factors such as the fall in oil prices. So, we expect inflation to gradually return to normal.
External factors such as the drop in oil prices and global growth are helping EU economy. But above all – recovery from a deep crisis as the one we have seen requires decisive action from economic policy makers.
Genesis of the Crisis
Given the depth of the recent crisis, decisive action is necessary.
The crisis put the endurance of our economies to their greatest test since the Great Depression and World Wars.
The bursting of the US subprime bubble in 2007 and the fateful collapse of Lehman Brothers a year later led to a fully-fledged global financial and economic crisis.
When the crisis struck, it painfully exposed the economic weaknesses in Europe. Weaknesses that were already present in many EU countries. Some saw fragilities in their financial sectors. Some others had toxic combinations with very high public and private debt levels, bursting real estate bubbles and weak balances of payments.
An additional factor was the EU economy being very open to the world. About a quarter of the euro area’s GDP comes from export of goods and services. That is twice as much as what US exports represent. This, of course, leaves Europe more vulnerable when global trade slumps.
The crisis also exposed weaknesses in the design of the Economic and Monetary Union. It was not equipped with the necessary tools to properly tackle this kind of economic downturn.
Addressing the Challenges / Weaknesses
So what did Europe do?
Since 1998, Europe has a common currency – the euro.
Today, the euro area has 19 members and is set to expand further. But the economic and monetary union associated with the euro area did not have an effective framework in place to monitor and to correct economic imbalances quickly.
So during the crisis, we had to tackle economic imbalances in different Member States on an ad hoc basis. We had to create from scratch some economic policy-making structures that you – in the US – take for granted.
We’ve taken a number of decisive steps – and there are more to come. Now Europe is much better equipped to meet future challenges!
First, Europe has come a long way in reinforcing the economic policy coordination. The existing fiscal surveillance structures have been substantially strengthened. Surveillance mechanisms were also widened to include the monitoring of macroeconomic imbalances.
We now have an annual fiscal and macroeconomic governance mechanism – called the European Semester. Fiscal and macroeconomic policies of the EU Member States are closely monitored. Recommendations are issued to correct identified imbalances. In case of non-compliance, EU Member States may be subjected to sanctions.
Second, entirely new financial backstops have been created. These include the European Stability Mechanism. It is a powerful firewall, providing loans to euro area countries in balance of payments difficulties.
Third, we have created a Banking Union. Financial sector regulations have become substantially stricter with higher liquidity and capital adequacy requirements. Banks have been subjected to rigorous stress tests and an asset quality review.
We now have a single European banking supervisor and a European Bank Resolution mechanism. Banking Union has bail-in as a main principle of bank resolution which then reduces the risks for European taxpayers to foot the bill when banks make mistakes.
And it helps to create a stronger banking sector that can increase lending to the economy. Between 2008 and the start of the Banking Union in October 2014, Europe’s 120 largest banking groups raised capital in excess of 250 billion euros.
Fourth, the European Central Bank (ECB) responded decisively to the financial crisis.
Since its creation in 1999, the ECB has worked as a joint European monetary policy maker. ECB has been implementing a monetary policy oriented, primarily, at price stability.
It is defined as inflation below, but close to, 2% – while, at the same time, it supports the EU’s objectives to promote growth and reduce unemployment. Until the financial crisis, the ECB pursued its objective successfully by means of traditional monetary policy instruments.
Since the start of the crisis, the ECB has gradually expanded its activities – as the Fed and other Central Banks around the globe have done. It carried out a broad set of non-conventional asset purchases – including sovereign debt, securitisations and covered bonds – and additional lending programmes.
As a result, it managed to lift Europe out of very low inflation early on in the crisis in 2009. It took decisive action to ensure financial conditions in different euro area countries do not diverge so much as to threaten the effectiveness of a single monetary policy. And it took an even bolder step to purchase much more significant quantities of sovereign debt on secondary markets when inflation expectations were unacceptably low again earlier this year.
If you compare the size of the balance sheet of the Fed and the ECB, it is striking that trends were similar. We saw roughly a doubling of pre-crisis balance sheets by 2008/2009 and a tripling by 2012/2013. After a temporary reduction, the ECB is now working towards these levels again, mainly through sovereign bond purchases, to fight renewed very weak inflation in Europe, while a discussion on monetary tightening is taking place in the US.
Of course, quantitative easing in the EU today works differently than it did some years ago in the US. In the EU, capital markets are less developed than in the US. Today, markets are also actually full of liquidity. One key effect of ECB sovereign bond purchases will be to incentivise investors to replace their sovereign bond portfolios with other investments. This should, in turn, improve financing conditions in the economy.
I would add that US quantitative easing was part of a broader trend, while we expect today monetary tightening outside Europe.
Looking to the Future: AGS priorities
Ladies and Gentlemen,
Europe’s recovery has not been easy, and it is still fragile. What we need to do now is to cement this recovery.
The strength of Europe’s recovery will depend on our Member States putting in place a common growth strategy.
A growth strategy, which is based on three main priorities: investment, structural reforms and fiscal responsibility.
Let me elaborate on these while highlighting the differences between the EU and US economies.
First, investment in Europe did not recover as fast as in the US. The level of investment in Europe is still substantially below its longer-term “sustainable” level of around 20-21% of GDP.
Here, in US, companies are regularly financed by corporate bonds or equity. European companies rely heavily on bank financing. This difference proved critical during the banking crisis.
Furthermore, US businesses entered the crisis with far lower corporate debt levels than their European counterparts. Investment rebounded as early as 2011, when the US economy started to pick up again.
Also in the US, debt repayment by the average US business or household was made more rapidly than in Europe. This smoother deleveraging meant credit continued to flow into the US economy. Household consumption has a huge impact on growth, so the US economy gained a substantial tailwind here.
The European Commission recently launched an important initiative – the EU Investment Plan. The aim of the plan is to mobilise €315 billion of public and private investment over the next three years.
A European fund for Strategic Investment will support projects in areas such as infrastructure, research and innovation. A substantial part of the Plan will be directed to support lending for small and medium sized enterprises.
We are now working to diversify sources of financing for the real economy. In addition to bank lending, we should work to provide financing from capital markets. The Banking Union will be complemented by Capital Markets Union, a single market for capital for twenty-eight countries. This will help to create the conditions that are necessary for strengthening the role of capital markets in financing the real economy.
Boosting investment alone, however, is not enough. It will only result in jobs and growth if we combine it with structural reforms to strengthen the competitiveness of the EU economy.
This leads me to the second priority. The European Commission has a renewed focus on structural reforms, both at the EU and national level.
At EU level, it is about strengthening the EU internal market, especially in areas like services, energy and digital market. It also means better regulation, doing at the EU level things with clear European value-added.
But the main responsibility for structural reforms lies with Member States. At Member States level there are country specific reform agendas, which the European Commission is coordinating.
There are some common problematic areas in many Member States.
For example, labour markets. In the US, the labour market is both more flexible and mobile.
In the EU, labour markets need to be more dynamic and open to new technologies and working methods. In many countries, we need to address the problem of a segmented labour market – with strongly protected jobs for some and very weak protection for others – mainly newcomers to labour market.
The result is very high youth unemployment in several EU Member States. Youth unemployment is one of the most pressing social problems today. In the EU, we have already created programmes such as the Youth Employment Initiative to provide employment or training for young people.
As regards structural reforms, especially labour market reforms, social partners – employers and employees have an important role to play. They are well-placed to ensure the right balance between economic opportunities and good employment conditions.
Other examples of structural reforms at Member State level include improving the business environment; ensuring the long-term sustainability of their social systems, taking into account the ageing population; shifting the tax burden away from labour to other tax bases that are less detrimental to growth.
These reforms – adapted to the national context – are essential if all Member States are to grow again.
A business-friendly environment, well-functioning markets and cutting red tape are the best preconditions for investment to rebound. As you know from the US experience, market integration between states can contribute a great deal to improving market functioning and creating new market opportunities.
As I already underlined, at European level, we are committed to reinforcing the single market and improving regulation.
We are integrating our energy policy into an Energy Union, and building a Digital Single Market.
In many ways, the Energy Union has been there from the start of the European project. But both climate change and recent geopolitical events have given new urgency to further integration and innovation in the area of energy.
We also want to open up the opportunities of the Digital Single Market for citizens and businesses alike. The US turned to this path early on and has since been a world-leader in the digital area. With the Digital Single Market, the EU can create up to €340 billion in additional growth, create hundreds of thousands of new jobs, and a vibrant knowledge-based economy and society.
Our third priority is fiscal responsibility.
We must ensure financial stability and we should certainly avoid a repeat of the recent sovereign debt crisis. While the heavy lifting in terms of EU fiscal consolidation is now behind us, high debt levels remain a drag on growth in many EU Member States.
There are still significant differences between EU countries. While Estonia has the lowest public debt level in the EU – just over 10% of GDP, Greece has now reached 176% and Italy is near 132%.
Overall in the euro area we expect a broadly neutral fiscal stance this year. What we need now are responsible and growth-friendly fiscal policies that give priority to investment and other areas supporting growth.
We need to take into account different situations in different Member States. Member States with excessive deficits need to continue their adjustment, while those with available fiscal space should use it to stimulate investment and the consumption side of the economy.
Tax systems need to be fairer, with tax fraud and evasion tackled decisively, while the tax burden on labour should be reduced.
Reforms are already paying off in several EU countries. Those that followed the reform path – like my own country – Latvia – or Ireland, or Portugal, are now among the fastest-growing EU economies.
We also need to take decisive steps to raise Europe’s growth potential. This particularly applies to investment, and on structural reforms, while maintaining fiscal responsibility.
They are also necessary to keep the economic and monetary union strong in the long run.
We need a stronger, deeper economic and monetary union with a fully-fledged common economic policy.
By deepening the economic and monetary union, we can strengthen it to withstand future shocks. It is also the path to a real economic convergence. I already mentioned several elements which are already in place – strengthened fiscal and macroeconomic governance framework, financial backstops including ESM and the Banking Union.
With an eye to the longer term, we need to forge a common understanding of what is missing in the institutional architecture for a stable and prosperous economic and monetary union after the recent major reinforcement.
Our guiding principle of deeper integration is that any further risk-sharing needs to go hand-in-hand with increased decision-making powers at the European level. And this can be only achieved through a profound democratic process.
Ladies and Gentlemen,
It is clear to us in the EU that when we work together, taking concerted action, we are indeed greater than the sum of our parts. The same rings true for our Trans-Atlantic partners. We both know that the pursuit of lasting economic growth and success takes us beyond our borders. If the global economy is to grow, then we – as the world’s economic leaders – must grow together.
In fact, the EU and US are already each other’s biggest markets when it comes to trade. The very volume of trade between us – over €720 billion a year – means we can make big gains by tackling the remaining barriers to trade between us.
The Trans-Atlantic Trade and Investment Partnership, better known as TTIP – is therefore extremely important for both sides.
These talks – a round of negotiations taking place in New York City right now – are paving the way to a deal between the two largest and most advanced economies in the world. Striking this deal would help us to facilitate global recovery and growth together.
In the current geopolitical context, we are committed to get a deal that opens markets for goods, services and public procurement on both sides of the Atlantic.
We want to improve our cooperation on regulatory issues. We hope the deal delivers results on non-tariff barriers for key sectors of our economy. It is important that we address the diversification of energy supply sources by ensuring access to US gas and crude oil.
I mentioned the current geopolitical context. Indeed, in Europe, we see serious problems in both our southern and eastern neighbourhoods: turmoil in the Middle East and Northern Africa. Conflict in Eastern Ukraine.
The conflict in Ukraine is right on Europe’s doorstep. It is having direct repercussions for us. If the Minsk Agreement is not fully implemented by all parties, we could be facing the very real risk of further escalation and widening of the conflict. Europe and the US must not let this happen.
This is where we – the EU and US – should reinforce our joint resolve, both by building on our common values and demonstrate leadership together. The EU and US should take joint action to support Ukraine in its efforts to build a secure, stable and economically developed country in the EU’s neighbourhood.
Ladies and Gentlemen,
To conclude, I would reiterate my belief that we have much to gain – and learn – from working together.
Together with the US, Europe shares a vision of democracy, prosperity and peace. Together we can recover, and be stronger than before.
Thank you very much for your attention!