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26 March 2018

IMF highlights absence of convergence in the Eurozone

Euro convergence

The economic convergence envisaged by the founders of the eurozone has not happened and Europe’s economies risk growing further apart unless a raft of reforms are implemented, the IMF’s Europe Director told an audience at the ETUI’s Monthly Forum on 22nd March. The IMF’s stance on the growing disparities in the eurozone echoes key findings of the ETUI’s Benchmarking Working Europe 2018 report released in the same week.

Introducing a new IMF Working Paper on the topic, Jeffrey Franks urged eurozone leaders to step up the pace of planned reforms in order to minimize the impact of future crises. He warned that the current reform trajectory did not go far enough, and new instabilities introduced by digitalisation, demographics and climate change would exacerbate old problems to do with the failure to harmonise institutions and business cycles between northern and southern Europe. 

The IMF research showed that, while there had been some convergence in business cycles and interest rates during the euro’s first decade to 2007, the post-crisis period had seen less progress on harmonising inflation rates and productivity. Moreover, from 2008 onwards, large divergences had opened up in other areas of macro-economic performance, notably in the severity of business and financial cycles, and in the productivity performances of certain countries. Germany, in particular, had become something of an outlier in terms of an absence of synchronization of its financial cycle with the rest of the eurozone.  

A key fissure in the eurozone that Franks highlighted was the post-crisis decline in labour productivity in Southern Europe, which he blamed on unemployment and a lack of investment. Although the newer set of eurozone members from mainly eastern Europe, helped by large investment flows, had seen greater convergence with the richer west, Europe was still vulnerable to future economic downturns that would introduce further instabilities into its economies.

Responding to the IMF critique, Gabriele Giudice from DGEcfin pledged that its warnings would be incorporated into the European Commission’s review of EMU governance. But he insisted that the EU took a broad view of the need to build resilient economic structures and said that a key source of instability, Europe’s fragmented bond markets, would be addressed by the EU’s plans for Banking Union and Capital Markets Union. Further action to deepen the single market would also help to bring countries’ economic performances more into alignment with each other.

Sotiria Theodoropoulou of the ETUI criticised the emphasis on structural reforms by the European Commission and the IMF. She pointed out that these largely involved a self-defeating drive to ‘flexibilise’ product markets and workplaces, even though economic research showed that these reduced employee motivation and loyalty. This, in turn, reduced employer’s incentives to invest in their workforces and was the main culprit for the decline in productivity. ‘It’s important that we achieve real convergence’, she concurred, ‘but not just any convergence - we need upward convergence.

Scepticism about the Commission’s priorities was echoed by Katja Lehto-Komulainen, the ETUC’s Deputy General Secretary, who called for the EU’s investment plan to be turbo-charged in order to boost growth and real incomes. All agreed, however, that a belated but welcome convergence of views was emerging around the probable causes of instability and divergence in Europe, although not necessarily over solutions.     

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