Euro Area Recovery on Track but Challenges Remain, Says IMF
The International Monetary Fund (IMF) has concluded its annual mission to the euro area, highlighting a gradual economic recovery following the pandemic, Russia’s gas shut-off, and the war in Ukraine. The IMF’s Concluding Statement points to declining inflation and resilient banks despite rising interest rates, but warns of significant challenges ahead.
The IMF noted that the euro area economy is expected to see a modest growth pickup in 2024, with further strengthening in 2025. This recovery is anticipated to be driven by increasing real wages and household consumption, followed by an investment boost from easing financing conditions. However, the medium-term outlook remains constrained by population aging and low productivity growth.
Inflation is projected to return to target levels by the second half of 2025. The IMF attributes this to the 2022-23 monetary policy tightening, which is expected to continue impacting inflation. Despite a recent slight pickup in wage growth and inflation, the overall trend points towards deceleration.
The IMF suggests that the European Central Bank (ECB) can gradually loosen its monetary policy stance, aiming for a neutral policy rate of around 2.5% by the third quarter of 2025. This approach balances keeping inflation expectations anchored while avoiding overly restrictive policies.
The IMF emphasizes the need for significant fiscal adjustments under the new EU economic governance framework, especially for high-debt and high-deficit member states. These adjustments should be accompanied by structural reforms to enhance growth and resilience. The IMF also calls for the expansion of the macroprudential toolkit to safeguard financial stability.
To tackle the fiscal challenges of aging, the green transition, energy security, and defense, the IMF stresses the importance of boosting productivity. Recommendations include enhancing labor market flexibility, increasing public and private investment in digital technologies, and reducing administrative barriers for firms. The IMF also advocates for further integration of financial markets through initiatives such as the capital markets union and banking union.
Achieving the EU’s climate goals requires significant investment in reducing fossil-fuel dependence and increasing energy efficiency. The IMF suggests the creation of a Climate and Energy Security Facility (CESF) to support coordinated investment in these areas. Additionally, the IMF warns against the negative impacts of national-level state aid and calls for coordinated and temporary use of such measures at the EU level.
The IMF highlights the need for labor market policies that enhance skills, ease labor reallocation, and mitigate the impact of a shrinking workforce. Reskilling programs, unemployment benefit reforms, and support for female labor force participation are among the recommended measures.
The IMF advises the EU to strengthen the single market and avoid distortive industrial and trade policies. National-level state aid should be limited and coordinated at the EU level to preserve fair competition. The IMF also calls for measures to offset the costs of climate action for vulnerable households.
In conclusion, the IMF’s Concluding Statement underscores the importance of well-calibrated macroeconomic policies and structural reforms to support the euro area’s recovery and address long-term challenges. The final report, to be presented to the IMF Executive Board, will provide detailed recommendations based on these preliminary findings.
