IMF says universal supports are difficult to justify

Thursday 19 July 2012 16.50
The IMF recommends a deeper integration in the Euro area
The IMF recommends a deeper integration in the Euro area

In a report on Ireland the IMF says maintaining universal supports and subsidies is difficult to justify in current circumstances.

The IMF says further help from Europe is needed to weaken the links between the banks and the state.

In a review of Ireland's economy the fund says a comprehensive targeting of government spending is needed.

It calls for better targeting of child support medical card and non means tested pensions can result in significant savings.

It also calls for a broader tax base with reliefs targeted at low income earners. It says the property tax planned for next year should be set at a "suitably high level".

Earlier, the IMF said the euro zone crisis has intensified, and is now at a critical stage.

In a hard-hitting report on the euro area, the IMF called on governments to show a shared and unequivocal commitment to deeper integration in the euro area.

This would include the creation of a banking union to deal with problem banks at a European level, structural reforms to raise growth, and more fiscal integration, including a common debt and stronger governance.

It said "the deepening of the crisis suggests that its root causes remain unaddressed. Economic and Monetary union lacks the basic tools that can break the adverse feedback loops between sovereigns, banks and the real economy".

It said the euro area lacks ambitious policies to boost economic growth.

In making the case for a banking union, the IMF says the Euro area is in an uncomfortable and unsustainable halfway point.

"While it is sufficiently integrated to allow escalating problems in one country to spill over into others, it lacks the economic flexibility or policy tools to deal with these spillovers".

It says a deposit guarantee scheme, a strong regime for resolving failing banks, and a single bank supervisor for the whole Euro area are the essential parts of a banking union.

It says the costs of resolving failing banks should be paid by a levy on the banking industry, with the use of ESM funds in the short term.

The IMF also says Euro area states need to pool sovereignty further to create a fiscal union.

This would have the financial resources to share risk and give financial support to states that were hit by economic shocks.

However this would require countries giving up some powers over budget policy, and would probably mean some form of tax authority over the whole region by a centralised authority, which would also have supervisory power over member states to make sure they stick to agreed budget policies.

Recognising this would mean a big change to the European Union as we know it, the IMF says a clear roadmap of changes and public debate would help.

The report states: "Ultimately helping countries smooth adjustment to adverse shocks might require large resources at the centre. But reaching this point will imply a form of political union with a substantial reorientation of sovereignty and burden sharing, requiring changes to the EU treaties and national constitutions".

It says "Fiscal integration means stronger governance arrangements that help ensure fiscal behaviour in accordance with commonly agreed standards."

It says the recently introduced Fiscal Compact and the so called "two pack" measures currently going through the EU legislative process, are steps in this direction.

But it says the Euro area lacks the essential financial and fiscal policy tools to stabilize the monetary union.

In an Article IV report on the Euro area, the IMF says there are strong factors working against growth in the region, including much tighter financing conditions, lack of confidence and fiscal consolidation.

It says these headwinds will be made worse by banks and households repairing their balance sheets, and consumers becoming more cautious.

In its economic outlook for the year it says economic activity has weakened and will stay weak in the Euro area, particularly in the so called periphery countries.

The IMF says it could get worse, with big implications for the region and the global economy.

In particular it highlights the link between weak banks and weak sovereigns which could further weigh on confidence and public debt trajectories.

It says the potential failure of a systemically important bank could also make the situation dramatically worse.

It says major policy actions - such as the ECB's recent interest rate cut - have averted an even more rapid escalation of the crisis.

The IMF welcomes last month’s decision by EU leaders to break the links between failing banks and national governments - but stresses the policy proposals must be implemented in full.

In particular it calls on Euro area governments to press ahead rapidly with plans for a banking union.

In country specific recommendations for Ireland, the IMF calls on the Government to accommodate a revenue shortfall if growth weakens notably in 2012 to help protect the fragile recovery.

It also wants the Government to specify the measures to underpin the 2013 - 2015 fiscal consolidation by the time of the next budget, including "the targeting of social welfare".

Other points noted in the report

The IMF has further said that the Irish authorities have made impressive progress to restore stability in the face of an exceptionally deep banking crisis.

It says the fall in the cost of borrowing reflects this as does the recent return to the markets and continued foreign direct investment.

The Fund said that major challenges remain, with public debt expected to be 116% by the end of the year. Growth is needed to outpace unemployment, weak consumer demand and Government cuts.

The IMF says that success will hinge on euro area stability and recovery and European support.

Despite an increase in competitiveness, the wider economic backdrop will be crucial. It welcomed the commitment to euro zone leaders to break the cycle between bank debt and sovereign debt.

The review notes that reforms of the banking sector have made substantial progress and that fire sales have been avoided. It says however that halting a drop in the value of the banks' assets, restoring profitability and regaining access to market funding is key to the resumption of lending to customers. As part of returning to profitability it says the banks will need to reduce operational expenses as their cost structures are too high.

The IMF say steps should be taken to deal with non-performing loans to SMEs in the same way that mortgage arrears are being addressed.

This, the IMF say is crucial to aid job creation. It notes that the new insolvency law should complement the moves on mortgage arrears to work effectively.

While the Croke Park agreement has delivered savings, the IMF says that continued monitoring of the pay and pensions bill is necessary, as are "deeper reforms" in health in higher education.

The IMF notes the numbers of high level of long-term unemployed and says that this should be factored into the numbers receiving housing benefits by introducing a means-tested housing assistance payment.

Keywords: imf