ECB President Mario Draghi has said Eurozone governments now have scope to introduce tax cuts as part of a package of measures to boost jobs and growth.
Speaking at a conference of central bankers in Jackson Hole, Wyoming, (USA) Mr Draghi said that despite the constraints of high debt levels, and the aftermath of the sovereign debt crisis, European governments have some room to use government tax and spending policy to restart their economies.
He also repeated his statement that the ECB is ready to use "unconventional measures" - widely understood to mean quantitative easing, or increasing the supply of money in the economy - if necessary.
Speaking on the theme "Unemployment in the Euro Area", Mr Draghi said policies to increase spending in the European economy were justified because the risk of permanently higher unemployment levels in Europe was much more serious than the risk of inflation and rising wage costs. It was he said better to "do too much" than too little.
Unemployment in the Euro Area is now 11.5%, compared with 6.2% in the United States, where the Central Bank has run ultra low interest rates for longer than the Euro Area, and engaged in quantitative easing to boost the economy - something the Euro Area has not done.
Mr Draghi said monetary policy "can and should play a central role" in increasing spending in the economy to raise growth and employment levels. He said the package of measures unveiled by the ECB in June should boost demand, but said in light of falling inflation "the governing council would also use unconventional instruments to safeguard the firm anchoring of inflation expectations over the medium term".
The ECB aims for inflation in the Euro area to be close to 2%. It is currently 0.4%, far below the level deemed correct for price stability, and allowing the ECB to take action under its price stability mandate.
But alongside action by the central bank, Mr Draghi said governments needed to act with their own tax and spend policies - where he signalled some easing of austerity is justified. And he said governments needed to introduce changes in the structure of their economies, particularly measures that helped people regain employment quickly, and measures to increase the skill level of the workforce.
Despite the constraints of dealing with the effects of the financial crisis and the recession, Mr Draghi said this could be done within existing Euro area rules in four ways:
"First, the existing flexibility within the rules could be used to better address the weak recovery and to make room for the cost of needed structural reforms.
Second, there is leeway to achieve a more growth-friendly composition of fiscal policies, for instance by lowering the tax burden in a budget-neutral way.
Third, stronger coordination among the different national fiscal stances should in principle facilitate a more growth-friendly aggregate fiscal stance for the euro area.
Fourth, complementary action at the EU level would also seem to be necessary to ensure both an appropriate aggregate position and a large public investment programme."
On the latter point Mr Draghi noted that the incoming European Commission President Jean Claude Juncker is proposing a €300 billion public-private investment programme as a means to incentivise private sector investment in the European Economy.
European governments were recommended to reduce the tax wedge on labour in the conclusions of this years "European Semester" review of budget plans and economic developments.