13 November 2013

Third Alert Mechanism Report on macro-economic imbalances in EU Member States

What are the findings of this AMR on overall developments in the EU?

The EU economies continue to progress in correcting their external and internal imbalances. These imbalances, notably abundant credit, large and persistent current account deficits and surpluses, loss of competitiveness and accumulation of debt contributed to the crisis. Over the most recent years, there has been progress in several areas. In particular a reduction in deficits, and significant cost competitiveness improvements have been recorded in a number of Member States, stimulated by structural reforms and market pressure. Generally, the correction of imbalances is contributing to a gradual recovery. At the same time, the progressive normalisation in economic conditions is helping to reduce the imbalance-related macroeconomic risks. The growth outlook is now better than a year ago, and progress in re-balancing will open up the way for growth and convergence.

However, the imbalances that aggravated the crisis have reduced but not vanished. There has been little progress in reducing excessive debt, although credit growth has been very low or even negative in many countries; improvement in the net international investment position of the most indebted economies has been slow.

Which countries are identified as warranting an in-depth review in the current AMR?

The current AMR shows that it is necessary to analyse in further detail the accumulation and unwinding of imbalances, and the related risks, in 16 EU Member States. For some countries the in-depth reviews will elaborate on the findings of the previous cycle of the MIP, while for others, it will be the first time that the Commission will prepare an in-depth review. The several Member States for which the Commission intends to prepare an in-depth review have different challenges and potential risks including spillovers on their partners.

Spain and Slovenia were found to be experiencing excessive imbalances in the previous round of the MIP. Therefore, the upcoming in-depth review will assess the persistence or unwinding of the excessive imbalances, and the contribution of the policies implemented by these Member States to overcome these imbalances.

France, Italy and Hungary were found to be experiencing imbalances in the previous round of the MIP and the Commission indicated the necessity of adopting decisive policy actions. The upcoming in-depth review will assess the persistence of imbalances.

For the other Member States previously identified as experiencing imbalances (Belgium, Bulgaria, Denmark, Malta, the Netherlands, Finland, Sweden and the United Kingdom), the in-depth review will help to assess the extent to which imbalances persist or have been overcome. In the logic of the MIP, in the same manner as imbalances are identified after the detailed analyses in the in-depth reviews, the conclusion that an imbalance has been overcome should also take place after duly considering all relevant factors in another in-depth review.

In-depth reviews will also be prepared for Germany and Luxembourg in order to better scrutinise their external position and analyse internal developments, and conclude whether either of these countries is experiencing imbalances.

Finally, an in-depth review is also warranted for Croatia, a new member of the EU, given the need to understand the nature and potential risks related to the external position, trade performance and competitiveness, as well as internal developments.

In the case of some countries like Germany the report refers inter alia to the high current account surplus. Isn't a current account surplus a good thing?

Current account deficits and surpluses are not necessarily imbalances in the sense of developments which are adversely affecting – or have the potential to affect – the proper functioning of economies of the Economic and Monetary Union, or on a wider scale. Deficits and surpluses are a natural consequence of economic interactions between countries. External borrowing and lending allows countries to transfer consumption over time. A country with a current account surplus transfers consumption from today to tomorrow by investing abroad. In turn, a country with a current account deficit can increase its consumption today but must transfer future income abroad to redeem the external debt, by consuming less than it produces. The current account surplus or deficit corresponds to exports minus imports plus the net income flow (like interest and dividends paid to and received from abroad) and net current transfers (like migrants' remittances). The current account can also be calculated as the difference between domestic savings and domestic investment.

Therefore a surplus in the current account means that the country is generating more savings than it is investing domestically or, equivalently, that domestic income exceeds domestic consumption and domestic investment. This implies that the country is investing abroad, exporting capital and, as a result, accumulating foreign assets (i.e. credits, foreign direct investment, etc.) vis-à-vis the rest of the world.

However, surpluses can also be the result of incorrect expectations, mispricing of risks, or market distortions, or they may reflect misguided policy interventions or weaknesses in financial supervision. These market or policy failures imply a misallocation of resources and a build-up of imbalances and vulnerabilities in both surplus and deficit countries. The misallocation of resources will entail welfare losses also in the surplus countries. In these cases, it would be in the interest of these countries to reduce their surpluses, by removing the obstacles hampering their domestic demand.

So are current account surpluses as problematic as current account deficits?

In general the risks are higher for current account deficits than for current account surpluses, because the former raise concerns about the sustainability of the external debt of a country. But this does not mean that surpluses cannot be the result of inefficiencies or constitute an imbalance, especially when they are large. Surveillance under the MIP covers both current account deficits and current account surpluses. The asymmetry in the scoreboard reflects the fact that the risks related to deficits are higher, as the threshold is 4 per cent of GDP for current account deficits and 6 per cent of GDP for surpluses.

What is the level of the German current account surplus?

In the case of Germany the scoreboard indicator defined as the three-year average of the current account balance is 6.5 per cent and therefore above the indicative threshold of 6 per cent. Following statistical revisions, the indicator has exceeded the 6 per cent threshold of the scoreboard in the AMR each year since 2007. Latest data, together with the Commission’s Autumn Forecast, suggest an annual surplus in 2013 at the same level as in 2012: 7 per cent of GDP. Looking ahead, the surplus is expected to remain above 6 per cent over the forecast horizon until 2015, thus suggesting that it is not a short-lived cyclical phenomenon. The German current account surplus is one of the largest in the world in absolute terms and a main factor behind the current account surplus of the euro area as a whole (the other being that the deficit countries had to reduce their excess consumption due to market pressure).

So what is the Commission recommending to Germany? Decreasing its exports?

No, this is a false assumption. This exercise by no means aims at restraining Germany's competitiveness or export performance. The benefits of German competitiveness and its relevance for growth – for both Germany and the rest of Europe – are undisputed. In general it should be noted that the AMR is not about making recommendations. As mentioned above, its aim is to identify countries that warrant an in-depth review.

A closer analysis is deemed appropriate in order to investigate the nature of the German current account balance, the specific factors behind its level and persistence, and the role that domestic policies can play in promoting domestic demand. It is only on the basis of the in-depth review that the Commission will conclude whether imbalances exist and put forward the appropriate policy recommendations.

However, it is obvious that the large surplus reflects higher savings than investment in the German economy. The household saving rate is among the highest in the euro area. Despite the second-lowest share of private sector debt to GDP in the euro area and favourable interest rate conditions for credits, the private sector has continued to decrease its indebtedness – albeit at a reduced pace – thus failing to support a more buoyant private sector demand.

An increase in investment and/or reduction in their overall savings could be beneficial for Germany and other surplus countries like the Netherlands, without impairing their competitiveness, all the more so as surplus countries tend to have investment-to-GDP ratios lower than the EU average.

In the context of the 2013 European Semester, the Council of Ministers recommended to Germany to sustain conditions that enable wage growth to support domestic demand, for example by reducing high taxes and social security contributions, especially for low-wage earners. Moreover, it was recommended that Germany takes measures to further stimulate competition in the services sectors including construction, and – among other measures in the field of energy policy – to continue efforts to accelerate the expansion of the energy networks. 

What are the next steps following the AMR?

The conclusions of the AMR will be discussed in the Eurogroup – if they concern euro area Member States – and in the Economic and Financial Affairs Council (ECOFIN) in December. The Commission is also looking forward to the contribution of the European Parliament and key stakeholders. Moreover, the European Council will hold a discussion in December following the publication of the Annual Growth Survey and the AMR with the aim of agreeing on the main areas for coordination of economic policies and reforms.

Taking all the reactions into account, the Commission will prepare country-specific in-depth reviews in the coming months and present them in the spring. This will involve a dialogue with the Member States concerned.

What is the possible outcome of an in-depth review?

An in-depth review does not automatically lead to a recommendation or the identification of imbalances. The Commission's analysis could result in one of three different scenarios shown by the graph below.

Is the Commission expecting the next round of in-depth reviews to conclude that some countries no longer have imbalances?

In this cycle all the 13 countries for which imbalances were identified in the previous cycle have again been selected for an in-depth review. The persistence or disappearance of imbalances will thus be decided after the in-depth reviews in spring. For some countries this will be the third generation of in-depth reviews and risks have been thoroughly assessed and better understood, while in some cases economic conditions have improved and risks are being gradually reduced. Therefore it is possible that for some of these countries imbalances will not be identified again.

Full press release

Alert Mechanism Report 2014

Statistical Annex

Macro-economic Imbalance Procedure scoreboard

© European Commission