“Europe, the Crisis and the Global

economy”George Alogoskoufis, Minister of Economy and Finance

London School of Economics and Political Science

13 November 2008

Taking notice of a new global economy

• Revolution in information technology

• Globalisation of trade and finance

• Progressive spread of democracy

The diversity of economies and societies

• Cultural, educational, social, political and economic discrepancies remain significant.

The impact of the financial crisis

• Severe deleveraging,

• Malfunctioning credit markets,

• Unprecedented write-downs in asset valuations,

• Generalised risk aversion,

• Threats to the stability of the banking sector.

Global economic governance to be revisited?

The capitalist system to be revisited?

The positive view on globalization

• Economic benefits for everybody,

• Poor countries and low income groups benefit in absolute terms,

• Traditional societies benefit from the modernisation of institutions and the abandonment of traditional social and economic models.

The sceptical view on globalisation

• Benefits are not shared equally among countries or citizens,

• Clear losers in relative terms, and even in absolute terms,

• Poor countries and low skilled workers in rich countries are left behind,

• Social and economic dislocations associated with modernisation may lead to social unrest.

The importance of popular support for any economic or social model

Key questions to be addressed regarding the current crisis

Weaknesses in the global financial system

• Serious regulatory and policy mistakes,

• Underestimated economic risks in the pricing of financial assets,

• Persisting asset bubbles, supported by liquidity abundance,

• Increasing macroeconomic imbalances,

• Inadequate integration of emerging economies to the system of global economic governance.

What makes this crisis unique

The need for appropriate policy responses

• Coordinated monetary, fiscal and trade policies to deal with the risk of a prolonged global recession,

• Social policies to cushion the impact on the poor and the unemployed,

• Policies to restore confidence in the financial sector.

The need for a coordinated policy response

• Without coordination, even the best policies are likely to prove “beggar my neighbour” policies,

• Global problems require coordinated global solutions – in an open world trading and financial system,

• No return to protectionism, • Monetary policies to be coordinated at a global

level, • Fiscal policy coordination - a necessary

prerequisite.

Europe’s response to the crisis

• The response of the European Central Bank

• Europe’s initial assessment of the crisis

• Europe’s role in promoting a coordinated global response

Europe’s response to the crisis• Ecofin Council’s decisions on October 7

– Common principles agreed:• Support for financial institutions must be temporary• Member states to take full account of the interest of

taxpayers• Shareholders to bear the consequences of any

intervention• Governments to change management in troubled

institutions• Management should not retain undue benefits. • Competitors should be protected through state aid rules• Negative spillover effects from country to country to be

avoided.

Europe’s response to the crisis

• Ecofin Council’s decisions (Oct 7) – Main objective: Ensure adequate capitalisation

and liquidity – Increased maximum amount of guaranteed

deposits to 50 thousand euros– EIB support of small and medium sized

companies with 30bn euros

Europe’s response to the crisis

Extraordinary meeting of EU leaders (Nov 7)

– Additional common principles agreed:• No financial institution, market segment and jurisdiction

must escape proportionate and adequate regulation,• The new international financial system must be based on

the principles of accountability and transparency• The new international financial system must allow risks

to be assessed so as to prevent crises,• Give the IMF a central role in a more efficient financial

architecture.

Growth rates in the EU and the euro area

0,2%

1,1%1,4%

0,1%

0,9%

1,2%

0

0.5

1

1.5

2

2.5

3

2008 2009 2010

Euro area

EU

More coordinated responses needed in:

• Fiscal Policy

• Structural Policy

• Trade Policy

The Stability and Growth Pact

• Euro area and the EU to maintain fiscal deficits below 3% of GDP and public debt no more than 60% of GDP.

The Stability and Growth Pact

• Revision of the Pact in 2005– more flexible regarding the time available

for the correction of excessive deficits, – more demanding regarding the attainment

of fiscal balance

The Stability and Growth Pact

• ECOFIN Council’s new decision: more flexible application of the Pact in the current circumstances.

The Stability and Growth Pact

• A number of countries have been, or are expected to be close to the 3% threshold.

The Stability and Growth Pact

• Fiscal policy to be a heavily constrained instrument for countering the contractionary forces that have been unleashed by the financial crisis.

An ideal coordinated fiscal response would probably call for lower fiscal deficits in the US and the UK and higher fiscal deficits in the Euro Area.

The room for fiscal coordination at a European and global level is extremely limited.

The significance of the Lisbon agenda

The role of the European Social Model

The need to revive the Doha round on trade and development

The role of a coordinated measured fiscal stimulus package for the global economy

Structural reforms need to continue

An economic crisis seen not only

as a threat but also an opportunity.