WASHINGTON, Oct 20: The International Monetary Fund has cut its economic growth forecast for the 12-nation euro zone for next year to the lowest in almost a decade to take account of economic aftershocks from the Sept. 11, attacks on the United States, IMF sources said on Friday.
In its annual assessment of the euro zone economy, to be released in about two weeks, the international lender will also endorse the European Central Bank’s monetary policy actions to date, but will call for further rate cuts soon, sources on the IMF’s board told Reuters.
The report concluded that there is probably scope for further interest rate cuts soon, one board member said, noting the IMF’s board endorsed the ECB’s monetary policy actions to date. Staff agreed with the ECB that they were on the curve, they are not behind the curve, but that there is probably scope for further cuts coming up soon.
The ECB was praised in the report for liquidity injections and for lowering interest rates in the immediate aftermath of the attacks.
The majority basically said that, everything the ECB has done so far is correct, but there is probably more easing scope down the road, another IMF board member said.
The call for lower interest rates came at a time when many in Europe are already pressing for such a move. The IMF board regularly calls for lower ECB interest rates but European directors at the IMF often take a more cautious stance. However, IMF sources said, at Friday’s discussion many European IMF directors joined the call for lower interest rates.
Earlier, at a one-day summit in Ghent, Belgium, European Union heads of government deleted a call in the draft communique for monetary authorities to take further decisive action because it would have put undue pressure on the ECB.
But the statement still said that reduced inflation would give room for maneuver to monetary policy.
Sources said IMF staff had downgraded growth prospects for the region to 1.7 per cent for this year, down from a September estimate of 1.8 per cent, and slashed its forecast for 2002 to 1.6 per cent from an earlier estimate of 2.2 per cent.
If the IMF’s 1.6 per cent forecast for 2002 pans out, it would mark the worst performance in the region since 1993, when the region’s economy contracted 0.4 per cent.
But staff cautioned the IMF’s board the margin of error could be quite large on its latest growth estimates for the euro zone given the fluid state of economies as the economic effects of the Sept. 11 attacks on the United States continues to unfold.
The report also urges leading European economies to relax fiscal policy — foregoing nominal deficit targets set in Europe’s Stability and Growth pact — to allow them to spend more to bolster short-term growth prospects at a time when all major areas in the global economy are slowing.
Fiscal policy was the biggest issue in the report, which calls on Europe to modify its fiscal policy.
Under the Stability and Growth Pact, economies must meet a nominal deficit target — something that has led most euro zone countries close to fiscal balance. Under the current rule, if economies slow and government revenues decline, fiscal policy must be tightened to keep within the nominal deficit target.
But IMF staff argued in the report that, in the current environment, governments should spend more and not try and meet nominal deficit targets in the short-term, while still maintaining medium-term fiscal targets.
A number of European directors on the IMF’s board objected to that view, saying they should not change rules that had been instrumental in improving the region’s fiscal position in recent years.
Underlying just how difficult the it is to forecast growth in the current climate, economic data released in Germany Friday led some on the IMF’s board to believe that even the latest IMF forecasts may be too optimistic.
Germany’s closely watched Ifo business climate indicator showed its sharpest monthly fall for almost 28 years in the first reading based on data taken entirely after hijacked airliners slammed into the World Trade Center and the Pentagon.
The Ifo survey saw the key western Germany index drop to 85.0 last month from 89.5. The drop was its sharpest monthly fall since the 1973 oil crisis and took it to near eight-year lows. Economists viewed the data as a harbinger of even worse economic news ahead.
With growth in Europe and the United States faltering badly and Japan widely assumed to be in recession, many economists now expect a global recession.
The IMF board Friday stressed its call for a change in euro zone fiscal policy given the unusually synchronized global slowdown.
The IMF’s annual assessment of the euro zone economy was discussed at the lender’s board Friday. IMF reports are typically published about two weeks after board meetings.—Reuters