The economic recovery in the eurozone is fragile, the region’s financial markets too fragmented, and the region risks falling into deflation, according to a report by the International Monetary Fund (IMF).
The IMF urged members to shore up the single currency bloc, repair bank balance sheets and accelerate reforms to boost employment. It repeated a recommendation that the European Central Bank (ECB) should be ready for quantitative easing (QE) should inflation remain subdued.
The Washington-based body concluded after its latest visit to the region that the region’s recovery was taking hold, while action by national politicians and the ECB had helped boost investor confidence. However, the success of extremist and euro-sceptic parties in Europe’s May elections posed risks to the single market and the economic recovery was “neither robust nor sufficiently strong”.
“The recovery is weak and uneven,” the IMF report states. “Inflation has been too low for too long, financial markets are still fragmented, and structural gaps persist: these hinder rebalancing and substantial reductions in debt and unemployment,”
The report was completed last month, before troubles at one of Portugal’s biggest banks triggered a bout of volatility in financial markets. The suspension of shares in Banco Espírito Santo last week triggered a selloff in both European and US markets amid concerns it would lead to a wider run on the eurozone’s debt-ridden banking sector.
While markets have since stabilised following reassurances from policymakers that the problems are contained, analysts said last week’s turbulence was a wake-up call over unresolved problems.
The IMF report highlighted ‘lingering damage’ from the 2008 financial crisis, such as high unemployment, particularly among young people, and said that activity and investment were yet to return to pre-downturn levels. Growth was unevenly spread across countries and the flow of credit to businesses in stressed economies was contracting.
“Weakness in banks” balance sheets and uncertainty about their quality are contributing to fragmentation, constraining the ability and willingness of banks to support credit and investment,” the IMF said.
It now expects economic growth to pick up only a little next year, to 1.5% from 1.1% in 2014, against April’s prediction of 1.2% growth this year. That outlook compares with the IMF’s forecast for the UK economy to grow 2.9% this year and for the US to expand 2%.
Inflation in the eurozone was forecast to remain below the ECB’s target of around 2%. The IMF predicts inflation of 0.7% this year and 1.2% in 2015.
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