Falling yen fails to dent rosy outlook for euro-11

Date: 02/07/1998

By Tim Jones

ONLY a sustained collapse in the rate of the Japanese yen against the ecu will undermine the strong economic growth prospects for single currency zone members over the coming 12 months, according to the European Commission.

In research prepared for a meeting of the 11 euro-zone finance ministers next Monday (6 July), Commission staff are sticking to their March forecast of 3.0% growth in the single currency area this year and 3.2% in 1999.

This is despite the fact that March forecasts assumed an ecu rate of 128 yen and it has since soared to 155 yen, undermining the competitiveness of European exports in Asia and pushing down the price of imported goods from Japan. Officials say the key threshold for altering the euro-11's growth outlook will be a sustained rate of over 150 yen.

Indeed, Economics Commissioner Yves-Thibault de Silguy is so confident that strong growth rates will be maintained that he will once again tell single currency zone finance ministers next week that they should take advantage of the windfall tax revenues to narrow the average euro-11 budget deficit to 2% of gross domestic product this year; down from the 2.4% figure they forecast in March.

"If they fail to do that, they risk not getting the necessary margin of manoeuvre they will need in a downturn," De Silguy told European Voice. "The fact is that the process of budgetary consolidation is not finished yet."

The March forecasts, which were published to coincide with the Commission's call for the creation of an 11-nation currency area, predicted faster growth than had been expected by national treasuries last autumn when they made their budget plans for 1998.

The Commission's analysis concludes that current economic conditions are highly favourable to job creation and capital spending by companies, but warns that wide 'structural' budget deficits (gaps between government revenue and expenditure once the cyclical effects are stripped out) are continuing to squeeze out private sector investment.

Its data show that the average euro-11 structural budget deficit actually widened from 1.9% of GDP last year to 2.1% this year.

De Silguy wants national governments to follow the spirit of the growth and stability pact, which became effective yesterday (1 July), and bring their budgets into balance or surplus during economic boom times.

Although the pact can only discipline members if their deficits widen to more than 3% of GDP, the Commission feels governments should give themselves budgetary leeway so they can respond with increased public spending or tax cuts if their economies dip into recession.

The Commission is careful to avoid naming particular governments, although privately officials have lamented recent fiscal decisions taken by the French, Spanish and Belgian authorities in particular.

"In a way, that is not relevant," said one official. "Considering the overall impact on demand and interest rates, we should take account of the average deficit for the euro-11 rather than individual deficits."

Officials believe that further belt-tightening by national governments could yield spectacular results next year, with the average deficit narrowed from 2.0% of GDP to 1.5%.