Moderate upswing in Euroland

Economic activity in the euro area is recovering. The economy has overcome stagnation, but so far no upswing has materialized. In the second half of last year real GDP grew at an annualized rate of roughly 1½ percent. In contrast with other large industrialized countries economy-wide capacity utilization has not yet increased. Private consumption, which nearly stagnated in the second semester, has remained the major weak point. Private investment, however, has increased for the first time since two-and-a-half years. There have been considerable impulses from abroad; euro-area exports have strongly risen stimulated by the strong upswing in the rest of the world.

Various factors lead us to expect that economic activity will continue to pick up in the course of 2004. Low interest rates continue to stimulate domestic demand. Moreover, the impulses from abroad remain strong. A number of leading indicators suggest that the economic recovery has gained momentum after the turn of the year.

Despite an expansionary monetary policy and the dynamic world economy, real GDP in the euro area will rise only moderately in comparison with earlier upswings. This is due to two factors. First, potential output growth in the euro area has apparently decelerated. Second, fiscal policy especially in the large euro-area economies is not sustainable. As governments do not have a credible consolidation strategy, the tax burden is likely to increase in the coming years. Against this background private households' income prospects are subdued and, as a consequence, private consumption will remain comparatively weak.

Real GDP in the euro area will increase by 1.7 percent this year on average; in the course of the year, however, it will expand somewhat faster than potential output (Table 1). The situation on the labor market will improve gradually from spring on. In the course of next year economic expansion will slow down slightly, also because the world economy will be less dynamic than this year. All in all we expect real GDP to rise by 2.0 percent next year on average. Inflation is expected to remain moderate in both years.