ECB chief tells top economies, fix budgets now not later

23rd July 2010, Comments 0 comments

European Central Bank president Jean-Claude Trichet launched an outspoken warning to top industrialised countries on Friday to cut spending and tax now, not later for fear of derailing their economies.

Trichet chose his moment to speak out, notably disagreeing with the United States in remarks in the Financial Times, just hours before publication of a vital "stress test" report on the ability of European banks to withstand a new crisis.

But he said action to correct public finances must be accompanied by strucural reforms to raise the efficiency of leading industrialised economies.

"Now is the time to restore fiscal sustainability," the ECB chief wrote in commentary published by the Financial Times, as the global economy recovered.

Trichet and other top EU officials have sent strong messages that overall these tests will say European banking is healthy, even though some banks may fail.

One of the criteria for judging the banks is how they would cope if recovery stops and there is another severe downturn, and another concerns how they would cope if their holdings of government debt were hit by a loss of condidence on bond markets.

The thrust of his remarks to the newspaper confronted those who argue that radical action by many governments now to fight deficits and debt could stop recovery, just hours before a vital report on European banks is published.

Trichet said he was reassured by a consensus on the need to unwind measures taken to prevent the great recession of 2008-2009 from becoming a depression, but noted that "the timing remains disputed."

US President Barack Obama and Federal Reserve chief Ben Bernanke have called for prolonging economic stimulus until a recovery is fully established, and some economists also feel fiscal tightening will choke off growth.

"I disagree with both these views," Trichet wrote.

ECB figures show that "the volume of taxpayer risks earmarked to support the financial sphere," including fresh capital for banks, credit guarantees and the taking on of bad loans, "was as high as 27 percent of gross domestic product (GDP)," he noted, on both sides of the Atlantic.

Now, "we expect governments to confirm their determination to consolidate their public finances," Trichet said.

He argued that this would not stifle growth for several reasons, the first being that when combined with "comprehensive reform," spending cuts in particular, it has not proven very costly in the past.

Second, the ECB chief felt classic economic models may no longer be reliable and said: "My understanding is that an overwhelming majority of industrial countries are now in those uncharted waters, where confidence is potentially at stake.

"Consolidation is a must in such circumstances."

Finally, constant high levels of borrowing might prevent officials from using emergency fiscal stimulus in the future in response to fresh economic shocks, Trichet said.

© 2010 AFP

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