1

High Debt, Slow Growth, Financial

Instability, Growing Inequality:

What Role for Economic Policy?

Paul van den Noord

Counsellor to the Chief Economist, OECD

2

“Central” projection

Source: OECD (Pre-Cannes G20 release) and national sources.

growth, annualised, in per cent

3

Near term outlook

• The economic outlook is highly uncertain

Heavily dependent on policy decisions in the euro area and the US.

With continued but not decisive policy intervention (baseline scenario): very weak OECD growth in the near term.

In the absence of comprehensive and preventive policy action (downside scenario): deep recession in the euro area with negative effects elsewhere.

4

The sovereign crisis in Europe

0

50

100

150

200

250

300

350

0

50

100

150

200

250

300

350

Jan

-10

Ap

r-1

0

Jul-

10

Oct

-10

Jan

-11

Ap

r-1

1

Jul-

11

Oct

-11

Italy

Greece

Ireland

Portugal

Spain

0

5

10

15

20

25

30

0

5

10

15

20

25

30

Jan

-10

Ap

r-1

0

Jul-

10

Oct

-10

Jan

-11

Ap

r-1

1

Jul-

11

Oct

-11

France

Austria

Belgium

Netherlands

Sovereign bond spreads over German Bunds - basis points

5

Intra euro area competitiveness

Unit labour costs, 2000 = 1

0.9

1

1.1

1.2

1.3

1.4

1.5

1.6

0.9

1

1.1

1.2

1.3

1.4

1.5

1.6

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Germany

France

Ireland

Portugal

Spain

Greece

Italy

6

Euro area crisis

• S&P down-graded ratings of nine euro area countries.

• ECB three years facility provides some relief.

• Substantive policy action is required:

1. Urgently put in place credible and adequate financing backstop.

2. Urgently need resolution of debt crisis in Greece.

3. The banking system needs to be strengthened without excessive deleveraging.

7

Confidence deterioration can lead to a downside

scenario

Source: OECD calculations.

-4

-2

0

2

4

6

8

10

-4

-2

0

2

4

6

8

10

2012 2013 2012 2013 2012 2013 2012 2013

United States Euro area Japan China

Baseline

Downside scenario

Intensification of euro-area crisis and excessive US fiscal consolidation

8

A confidence bridge can lead to an upside

scenario

Source: OECD calculations.

0

2

4

6

8

10

12

0

2

4

6

8

10

12

2012 2013 2012 2013 2012 2013 2012 2013

United States Euro area Japan China

Baseline

Upside scenario

Euro-area debt crisis successfully defused

9

Public debt has soared

10

Growth is slower because of higher debt

11

Empirical evidence on debt and growth

• Debt becoming more burdensome above certain levels

– OECD estimates: interest rate effects larger at gross debt

levels above 75 % of GDP (4 bps per %) .

– OECD estimates: reduced stabilisation effect (stronger saving

offset) above 75 % GDP

– Reinhart and Rogoff: lower growth at debt levels above 90 %

of GDP

– Cecchetti, Mohanty and Zampolli: lower growth at debt levels

above 85/95% of GDP

– Our own estimates: growth significantly lower at debt levels

exceeding 66 % of GDP

11

12

A daunting task

-4

-2

0

2

4

6

8

10

12

-4

-2

0

2

4

6

8

10

12

SWE

CH

E

DN

K

LUX

HU

N

BEL

DE

U

KOR

ITA

FIN

AU

T

NLD

CA

N

CZE

NZL

ESP

AU

S

FRA

ISL

PR

T

SVK

GR

C

PO

L

GB

R

IRL

JPN

USA

Projected 2010-12 consolidation

Additional consolidation required after 2012

Required improvement in underlying primary balances, percentage points of GDP

13

A new challenging environment for economic policy

The crisis has dramatically changed the

macroeconomic landscape, especially in advanced

economies

Growth is lower;

Public debt is (much) higher;

Fiscal space is smaller;

Sovereign debt and banking fragilities interact;

Monetary policy is operating at the zero bound;

Inequality is growing

14

The good, the bad and the ugly

15

The good, the bad and the ugly

Dividing by D yields:

A = good B = bad Area right of B: ugly

16

The good, the bad and the ugly

Germany: debt ratio falls, growth higher

Greece: debt ratio increases, growth contracts

17

The good, the bad and the ugly

Greece: structural reforms pushes the economy in the stability range

18

Growth impact of structural reforms

19

Growth impact of structural reforms

20

Structural reform and inequality

• Cutting tax expenditures (mostly benefitting the well-off) and marginal tax rates contributes to equity and growth objectives. •Shifting the tax mix away from labour towards consumption improves incentives to work and save, but raises inequality.

21

Thank you!

Paul van den Noord

Counsellor to the Chief Economist, OECD