Rising wages may still push prices upwards, meaning Europe faces a “difficult task” in aiming at both price stability and growth, says the IMF.
Europe is now “at a turning point”, says the International Monetary Fund (IMF) in its newest regional economic outlook.
Inflation in the eurozone reached 10.6 per cent in October 2022, but has steadily declined to 2.9 per cent in October 2023.
“Monetary policy action, phasing-out supply shocks, and falling energy prices” caused inflation to fall, says the IMF.
The public and press should avoid “premature celebration”, though, says Alfred Kammer, the IMF’s Europe director.
For one, even though very high inflation is starting to decline, rising wages, especially in Eastern Europe, can still push prices up.
Also, even as economic activity starts to slow, the European Central Bank (ECB) needs to keep interest rates close to their current record high four per cent levels until inflation is under control, he says.
“It is less costly to be too tight than too loose” in interest rates, he warns.
The ECB, which stopped a continuous year of interest rate rises only at the end of October, “is in a good spot” now, he says.
Not properly attacking inflation now risks “additional growth damage in a world exposed to structural shocks from fragmentation and climate change”, argues the IMF.
On top of this, policymakers’ next difficult challenge is “securing strong and green growth in the medium term”, by removing “obstacles to economic dynamism” and upgrading infrastructure, says Kammer.
Most of Europe will see a soft landing, with inflation declining gradually, the IMF expects.
Europe’s more service-oriented economies will recover faster than those with larger manufacturing sectors.
Countries relying more on manufacturing will face lower demand for their goods, and be more exposure to high energy prices.
Europe’s emerging market economies in the east will see “a mild recovery in 2024”. That recovery will vary, depending on how much a countries’ manufacturing depends on energy, the size of its service sector, and how much tensions with Russia have disrupted its trade.
However, even before the last few years, declining productivity growth has caused Europe’s medium-term growth prospects to fall. Ageing populations and limited supplies of labour have compounded the problem too.
Policymakers will need to fight this fall, with policies “that encourage investment and spending on research and development”, which will build “a strengthened business environment” and “enhance competition that increases productivity,” says the IMF.