BRUSSELS (MNI) – Monetary policy should remain “very supportive”
for the foreseeable future in most European countries, with the European
Central Bank’s interest rates kept “exceptionally low” and its
non-standard support and eased collateral requirements unwound “very
gradually,” the International Monetary Fund said on Wednesday in the
October edition of its World Economic Outlook.

The report also said Europe’s central banks may need to take
additional accommodative action, relying on their balance sheets to ease
monetary conditions, if downside risks to growth should materialize.

The IMF revised up its projections for Eurozone growth this year
and next, bringing it more in line with forecasters at the ECB and the
European Commission. It said inflation expectations in the bloc “are
well anchored.”

“Monetary policy should remain very supportive for the foreseeable
future in most European economies,” the IMF said.

“In the euro area, it is appropriate to keep interest rates
exceptionally low and, given continued financial strain, to very
gradually unwind nonstandard support measures and collateral requirement
changes,” it continued.

It said accommodative monetary policy would help the recovery by
“dampening the adverse short-term effects of fiscal consolidation on
domestic demand.”

“If downside risks to growth materialize, central banks in advanced
Europe may need to again rely more strongly on their balance sheets to
further ease monetary conditions,” the IMF said.

“In advanced Europe, inflation remains low because output gaps are
large, and inflation expectations are well anchored,” the report said.

EUROPE MUST IMPROVE FINANCIAL SECTOR RESILIENCE

“The resilience of Europe’s financial sector must be improved and
its stability secured,” the IMF said.

“Resolving banking sector issues is essential to spur lending,
which is very important to firms’ external funding,” it continued.

“European banks continue to face challenges,” the IMF said. “These
include heavy reliance on European Central Bank financing facilities –
or on government support – and large exposure to risky sovereign debt.”

It said some of Europe’s financial support measures “may need to be
extended, but not at the cost of postponing much needed restructuring.”

“Meanwhile, it will be important to resolve uncertainty about
regulatory reforms, which would help increase banks’ willingness to
supply credit and support the recovery,” the IMF said.

PROGRESS ON CRISIS MANAGEMENT “VERY SLOW”

The IMF called for Europe to speed up its efforts to improve
financial sector crisis resolution and supervision at the European
level.

“Considering the devastating consequences of the crisis and the
magnitude of the challenge, progress is still very slow, hampered by
narrow national interests,” it said, underlining the need for integrated
crisis management and resolution, and integrated supervision.

“The crisis has shown how financial sector problems in specific
countries can very quickly have pan-European consequences,” it said.

And it also pointed out the need for reforms in fiscal surveillance
and sovereign crisis management.

“An arrangement along the lines of the European Stabilization
Mechanism (ESM) is likely to prove useful, but sharing fiscal burdens
implies a need for shared responsibility for fiscal policy,” the IMF
said.

It stressed the need for strengthening Europe’s budget rules, as
set out in the Stability and Growth Pact, saying the rules need to
“feature better incentives for preventing and resolving fiscal
imbalances.”

“It needs to encourage the building up of sufficient buffers in
good times, establish credible procedures for the enforcement of the
common fiscal rules, and beef up centralized crisis management
capabilities – a gap now temporarily filled by the ESM and the larger
European Financial Stability Facility, the latter designed specifically
for euro area members,” the IMF said.

IMF SEES GROWTH DIVERGENCE AMONG EUROZONE STATES

The report noted “pronounced differences” in economic prospects
across Europe, “depending on the condition of public and private sector
balance sheets and the extent to which macroeconomic policies can
support the recovery.”

In Europe, the road to recovery has been bumpy. The sovereign debt
crisis, largely caused by unsustainable policies in some member
countries, erupted in spring, before the euro area’s recovery could gain
traction.

On a country-by-country basis, the IMF said it expects a moderate
recovery in Germany — despite the country’s robust manufacturing
exports “because weak growth is expected among its trading partners.”

Nonetheless, the IMF revised its projections for Germany’s growth
this year up to 3.3% from its July forecast of 1.4% and lifted its 2011
growth forecast to 2.0% from 1.6%.

In France, it said it expects GDP expansion of 1.6% this year, up
from a previous projection of 1.4%, but left its July forecast for next
year’s growth unchanged at 1.6%.

“In France, growth is projected to be modest, as private
consumption is weakened by high unemployment and the withdrawal of
stimulus measures,” it said.

“In Italy, the recovery is expected to be even more subdued, as a
persistent competitiveness problem limits the scope for export growth
and planned fiscal consolidation weakens private demand.”

The IMF revised its forecast for this year’s growth up slightly to
1.0% from 0.9% but said it expected growth in 2011 to be lower, revising
that forecast down to 1.0% from 1.1%.

In Spain, the Fund said it foresees a contraction of 0.3% this
year, slightly lower than the 0.4% contraction it predicted in July. It
forecasts that the Spanish economy will return to growth in 2011,
expanding at a rate of 0.7%, slightly up from its July prediction of
0.6%.

“Constrained by fiscal and competitiveness imbalances, growth in
Greece, Ireland, Portugal, and Spain is projected to be much lower,” the
IMF report said.

“In the United Kingdom, domestic demand is expected to remain
relatively subdued, particularly following the recent measures to cut
the budget deficit,” it said.

–Brussels: 0032 487 (0) 32 803 665, echarlton@marketnews.com

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