OREANDA-NEWS. April 18, 2016.

Poul Thomsen, director, European department
Philip Gerson, deputy director, European department
Andreas Adriano, Senior Press Officer, Communications department

MR. ADRIANO: Good morning everybody. Thank you for coming to this press conference of the European Department of the IMF. With us today is Poul Thomsen, Director, and Phil Gerson, Deputy Director. Poul will make some opening remarks and then we will be happy to take your questions.

MR. THOMSEN: Good morning to all of you and thank you for joining us this morning. Before taking your questions let me provide some context on developments in Europe. I will, of course, be happy to fill in the details later.

Let me start with the Euro Area. You will find, if you will look at the forecasts, that our view on the Euro Area is largely unchanged. This, of course, in part good news because we continue to observe moderate but steady recovery helped by low energy prices, accommodative monetary policies, and for the first time in a number of years a slightly expansionary fiscal policy. The numbers are about 1.6 percent [of growth] this year and it will more or less stay there over the medium term. Its down by 0.1 percentage point compared to what we had had before. So not much new there.

In terms of the risks to the forecast, I think theyre familiar to you. The possibility of weaker external condition reflecting the known uncertainties relating to China, emerging markets, primary commodities. In addition, of course, there are some European specific political issues that impart some uncertainties and risks to the outlook. Brexit, the referendum in the UK, is one of them. Clearly uncertainties relating to the refugee crisis, and the question of whether the common policy response is seen as adequate. Theres clearly some potential for affecting sentiments in the Euro Area.

Uncertainties, of course, go in both directions. There is clearly now a sense that the balance of risks have shifted to be somewhat on the downside. I would say that what is our main concern is not so much the risks. We have to be mindful of that, but the fact is that our central scenarios medium term outlook is not very exciting, if you want to put it like that. Its a lackluster medium term outlook. It is, as some others have said, mediocre. By which I mean that it will take a long time for a number of countries in the Euro Area to bring current high rates of unemployment down from what is clearly unacceptable levels at this stage. That comes, of course, at a time when theres already a number of country political tensions that sort of raises questions about the support for reform and good policies. So the lackluster central outlook, reflects chronic weak demand which in turn reflect, in part, unaddressed crisis legacies. We have discussed that before. We discussed corporate debt overhangs, NPLs, disappointing productivity growth.

Now, in view of that, should I say that we have not fundamentally changed our outlook, but Im more concerned about downside risks. You will also not be surprised that our policy recommendations have not fundamentally changed, but we think that there is some increased urgency to addressing and correcting the overall policy mix. I shall not spend much time on monetary policy.

First on monetary policy, we clearly think the ECB is doing the right thing. We are fully supportive of its determination to use all available tools to meet its price stability objective, including the recent measures. On fiscal policy, countries should adhere to the Stability and Growth Pact (SGP), but those who have fiscal space should support demand if needed, ideally by expanding public infrastructure investment. In this regard, to effect the implementation of the EU schemes to support prior investment of the Junker Plan will certainly help.

As we have said in the past, countries with elevated debt levels should certainly save the gains from the interest savings accruing from the ECBs asset purchase program to reduce debt and rebuild buffers. Financial sector priorities should be to complete banking union with a gradual introduction of a deposit insurance scheme with a common backstop, going hand-in-hand with measures to reduce vulnerabilities in the banking system. Here, again, a key issue is that Europe still has too high non-performing loans (NPLs), and as we have emphasized in the past, we are saying more determined policies to reduce NPLs is warranted.

Finally, and I will say certainly not least, structural reforms. We strongly support the need to give more urgency to implementation of structural reform. Youre familiar. Im not going to go into the details. They vary, of course, from country to country. So this is nothing new in what we are recommending on the policy mix. But given that Europe has limited policy space the ECB can do more if its called upon, if needed.

Were not recommending it now. Clearly, too much of the burden is on monetary policy. At the same time, [theres] quite limited fiscal space in a number of countries, so countries that have limited fiscal space should focus on building that space. And above all, we need to boost this lackluster, this mediocre growth potential through structural reform given the increased downside risk. I think that theres an urgency to that to be sure that Europe can react in a timely and effective manner if such risks were to materialize.

Let me just make, before I turn to other parts of Europe, a few comments on the refugee issue. We have done a paper on the issue that came out in January after intensive conversation with European authorities, I invite you to look at that. Just a few comments on this. In the short term, the refugee issue will have some fiscal cost in European countries, particularly, Austria, Germany, and Sweden. And this will be supportive of demand. And, certainly, we think that the countries that have fiscal space should use it.

Generally, we would argue that if there were countries where there were issues with the SGP, once you clearly have a flexible interpretation, then the rate of spending on refugees should not be constrained by the SGP. I think thats uncontroversial. But I know, so far, all the spending has been sort of quite limited and there have been no major issues.

The interesting issue is, of course, in the medium term. Clearly, there is a potential for this to help long growths potential by boosting the labor force. It is not a panacea. It is not a solution to the ageing problem in some countries, but it will, certainly, help. The key issue is, of course, how fast people are integrated into the labor market. That is the overwhelming issue, and you will see that. And theres a long discussion that the experience from other similar episodes in other countries in the world suggest that the key issue is with regard to the size of the fiscal burden. How fast people start getting jobs and paying taxes. And so theres a long number of recommendations that depend on what countries we are talking about, so I should not get into that.

One interesting finding is that often the natives in the labor market are concerned about the impact on wages of the arrival of a large of number of new entrants into the labor market. And I thought that was interesting. The research shows that there is very, very little and, if any, only very temporary impact on natives in the labor markets of these inflow of migrants. So look at the staff discussion, I think its very interesting, and its available from our friends in Communications.

Let me term briefly to Eastern Europe. We are seeing relatively robust growth in most of the countries outside the Community of Independent States (CIS). We actually see a situation where the output gap is closing in most of these countries. Here too, risks are sort of a bit on the downside. I think the more interesting issues are the longer-term ones and the medium term ones. What we have seen throughout this region is a sharp decline in potential growth compared to pre-crisis. Essentially, a halving of potential growth. And that has sort of, if not stalled, certainly, significantly slowed the convergence process with advanced Europe. Of course, you wouldnt inherently expect that to slow down. As these countries mature and get closer, it gets more and more difficult to realize additional (inaudible) and productivity. But the slowdown is pretty abrupt, so there must be something related to the crisis. I dont think its fully understood. We have done some analysis that is going to come out soon, that points to a number of factors, including what are the most potential gains to be gained from impacting, from improving productivity, improving institutions, legal framework up on top.

Now, Im not going to say more about these countries. The fact is that 25 years ago it was much easier for us to come with this generalization about that part of the world, but it actually, in some ways, is becoming more heterogeneous. Some of them are very close to having the same problems that advanced Europe and others have far away from it, so I find it more difficult to sort of do generalizations from that group of countries. So, let me just stop here and take your questions. Thank you very much.

MR. ADRIANO: Thank you very much, Poul. I suspect we have more than a few questions on Greece, so why dont we get a round of questions on Greece first and then move to other topics. And try to keep your questions short, please.

QUESTIONER: So if the target for 2018 remains the same, 3.5 percent, are you expecting for austerity measures on what the Greek authorities are proposing? And if you think that the Greek proposals that are now on the table of the negotiations will really stick? And if youre planning to set the mission back on Monday? Thank you.

QUESTIONER: The Managing Director said yesterday on BBC that the fund is not going to walk away from the Greek program, but maybe play a different role. What exactly did she mean? What is the alternative role it could play in the case of Greece? Can you please elaborate this for us? And when do you expect this decision about the role of IMF to be taken?

QUESTIONER: Can you talk a little about the distance between the Fund and your European partners on debt relief? The Managing Director yesterday said that a haircut wouldnt necessarily be required. Mr. Dijsselbloem seem to indicate some favorability to what the fund was saying. Can you elaborate on that? And secondly, what is a prospect of a deal, and end to bailout review in the coming weeks? Thank you.

QUESTIONER: Again for the 3.5, the Managing Director said yesterday that a 3.5 primary surplus might be achievable in the short term. However, it seems to me that the main disagreement between the IMF and Greeces European partners is the long term and not the short term. Is a 3.5, you think, viable for the future? Thank you.

QUESTIONER: I know that many times our discussions you have mentioned the fact that the political personal in Greece should display political maturity and work unified together in order to get the country of the crisis. I would like to know what is your view regarding the political system in Greece and whether you think that the political parties should be considered as part of the problem and not a solution of the problem in Greece? And, also, if you think that one of the main problems in Greece is not only the economic crisis but also the lack of political leaders?

MR. ADRIANO: Okay. There was a questions at the back, Ill come back to you.

QUESTIONER: Hi, (inaudible) from Turkish Daily Hurriyet. I have two questions. The first one is that weve been expecting the publication of Article IV Report on Turkey. Why has it not been published?

MR. ADRIANO: Well get to Turkey questions afterwards. So just Greece first.

QUESTIONER: Oh, Greece first? Okay. Sorry.

QUESTIONER: If youre planning to release a report soon? And that also Mr. Obstfeld said that Europeans should give Greece more flexibility to tackle the refugee crisis. What kind of flexibility do you think that they can be given?

QUESTIONER: Just on the debt relief debate, Mr. Dijsselbloem indicated that yesterday, that it would be -- like a big part of the debate would be that the debt relief be assigned some conditionality, so it would be given later on when Greece met some reforms or whether it would be given (inaudible). Can you tell us where you lie on this issue and whether you would want it to be all (inaudible) or you would be okay with it being conditional? Thank you.

MR. THOMSEN: Lets just let me try this. So we are, as you know, in the midst of the discussions. The discussions have so far focused on policies to be adopted by the Greek authorities. There has been very limited, if any, detailed discussion on debt relief, that is an understanding, between the Greeks and the European partners to first focus on policies.

Now it's clear from our point of view we will only take a program to the Board once we have a decision on both policies and debt relief that we think adds up. So these discussions on debt will have to take place soon.

So where are we on policies? Much of the discussion has been on fiscal policy. And let me start by saying that Greece's fiscal adjustments since the beginning has been extraordinary. There's no doubt about that. That the burden on the Greek population has been extraordinary and Greece's ability to adjust stands out by any comparison if you look at from the beginning of 2010.

It's also true that in the last two years, since the beginning of 2014, Greece has found it difficult to sustain that adjustment. We had a surplus, at some stage getting close to 1.5 [percent] on an annualized basis but this could not be sustained and we are back into a notable primary deficit of perhaps 1 or 1.5 percent this year absent measures.

About what it was last year, we don't have the final number. It could be in balance. It could be a small surplus, a small deficit, we don't know. These numbers depend on accrual accounting and sort of at the end of the year but where we are right now is that absent measures this year, 2016, we would have fallen back into a relatively notable primary deficit.

Why is that? The Fund has been arguing and warning consistently during the last -- even before this backsliding started -- that the fiscal adjustment increasingly, not in the beginning, but increasingly was not underpinned by structural fiscal reforms. And we are, therefore, not surprised that the fiscal adjustment has not been sustained. And what we basically are saying is that we need to learn the lesson from that.

We need to underpin this fiscal adjustment more with structural reforms, with measures that we think are credible and can be sustained. Otherwise, we're just going to end up in a situation where in six or nine months, we're going to have to come back and have to ask for new measures and that is -- that's not good for many reasons but certainly politically it's difficult.

So what are these lessons? One is Greece has by any standards an exceptionally generous exemption under its tax systems. It has had a policy of increasing already high rates on a very, very low base. As a result of that, tax evasion has kept on going up and up and up and tax collections, collection rates, have actually gone down and down and down despite huge attempts of improving the tax administration system.

The numbers are truly extraordinary. Greece exempts, if you look at the personal income tax, some 55 percent of the households. In Portugal it's 2 percent. In Ireland it's 5 percent. The euro area average is 8 percent. Greece's minimum threshold for when you start paying income taxes is EUR 9,500, higher than in Germany and other countries that are much better off.

So as a result of that, we are finding that, now just the policy of keeping increasing these high rates at the end is simply not working and what we need to do is to broaden the tax base by lowering the threshold, not dramatically, gradually. But we cannot keep on a policy of keep on increasing rates. We need to broaden the tax base. That's the first point of discussion and we think that's important.

The second point is that we have seen a dramatic reduction in the last few years. I mean, during the program period in what we call non-wages, non-pensions in discretionary spending to among the lowest if not the lowest level in the Euro zone. As a result hospitals are complaining they don't have syringes. Buses are not driving because they don't have spare parts, et cetera. So we don't think it's credible to have a program that assumes further reduction in that kind of spending. So this is where the issues are right now.

This is a discussion that is going on. And, you know, I hope we can reach agreement on that soon. I think the differences are not, you know, as such that I would expect us to come to an agreement and hope to come to agreement soon.

On targets, the ESM program had a target of 3.5 percent. We have always said, our view has always been, last summer and now, that to reach that target, Greece would need to take measures of some 4.5 percent of GDP. We think that that's a lot. That's a lot of, if you want, austerity.

But if Greece and its European partners want to stick to that target, we can accept that target. If the Greek government wants to stick to that target and want to have a fiscal program with that kind of measures needed, that would be fine. We can accept it. But we need to see the measures. We need to see the measures.

I want to make the distinction, and the distinction made by the Managing Director, is that even if through, as the Managing Director said, heroic efforts, Greece could get to 3.5 percent, we do not think that it's credible to assume that for decades, for many decades, Greece would maintain a surplus of 3.5. As you know, few countries have maintained surplus of three and a half for a long period. Greece is a country with huge unemployment and that will have double-digit unemployment for several decades to come and we question whether it really is plausible for a country with such high unemployment and the attendant social pressures to be running such big surpluses over many political cycles to come.

So we are cautioning that the Debt Sustainability Analysis, the debt relief, needs to be calibrated on something that we think is more realistic. So we can accept that the 2018 target of the ESM program stays at 3.5 percent, provided that we can agree on measures to back it up. Provided we can do that. But we strongly believe that the DSA need to be based on a lower target as far as calibrating the debt relief is concerned.

Now on the questions on the debt relief, again, these discussions have barely started. I have nothing to say on the details. Our view is the same. There is a menu of options that can achieve debt sustainability. One can achieve it without a haircut if that's desirable by working on extension of maturities and locking in interest rates at the current low levels. But, you know, I am not going to go more into this. These are discussions that have not really gotten under way. We think the debt relief should be delivered inside a program period but it does not need to be upfront, it can be contingent on program implementation over the next two years; that would be fine.

Let me quickly answer the other question. We have other countries to discuss. I think I covered most of them. On the political issues, we deal with whoever the country elects to deal with us and I have no view on a persons political systems or anything like that. Refugees -- clearly, reasonability to deal with refugees should not be constrained by the program and flexibility is needed to do so and that certainly should be provided. Lets just take some questions on other countries and we can come back to Greece later but --

MR. ADRIANO: Yes, please, your question on Turkey?

QUESTIONER: So we were expecting the publication of Article IV report on Turkey, actually, I think this week. I wonder why it has not been published yet and what do you see as the biggest risks for the Turkish economy in the short and medium term. Also, you have stated in your speech that there is little effect on the labor market with migraines but when you say this, are you also taking into account the unregistered laborers because -- unregistered labor is a big issue because its much cheaper labor than local so what is your opinion on that? Thank you.

MR. THOMSEN: Take some other questions also.

MR. ADRIANO: Other countries?

QUESTIONER: At the Fiscal Monitor Press Conference on Wednesday, Mr. Gaspar said that Spain needs a sizeable adjustment after missing the deficit targets. How back does this plan need to be and how it will affect economic projections? And then also we still havent formed a new government in Spain, does this uncertainty challenge economic growth?

MR. ADRIANO: In the back there?

QUESTIONER: In Ukraine, the new government was appointed yesterday, what does that mean to the negotiations between the IMF and Ukraine because in Ukraine, many people in government hope that now they will get the new trench of financial help soon. Is that true? And when can it actually happen? Thanks.

QUESTIONER: Could you tell us what you think of Portugals situation and whether the country should introduce new measures to keep or maintain market confidence and market access? Thank you.

MR. ADRIANO: There on Serbia?

QUESTIONER: Sorry, I wanted to ask you because we are in the middle of an election and you havent concluded your fourth revision. When can we expect IMF mission in Serbia and what does the new government have to do for successfully concluding the fourth revision? Also, the fifth one is very close and what do we need to do to conclude the fifth one?

MR. THOMSEN: Okay, let me answer Ukraine and then Portugal and then Phil, the deputy director of the department will take the other questions. On Ukraine, I should say that the government came into office yesterday and we look forward to talk to it; we stand ready to continue supporting Ukraine. We had essentially reached an agreement on policies for the review with the previous government and then we had this change in the political situation so we have a good basis for quickly concluding the review but we obviously need to get the new governments affirmation of what has been discussed in the past. I could see us conclude this review soon, provided that the government stands ready to implement these policies that have been agreed to before.

Portugal is in a difficult situation. Again, we need to be mindful that Portugal has come a long way. Portugal is going to take a significant fiscal adjustment and Portugal has undertaken important structural reforms under the funds support program and is in a fundamentally better position than it was before the crisis.

There has been a fiscal relaxation [over] the last two years, not only this year but also last year which clearly goes in the wrong direction for a country that has no fiscal space, that has high debt -- when I say fiscal relaxation, this year -- we do think that additional measures are needed to achieve the target of what is it? 2. 2 or 2. 3 percent that government has set for itself, and my understanding from the last time talking to the government is that it stands ready to take such additional measures if needed to stick to the target. Phil, Spain, Serbia?

MR. GERSON: Spain, Serbia and Turkey. Ill start with Turkey. You had a question about when the Article IV report will come out. I dont have a date from when that report will come out. There is a normal process after the Board meeting, the final fact-checking of the document, a final run through it, thats where we are now. I dont have a date on when it will come out.

You also asked about risks in Turkey. As we noted in the staff report from the previous Article IV consultation, its a theme that came up again in the concluding statement from the just-concluded Article IV mission that the main risk in Turkey, Turkeys long standing Achilles heel, if you will, is its large external financing requirement which is on the order of something like 25 percent of GDP annually. Particularly in an uncertain global environment that exposes the economy to risks and so the crux for policy advice for Turkey has been to address that through tighter fiscal policy and also through tighter monetary policy to help promote domestic savings, as well as structural reforms that over time should increase productivity and help reorient the economy towards a greater export orientation, so thats where we see the main risk for Turkey.

You had also asked about the impact on local and formal labor markets of migration. Poul referenced the paper, the staff discussion note that we put out in January that does talk about this issue of the impact on the formal labor markets. The best way to deal with that is to integrate, as rapidly as possible, migrants into the domestic labor force and the SDN goes through, in some detail, the best ways to do it but its important basically to remove impediments that prevent migrants from entering the formal labor force, to make training available, which can be either skills training or language training in some cases, so I would refer you to the SDN for that issue.

On Spain, there was a question about our views on the current fiscal stance. The fiscal deficit in 2015 just came out at 5 percent of GDP, which is significantly higher than what we had been projecting. Our projections were on the order of about 4. 5 percent of GDP. The higher deficit in 2015 implies a much looser structural stance than we had been anticipating. Our gas now, based on the adjustment thats in the 2016 budget and our projections for growth is that the deficit for 2016 is likely to come in at about 4 percent of GDP without additional measures.

In our view, the weaker outturn in 2015 and the higher 2016 deficit, without measures, just strengthens the case for continuing the path of fiscal adjustment. In our view, an adjustment of about a half of a percent of GDP annually or even more would be useful to maintain confidence and to ensure that the debt remains firmly on a downward path.

On Spain, there was a question about the delay that has occurred in forming a new government and the impact that that may have. We dont have evidence yet that thats having a substantial impact on investment decisions. Obviously, the longer the uncertainty goes on, the more risk there is that this uncertainty will cause people to postpone investment decisions or other major decisions so we dont have evidence yet that its harming Spain but obviously the longer it goes on, the bigger a risk that is.

Finally, there was a question on Serbia about when the mission will return and what needs to be done to complete the review. The answer to that is that the mission is ready to go to Belgrade as soon as possible after a new government is formed. When that mission goes it will assess performance against macro conditionality and the structural reforms that have been set out for the first half of 2016. Overall, performance in Serbia has been good, but there have been some delays in structural reforms for both government reform and restructuring of state-owned enterprises. And it's important to get those unstuck and to make sure that those elements of the overall reform program in Serbia get moving again. The mission will go as soon as soon as there's a government ready to receive them, and we look forward to continuing discussion with the authorities on the reform program there.

MR. ADRIANO: We're close to the time, so let's get another round of questions.

QUESTIONER: Some states, latest example is Austria, are threatening to reduce the inflows through the borders and to increase the controls, contrary to Schengen Rules. And I wonder if you are evaluating the impact on the Euro Zone as a whole, and in detail of course, of possible trade destruction and GDP destruction related to non-compliance with the Schengen Rules?

QUESTIONER: Mr. Thomsen, can you explain to us why the Cypriots succeeded with their program and what they did there differently from the Greeks. And also do you have any idea who taped your conversation with Mr. Velculescu? Thank you.

QUESTIONER: I have an additional question for Spain. Spain government they announced today that it will cut public spending this year by 2 billion [euros]. Have you an opinion about that? Is that enough?

QUESTIONER: On Croatia, the IMF forecasted the hard growth for Croatia in 2016. Can you elaborate the -- then previously -- can you talk about it a little bit please?

MR. THOMSEN: I don't go into country by country comparisons and I don't want to compare it. What I can say, the Cyprus program was successful and I think it benefitted from strong ownership and really congratulate the Cypriot authorities on implementation of this program. Clearly there are still issues that need to be tackled and they are the first ones to acknowledge that. But I think this was a successful program.

On the role of the IMF let me be clear, we have been asked to enter into discussion on a new program that meets our standard exception access criteria, that will be applicable to Greece right now, and that's what we're doing. And that's what we have been doing for some time, and that's what we will continue to do when the mission returns to Athens. And with that in mind we're continuing discussion here now. What the Managing Director said [is] that there is of course, other ways that the IMF can support a country. As I say, it has to add up, which requires difficult decisions in Athens and in member states. The Managing Director has time and again said there are two legs to this. Difficult decisions in Athens, difficult decisions in member states. And if it's impossible to get it to add up and if it's impossible for us to go to our Board and say that the program meets the normal Fund criteria -- which we are still trying and which I hope and expect we will be able to do. But if that proves not to be the case there are other ways that we can support a country, like post program monitoring for instance. We have a framework for that. But that is not being proposed right now. We are discussing a standard Fund program right now.

Now on when the mission will return, I expect it to return sometime early next week. I don't have a specific date. I think that's all. I have no comment on the leak. Phil, Croatia.

MR. GERSON: On Croatia, after an extended period of recession, the economy did finally record positive growth in 2016, which is very welcome. Going forward, we're projecting growth of the order of about 2 percent annually over the next few years, but with continued very low inflation.

As Paul pointed out in his comments on the region in general, the challenge for Croatia and for countries in the region in general is how to accelerate the convergence process, how to ensure pickup in growth that ensures that over time they continue to narrow the difference in living standards relative to advanced Europe. And the answer to that is continued policy discipline and structural reform. And I think that's part of the recipe for Croatia as well.

MR. THOMSEN: On Italy, that was the question on whether we are studying the impact of this deviation from Schengen, you say. We are not undertaking a concrete study of that right now, but as I said in my initial remarks, it's part of the risks, that the reaction to the refugee problems impacts negatively on political sentiments and on confidence more generally. So it's something that we obviously would have to take into account. But there's no specific [research] in the IMF's European Department as far as I am aware of this right now. There's not.

MR. ADRIANO: Okay, thank you very much. We have to wrap up because there's another briefing starting in 10 minutes. I'm sorry, I know there's more questions but we need to bring it to a close.

Thank you very much and have a good day.