CELEX: 51995DC0228
Language: en
Date: 1995-05-31 00:00:00
Title: Commission' s Recommendation for the Broad Guidelines of the Economic Policies of the Member States and the Community

COMMISSION OF THE EUROPEAN COMMUNITIES
                             Brussels, 31.05.1995
                             COM(95) 228 final
       Commission's Recommendation
for the Broad Guidelines of the Economic
  Policies of the Member States and the
                  Community
 ---pagebreak---  ---pagebreak---                                 - A ~
         EUROPEAN COMMISSION
       Commission's Recommendation
for the Broad Guidelines of the Economic
  Policies of the Member States and the
                        Community
        drawn up in conformity with article 103 (2) of the
          Treaty establishing the European Community
 ---pagebreak---  ---pagebreak---                                       -4*r
                                      Table of contents
      BROAD ECONOMIC POLICY GUIDELINES FOR THE COMMUNITY
     AND THE MEMBER STATES                                      1L,
    1.   Introduction                                           1 I
                                                                  o
    2.   Economic policy guidelines                             2
             Price and exchange rate stability                  2
             Sound public finances                              4
             Competitiveness                                    6
             Employment and the labour market                   7
II.   EXPLANATORY DOCUMENT                                     10
    1.   Introduction                                          10
    2. The economic situation and outlook                      11
       2.1 Growth prospects                                    11
       2.2 Employment trends                                   12
       2.3 The outlook for inflation and budgetary convergence 14
    3. The policy objectives and risks                         21
    4. The Policies                                            24
       4.1 Macroeconomic policies                              24
       4.2 Policies for greater competitiveness                27
       4.3 Employment and labour market policies               29
 ---pagebreak---  ---pagebreak---                                        41-
 I. Broad Economic Policy Guidelines for the Member
                        States and the Community
1. Introduction
Since the Summer of 1994, when the previous Broad Guidelines were adopted,
economic growth in the Community has become firmly established. However, as the
recent foreign exchange turmoil following the decline of the dollar has highlighted,
significant risks and important policy issues remain unresolved. In order to ensure
that the growth prospects are fully taken advantage of to increase employment and
enhance convergence, economic policies must respond to the challenges and
opportunities presented by the emerging economic expansion.
The present set of policy guidelines - prepared and adopted according to article 103(2)
of the Treaty establishing the European Community - will constitute the reference for
the conduct of economic policies in the Community and the Member States. It re-
affirms both the objectives proposed in the earlier versions and the conclusions on
fighting unemployment reached by the European Council, notably those of the Essen
meeting which recommended five areas where action had to be intensified.            Full
implementation of these guidelines will make possible a strengthening of convergence
and a realisation of the good growth and employment prospects, thus achieving
significant reductions in the rate of unemployment.
Two policy concerns should be given prominence in the present environment. First,
there is the possibility that the favourable impact of economic growth could give rise
to "adjustment neglect". This may take the form of a weakening commitment, induced
by the cyclical improvement of the budget deficit, to resolve in a durable manner the
structural fiscal imbalances, or, as employment begins to recover, it may be reflected
in a reluctance to initiate and implement those measures which are necessary to
remove labour market imperfections. It is essential that either type of "adjustment
neglect" should be vigorously resisted.
Secondly, recent exchange rate changes have not only contributed to greater risks of
inflation dispersion, but they have also contributed to a potential fragmentation of the
internal market and to threatening the beneficial achievements of economic integration.
 ---pagebreak---                                              -2-
Exchange rate misalignments will have detrimental effects for all the Member States.
It is clear that, in order to minimise the occurrence of such episodes, creating the
conditions for exchange rate stability within the Community must become a key
priority of economic policies.
The present guidelines re-affirm the policy objectives set in the December 1993 and
July 1994 guidelines: it is essential for the Community and the Member States to turn
the present recovery into a strong, sustainable, non-inflationary medium-term growth
and employment creation process, so that the rate of unemployment is substantially
reduced and to make possible the achievement of the necessary degree of convergence
to facilitate the transition to stage III of EMU. Achievement of these objectives will
require a stable, investment-enhancing, short- and medium-term macroeconomic
framework characterised by:
         - a stability-oriented monetary policy whose task is not undermined by
            inappropriate budgetary and wage developments;
         - sustained efforts to consolidate the public finances in most Member States
            consistent with the objectives of their convergence programmes;
         - nominal wage trends incorporating the price stability objective; at the same
            time, real wage developments should take into acount the need to
            strengthen the profitability of employment-creating investment.
An essential complement of this framework are structural reforms aimed at fostering
the competitiveness of the economies of the Member States and at improving the
functioning of their labour markets. The policies necessary for sustaining long-term
growth, increasing employment, and strengthening convergence are mutually
consistent.
2. Economic Policy Guidelines
Price and Exchange Rate Stability
Substantial progress in reducing inflation in the Community and in the Member States
has been made since the beginning of the decade. Nine Member States (B, DK, D, F,
IRL, L, NL, A, UK) are now expected to see a rate of inflation in the range of
between 2 and 3 per cent in 1996, consistent with the objective of the 1993 and 1994
guidelines; Finland and Sweden are forecast to experience rates of inflation just above
 ---pagebreak--- this range next year. Spain, Italy and Portugal, on the other hand, are projected to
record rates of inflation of about 4 Vi per cent while inflation in Greece is expected to
decline to about 9 per cent.
Further progress towards price stability must be made.           This means, above all,
enlarging substantially the group of Member States where inflation performance can be
considered satisfactory.      Those Member States that are currently expected to
experience rates of inflation between 2 and 3 per cent should maintain a policy aimed
at preventing any resurgence of inflationary pressures and at progressing towards the
lower end of this range. Other countries should substantially increase their efforts.
The recent exchange rate changes have important implications for inflation
convergence. Thus, in Member States experiencing currency appreciations in nominal
effective terms, inflation convergence is expected to strengthen and inflation is
projected to remain below 3 per cent this year and next. In these Member States wage
trends are expected to develop broadly in line with the objective of price stability too.
However, it will be necessary to ensure that wage developments do not lead to
reductions in investment profitability, particularly in the export-oriented sectors. On
the other hand, in the Member States experiencing currency depreciations, price
stability is less secure and the risks of an acceleration of inflation dominate the
outlook. In these countries utmost caution is needed. In particular, in the context of
strong economic growth, it will be important to prevent increases in import prices
from generating a vicious circle of price and wage inflation. Otherwise, the achieved
credibility of moving towards a stability oriented policy framework would be lost
rapidly.
The combination of the marked depreciation of the dollar and of uncertain fiscal and
inflation prospects in some Member States have led to substantial exchange rate
instability within the Community. The exchange rate changes which have taken place
exceed what would have been warranted by the differentials in the rates of inflation
and have resulted in a competitiveness penalty for the countries who have followed
sound policies and increased inflationary pressures for those whose currencies have
depreciated. Such exchange rate misalignments are detrimental to all Member States;
in the ones whose currencies have appreciated short-term growth prospects will
deteriorate, while in those whose currencies have depreciated inflation prospects will
worsen and the stability-oriented medium-term policy will be in jeopardy. Moreover,
the proper functioning of the internal market has been put at risk. Not only is it
 ---pagebreak---  possible that investment decisions may be made with the view to exploit exchange-rate
 induced competitiveness gains, but also it is possible that special interest groups
 supporting devaluation policies will be encouraged.
 Therefore, all Member States must pursue policies supporting stable exchange rates
within the Community. Exchange rate stability will not only contribute to reaping the
full benefits of the internal market and to improving resource allocation within the
Community, but it will also make possible the realisation of improved price stability.
In this respect a key role will be played by budgetary policy and by the credibility of
the fiscal consolidation commitments.
Sound Public Finances
Despite the consolidation of economic growth, prospects for the resolution of the
fiscal imbalances remain uncertain and fiscal convergence continues to be elusive.
According to current estimates, net borrowing as per cent of GDP is expected to
decline by approximately 1 lA percentage points between 1994 and 1996, about half of
which is reflecting the contribution of the automatic stabilisers on the budget balance.
The failure to realise greater progress in budgetary consolidation sustains, in many
cases, a situation where fiscal policy is severely constrained by a high and rising burden
of interest payments; it also undermines price and exchange rate stability, increases
uncertainty about the course of fiscal policy and erodes the credibility of policies, it
contributes to an unbalanced policy mix, and it undermines the task of monetary
policy. Over the medium term, persistent fiscal imbalances will have adverse
implications for economic growth and for employment creation. A sound fiscal
position is a positive supply factor as it opens up the possibility for tax reductions and
for increases in productive public investment. Indeed the arguments for budgetary
consolidation based on growth and employment considerations are at least as
important as those based on the need to improve the sustainability of debt positions
and nominal convergence. If budget deficits cannot be reduced in a durable manner
now, during a period of relatively strong growth, when will they be reduced ?
The clear task confronting virtually all the Member States is to ensure that advantage
is taken of all the growth opportunities to promote fiscal consolidation by reducing
structural deficits. The Member States should aim to bring their budget deficit below
3 per cent of GDP as soon as possible, as a first step towards the medium term goal,
particularly important during Stage III, of reducing it to between 0 and 1 per cent of
 ---pagebreak---                                              5-
 GDP as indicated in the 1993 Broad Guidelines. With such a policy it would be
 possible to have the average budget deficit in the Community below 3 per cent of GDP
by 1997.
 The current estimates suggest that, all the Member States, including those where the
forecast deficit for this year will be below the 3 per cent mark (Denmark, Germany,
Ireland, and Luxembourg), ought to exploit any room provided by economic growth
higher than in budget plans, or by a decline in interest rates, to accelerate the process
of budget consolidation. In the event that the exchange rate turbulence lowers
economic growth this year, the efforts to achieve the targets of the convergence
programmes should not be relaxed.
The forecast for 1996 indicates that, on the basis of the adjustment measures which
have been clearly specified so far among those Member States which have set fiscal
targets in their convergence programmes, the fiscal objectives will not uniformly met.
Adjustment to achieve the deficit target of the convergence programme is required,
albeit of different magnitude, in the cases of Belgium, Germany, Greece, Spain,
France, and Portugal; in all these cases, the projected deficit is larger than that set in
the convergence programme. On the other hand, Denmark, Ireland, the Netherlands,
and the UK are expected to meet the deficit objectives by next year.
In many countries, restraining expenditure increases should be the preferred approach
since, apart from their impact on employment, there are undoubtedly limits to higher
taxation and social charges. But the rationalisation of the public expenditure and
taxation systems can also contribute to economic growth and employment creation.
In particular, as proposed in the 1994 guidelines, the tax structure should be adjusted
in a manner consistent with employment support, while public expenditure should be
re-allocated away from consumption and in favour of productivity-enhancing
spending; in the latter, strengthening public investment and immaterial investment in
human capital should be accorded a priority. In this context as well, taxation on the
use of labour should be reduced, especially at the lower end of the wage and
productivity scale. It is important, however, that the necessary reduction in budget
deficits is not endangered, which implies that compensatory additional revenues should
be found.
Fiscal difficulties continue to characterise the public finances of several Member
States. In Greece and Italy, the persistence of the fiscal imbalances continues to have
 ---pagebreak---                                             -6
wider implications, undermining price and exchange rate stability, contributing to high
risk premia on interest rates, and inhibiting progress towards convergence. Decisive
measures, in a multi-annual framework, are required in order to restore confidence in
the course of economic policies. In the case of Sweden, which is confronted with
similar difficulties, a multi-annual adjustment fiscal framework has already been
announced; it is necessary that the adjustment path is adhered to. In Belgium, the
high indebtedness necessitates that the fiscal component of the Global plan is fully
implemented and that further progress in reducing the deficit below the 3 per cent of
GDP mark is required in order to also achieve a more significant reduction in the debt
ratio.
In Spain and Portugal, greater commitment and more ambitious targets are required in
the area of fiscal consolidation; more ambitious fiscal objectives are also necessary in
the cases of Austria and France. In Austria and Sweden, further efforts will also be
necessary to bring the debt ratio on a downward course. Finally, while Finland has
not yet prepared a convergence programme, the forecasts suggest that its fiscal
objectives are ambitious; efforts to realise these objectives should be sustained.
Fiscal developments and prospects in Ireland and Luxembourg suggest that they will
continue to show no excessive deficit. In the former, the decline in the debt ratio is
projected to continue at a healthy pace, while the state of the public finances of the
latter continues to be robust.
Competitiveness
Following the proposals of the White Paper on "Growth, Competitiveness,
Employment", Member States are implementing reforms aimed at strengthening the
forces contributing to endogenous growth and at enhancing the dynamism and
competitiveness of the Community economies.
In order to benefit fully from the opportunities offered by the internal market, the
transposition of Community directives into national law now stands at 92.4 per cent
while the dispersion ranges from 86.3 per cent to 98.6 per cent. Progress is required,
however, in the areas of insurance, intellectual and industrial property, public
procurement, new technologies and services and freedom of movement. Moreover,
progress has been slow in the extension of the single market to telecommunication and
energy, while the internal market in transport remains incomplete. Furthermore,
additional progress is necessary in reinforcing competition rules, reducing state aids,
 ---pagebreak--- and reducing the role of the public sector. Privatisation, to the extent that Member
 States judge it compatible with their objectives, could further the progress already
made in this direction.
   State of implementation of the internal market White Paper measures
               (breakdown of situation by Member State, in percent; May 17, 1995)
   DK                         NL            UK              B            IRL           GR
   98.6     95.9     95.4     95.0  92.7   92.2       90.9 90.4  90.0   89.5    89.0   86.3
                                          E C - 1 2 : 92.4
  Source: European Commission
Several initiatives have been taken at the Community level.                   Following the
recommendation of the Essen Council, a Competitiveness Advisory Group has been
set up and it plans to prepare a report for the Cannes European Council on the state of
Community competitiveness and related issues; moreover, the Group for Legislative
and Administrative Simplification has been established. In order to enhance overall
competitiveness, several issues are being reviewed at the Community level, including
improving financing for SMEs, enhancing labour market flexibility, and improving the
quality of vocational training.
It is essential for the dynamism of the Community economies that material and
immaterial investment be stepped up. This relates in particular to investment in
education and training and in the infrastructure of the Community which needs to be
developed to match the requirements of the 21st century. The Trans-European
Networks should be realised and the Action plan on the Information Society should be
carried through. In addition, for the active promotion of research and development
initiatives, greater co-ordination between Member States activities is essential.
Parallel, co-ordinated, efforts at the level of the Community and of the Member States
is an essential building block to realising the potential for job creation and growth.
Employment and the Labour Market
The economic recovery, if it progresses as predicted, will absorb the cyclical
component of unemployment by 1997. Nevertheless, to continue to reduce
unemployment in a significant and progressive manner, it is necessary to achieve a high
rate of economic growth over many years and to increase the capacity of that growth
 ---pagebreak---  to generate jobs. An essential component of the efforts to achieve these goals is
 represented by more active and more efficient labour market policies. These must aim
 at a comprehensive, integrated and coherent effort to bring about structural change in
the fields of the educational systems, labour law, work contracts, contractual
negotiation systems and the social security system to improve the functioning of the
labour market as a whole.
In the context of the White Paper, the Essen European Council identified within the
wide array of measures working in the directions outlined presently, the following five
priorities:
 • Improving the employment opportunities for the labour force by promoting
      investment in vocational training,
 •    Increasing the employment intesiveness of growth,
 •    Reducing non-wage labour costs,
 •    Improving the effectiveness of labour market policies,
 •    Improving measures to help groups which are particularly hard hit by
      unemployment.
Member States were invited to implement measures adapted to their own specific
situation and to prepare multi-annual programmes spelling out their policy intentions.
Various measures have already been taken, but greater and more determined efforts
are needed.
Active and more efficient labour market policies contribute to the goal of increasing
employment through three main channels:
i)   they improve the employment opportunities for the labour force by promoting
      investment in vocational training, notably in SMEs, and thus raise the quality of
      human capital which improves competitiveness, potential output and the flexibility
      of, and opportunities for, the workforce;
ii) they increase the employment intensity of growth, without affecting negatively
     the rate of growth itself, by:
           the Social Partners examining at the appropriate levels whether employment
           could be promoted without endangering competitiveness through the
           allocation of productivity gains to contribute to innovative forms of work
           organisation such as reduction and new patterns of working time and new
           combinations of work and leisure;
 ---pagebreak---           increasing the incentives to employment by reducing non-wage labour costs,
          especially at the lower end of the wage and productivity scale, without
          harming other parts of the labour market; from a macroeconomic point of
          view this must be achieved in ways which do not compromise the reduction
          of budgetary deficits nor the competitiveness of enterprises. Reforms
          including, where appropriate, alternative financing sources of social
          protection systems are therefore required;
          encouraging the development of new employment opportunities and
          activities, e.g. those linked to the service society and environmental
          sustainability.
iii) they promote the employability of people when new jobs become available by:
          improving the effectiveness of labour market policy through enhancing the
          flexibility with respect to professional and geographical mobility (particularly
          for those workers readily employable);
          improving measures to help groups which are particularly hard hit by
          unemployment through special retraining schemes which concentrate on
          target groups hit by exclusion.
Labour market policies contributing to exploiting these three channels constitute not
only an indispensable complement to macroeconomic policies and structural policies in
the area of competitiveness but they also contribute to maintaining and reinforcing
cohesion and the social consensus inside the Union in the long and difficult process of
absorbing unemployment.
In order to enhance the effectiveness of the work which is currently under way and to
increase the overall consistency of the individual policy actions, the Commission, on
8 March 1995 presented a Communication to the Council in which it suggests the
implementation, in the context of Article 103 of the Treaty, of a procedure for the
surveillance of employment trends and policies.
It is now important that Member States adopt rapidly their multi-annual programmes
which will constitute the benchmark in the continuous monitoring of the policies aimed
for job creation.         These programmes should be mutually consistent with the
macroeconomic framework defined by the Broad Economic Policy Guidelines.
 ---pagebreak---                                                     40-
                                tt. Explanatory document
This explanatory document reviews the economic situation and outlook, the progress
made in implementing the previous Broad Guidelines and the current stance of
economic policy. In accordance with what was announced in the Communication to
the Council on the Follow-up to the Essen European Council on Employment1,
employment trends and policies are given greater prominence.
On the basis of the analysis outlined in this explanatory document, the Commission is
recommending a new set of guidelines for the economic policies of the Member States
and of the Community which are firmly oriented towards achieving economic
convergence and fostering job creation. These guidelines confirm the thrust of those
adopted in December 1993 and July 1994, but take into account the fact that the
economies of the Community are now at a much more advanced stage of the recovery
and that a number of risks are appearing on the way to transforming the current
recovery into strong medium-term growth.
1. Introduction
The economic outlook for the Community continues to be favourable. The recovery,
which had just become visible a year ago when the 1994 Broad Guidelines were
adopted, has gathered strength and its pattern - exports and investment continue to be
the most dynamic components - remains conducive to sustained medium-term growth.
Notwithstanding the negative effects of the recent foreign exchange turmoil, growth is
expected to remain satisfactory also in 1996. The recent episode of exchange rate
instability has certainly affected business confidence negatively, but the fundamental
factors determining growth remain favourable.
Progress has taken place in achieving the degree of nominal convergence necessary for
the transition to EMU. But more needs to be done and, in certain cases, progress has
been disappointing relative to what could have been achieved in the current favourable
economic environment. The recent instability of foreign exchange markets, even if its
origin lays to a great extent outside the Community, highlights the lack of convergence
which still characterises the economic performance of several Member States, and
especially the lack of credibility of their budgetary consolidation plans.
 '    "Follow-up to the Essen European Council on Employment" Com (95) 74 final of 8 March 1995
 ---pagebreak---                                            11 -
Given that employment always responds with a lag to a recovery in economic activity,
the improvement in the economic situation is not yet contemporaneously reflected in a
similar upturn in labour market conditions, even though the reduction of
unemployment in this cycle is expected to be much more pronounced than that seen in
the early 1980s. Employment, which declined again in 1994, is now projected to
increase this year and in 1996 by about one per cent a year, with the rate of
unemployment also starting to decline.
Under these circumstances, economic policy must be resolutely oriented towards the
twin objectives achieving economic convergence and fostering job creation. This
means achieving strong, non-inflationary and more employment-creating rates of
growth.
2. The economic situation and outlook
2.1 Growth prospects
Economic growth in the Community is projected to average 3.1 per cent in 1995 and
2.9 per cent in 1996, up from an estimated 2.7 per cent last year. Thus, the recovery
which commenced towards the second half of 1993, is now being transformed into
robust economic growth so that, by 1996, real output in the Community will be almost
 10 per cent above the 1991 level.
The economic expansion has been, and is expected to continue to be, sustained by
strong exports, investment spending and, to a lesser extent, private consumption
growth. Buoyant world trade conditions are expected to sustain Community exports
which should increase, in real terms, by 7.5 and 6.5 per cent, respectively, during this
year and next. Investment spending, which is estimated to have grown by 2.4 per cent
in 1994, is projected to increase by 6.3 per cent this year and by just below 6 per cent
in 1996. Finally, private consumption, is projected to expand by 2.1 per cent this year
 and by 2.5 per cent in 1996. This pattern of growth - with investment growing at a
brisk pace - corresponds closely to what is necessary to create the conditions for a
 long period of strong growth.
 The recent weakening of the dollar in the foreign exchange markets and the substantial
 depreciations experienced by some European currencies are having a twofold effect on
 ---pagebreak---                                           - 12
Community growth prospects.          On the one      Table 1
hand, overall growth is slowed down as                  Economic growth in the Community
                                                           (percentage change in real GDP)
Community exports become, on average, more                     1993      1994      1995    1996
expensive on world markets and as business           B          -1.7      2.3       2.7     2.6
confidence is negatively affected by the             DK          1.5      4.4       3.3     2.9
                                                     D          -1.1      2.9       3.0     2.6
uncertainty induced by exchange rate instability.
                                                     GR        -0.5       1.2       1.6     1.8
On the other hand, the exchange rate                 E          -1.1      2.0       3.1     3.4
                                                     F          -1.5      2.7       3.1     2.9
movements within the Community may result in
                                                     IRL        4.0       6.3       6.9     5.5
short-term differential effects on the growth        I          -0.7      2.2       3.3     3.4
                                                     L           2.1      3.0       3.3     2.9
prospects of countries whose currencies have
                                                     NL         0.3       2.5       3.2     2.8
depreciated compared with those which               A          -0.1       2.7       2.7     2.5
appreciated.                                         P         -1.2       1.1       3.0     3.2
                                                     FIN       -1.6       3.9       5.3     4.2
                                                     S         -2.6       2.2       2.8     3.0
The fundamental factors which shape economic         UK         2.0       3.8       3.1     2.8
growth in the Community, however, remain EC                    -0.5       2.7       3.1     2.9
favourable.       World trade is expected to Source: Commission Spring 1995 economic forecasts
continue expanding strongly while labour
productivity and investment profitability trends within the Community are
encouraging. As a result, most Member States are expected to show satisfactory
rates of economic growth (see Table 1), with Ireland projected to post remarkably fast
rates of output and employment growth throughout the period.
2.2 Employment trends
Following three years of net job losses, employment in the Community is projected to
expand again in 1995 and 1996. Employment in the Community declined by a
cumulative 3.9 percentage points over the period 1992-1994: 5.8 million jobs were
lost. 1995-96 should see an increase in employment of about one per cent a year
which implies the net creation, over the two years, of about 3 million jobs. Given that
in 1995-96 the active population will increase by about 1.4 million persons, the
expected job creation will allow a net reduction of unemployment by approximately
1.6 million.
This year and next employment is expected to rise in all the Member States, with
particularly strong rates of increase in Denmark, Spain, the Netherlands, Sweden, the
United Kingdom, and especially so in Luxembourg, Finland and Ireland (see table 2).
 ---pagebreak---                                                                     -13-
In recent years, labour productivity growth evolved in a way similar to that of all
previous cyclical episodes: it decelerated substantially during the recession (see
table 3) and accelerated at the beginning of the recovery (3.2 per cent in 1994). For
1995 and 1996, however, the forecasts suggest a return to the trend of the last twenty
years (about 2 per cent). In the present forecast the Community economy is therefore
expected to show an employment content of growth which is not inferior, but also not
greater, than that of the last twenty years.
Table 2
                                      Employment and Unemployment
                                            (percentage change and per cent of the labour force)
                                        Employment growth                                        Unemployment rates
                                1994                 1995                1996              1994        1995         1996
         B                       -0.7                   0.7                1.0             10.0          9.6         9.1
         DK                      -0.1                   2.3                1.1             10.2          8.6         8.0
         D                       -0.9                   0.7                0.9               8.4         7.8         7.3
         GR                       1.3                   1.0                1.0               9.6         9.6         9.5
         E                       -0.9                   1.5                2.0             24.1         23.7        22.8
         F                        0.1                   1.1                1.0             12.5         12.1        11.5
         IRL                      2.6                   2.7                2.6             15.1         14.1        13.1
         1                       -1.6                   0.3                0.8             11.4         11.4        10.9.
         L                        2.6                   2.8                2.7               3.5         3.6         3.4
         NL                      -0.0                   1.3                1.9               7.7         7.6         7.2
         A                        0.2                   0.5                0.4               4.0         3.9         3.8
         P                       -0.1                   0.4                0.7               6.9         6.7         6.3
         FIN                     -0.8                   3.0                2.5             18.5         16.3        14.6
         S                       -0.9                   2.0                1.8               7.8         7.2         6.5
         UK                       0.3                   1.2                1.1               9.4         8.3         7.8
         EC                      -0.5                   1.0                1.1             11.2         10.7        10.1
Source: Commission Spring 1995 economic forecasts
N.B. At the beginning of 1995 Eurostat has significantly revised its unemployment figures
Employment in the manufacturing sector, where productivity increases are particularly
strong, declined by about 2.5 per cent last year, but is now expected to recover to a
projected growth of 0.5 per cent in 1995 and 1.1 per cent in 1996. The expansion in
employment in this sector as well suggests that the recovery has given way to a
sustained growth process.
The projected increases in employment will produce a decline in the unemployment
rate from a peak of 11.2 per cent of the labour force in 1994 to 10.1 per cent in 1996.
Large declines in unemployment in the period 1994-1996 are projected to take place in
Finland (3.9 percentage points), Denmark (2.2 points) and Ireland (2 points).
 ---pagebreak---                                                                      -14
High unemployment, however, is projected to continue to mark the labour market
experience of Spain, Ireland, Finland; in Italy and France unemployment is expected
to remain between 10.5 and 11.5 per cent in 1996; in Belgium and Greece
unemployment is projected to remain between 9 an 9 XA per cent; finally, with regard
to the remaining eight Member States, the rate of unemployment is expected to range
from a low of 3 XA per cent in the case of Luxembourg to a high of 8 per cent in the
case of Denmark.
Table 3
                                              Labour Productivity Growth
                                                       (annual percentage changes)
                     1961-73           1974-90            '91          '92           •93          '94  '95  '96  1991-96
     B                    4.3               2.0           2.1          2.3          -0.3          3.1   1.9  1.6   1.8
     DK                   3.2               1.4           2.9           1.2          2.2          4.5   1.0  1.8   2.2
     D*                   4.0               1.9           2.5           3.9          0.7          3.8  2.3   1.8   1.7
     GR                   8.1               1.4           5.6         -0.6          -1.5         -0.1   0.6 0.7    0.8
     E                    6.5               2.7            1.8          1.9          3.3          2.9   1.6  1.4   2.1
     F                    4.7               2.2           0.7           2.2         -0.3          2.6   1.9  1.8   1.5
     IRL                  4.3               3.8           2.9           4.5          3.3           3.6  4.1  2.9   3.6
     1                    5.5               2.0            0.4          1.8          2.2           3.8  3.0  2.6   2.3
     L                    3.0               1.3          -1.0           0.0          0.0          0.4   0.4  0.1     0
     NL                   3.9               1.7           0.9           0.4          0.5          2.5   1.9  0.9   1.2
     A                    5.0               1.5            0.9          0.0          0.4          2.5   2.2  2.1   1.4
     P                    6.6               3.4            1.3          1.7          0.8           1.3  2.5  2.5   2.8
     FIN                  4.5               2.6          -2.0           3.7           5.0          4.7  2.3  1.6   2.5
     S                    3.5               1.1            0.4          3.2           3.2          3.1  0.9  1.2   2.0
     UK                   2.9               1.6            1.1          1.6           3.7          3.4  1.8  1.7   2.2
     EC*                  4.4               2.0            1-5          2.3           1.5          3.2  2.1  1.8   2.1
Source: Commission Spring 1995 economic forecasts * For the averages until 1991 Germany = West Germany
While employment trends and the pace of the reduction of unemployment correspond
closely to expectations, unemployment continues to be a major policy concern.
Current and projected trends suggest the need to ensure that the rate of economic
growth remains strong over many more years so as to make possible the recovery of
the ground lost during the recession and to set in train reductions in unemployment
below the level achieved at the peak of the previous cycle.
2.3 The Outlook for Inflation and Budgetary Convergence
Of all areas of convergence in the Community, most progress has taken place with
regard to inflation. Measured by the private consumption deflator, the Community
 average rate of inflation declined to 3.2 per cent in 1994, from a peak of 5.6 per cent
 ---pagebreak---                                              15
in 1991, and is expected to remain at its 1994 level during this year and in 1996. The
guidelines goal of the Community achieving a rate of inflation of between 2 and 3 per
cent by 1996, as a first step towards price stability, will therefore not be fully met.
In 1994, ten Member States had inflation at or below 3 per cent while the remaining
had inflation in excess of 3 per cent. Changes in the country composition of these
groups are projected to take place in 1995 and in 1996, with Ireland's and Austria's
inflation falling below 3 per cent this year and easing to 2.7 per cent in 1996 in Ireland
while stabilising at somewhat below 3 per cent in Austria; Sweden's and Finland's
inflation accelerating to around 3.3 per cent next year; and the UK's staying flat at 3
per cent this year and next.
                                                       Table 4
Price convergence appears secure in the group                           Inflation
                                                                      (percentage change,
of Member States which are seeing effective                      private consumption deflator)
exchange rate appreciations. Inflation in eight                  1993       1994       1995       1996
Member States (Belgium, Denmark, Germany,              B             2.6        2.4        1.9       2.4
France, Ireland, Luxembourg, the Netherlands,          DK            1.0        1.7        2.3       2.7
                                                       D             3.8        2.7        2.3       2.5
Austria) is expected to be below 3 per cent this       GR          13.6        10.9        9.6       8.9
year and next.                                         E             5.6        5.1        4.9       4.5
                                                       F             2.2        1.8        1.9       2.1
                                                       IRL           1.6        3.0        2.9       2.7
In Portugal and Finland, which have also seen          1             5.1        4.7        5.2       4.5
                                                       L             3.6        2.2        2.3       2.5
recently effective exchange appreciations,
                                                       NL            2.1        2.2        1.8       2.2
inflation prospects are less encouraging. In           A             3.5        3.3        2.8        2.9
                                                       P             7.9        5.1        4.5       4.5
Portugal, after a significant decline from the
                                                       FIN           3.9        1.6        1.7        3.3
level of 1993 ànd a smaller one from last year,        S             5.8        3.0        3.2        3.2
inflation is expected to stabilise at 4.5 per cent     UK            3.4        2.5        3.0        3.0
this year and next. In Finland, on the other           EC            4.0        3.2        3.2        3.2
 hand, inflation is forecast to accelerate             Source: Commission services Spring 1995 forecasts
 markedly next year.
 The inflation outlook remains uncertain in the Member States which have experienced
 currency depreciations in recent months (Italy, Greece, Sweden, Spain and the UK).
 While, it may be argued, the inflationary consequences of the depreciation would not
 emerge until actual output rises above potential, uncertainty about the exact level of
 the output gap, and the possibility that potential output may have declined during the
 recession, would suggest that the risk for an acceleration of inflation dominates the
 outlook.
 ---pagebreak---                                                                             16-
 Greece, Spain, Italy and Portugal are recording and are expected to record, a less
 satisfying, albeit to different degrees, price convergence in the Community, and
 Sweden's inflation is not expected to post any deceleration over the forecast period.
Inflation in the UK is projected to remain stable at 3 per cent in 1995 and 1996.
However, there is considerable uncertainty about the inflation outlook in view of the
fact that, in addition to recent exchange rate developments, the UK will have had four
years of strong economic growth by 1996 and the level of excess capacity will have
narrowed substantially. In the UK, but also in Finland and Sweden where monetary
policy pursues an inflation target, vigilance is an essential ingredient of the policy
stance.
Table 5
                               Nominal effective exchange rate changes
                                                       (relative to 19 industrial partners)
           Annual percentage changes                                                     Cumulative c h a n g e s s i n c e 1991
                 1992           1993            1994           1995*                               1992             1993  1994  1995*
  B                   2.3            0.8              1.6            5.3          B                   2.3            3.1   4.8   10.3
  DK                  2.8            2.1              0.1            5.3          DK                  2.8            4.9   5.0   10.5
  D                   3.3            2.7              0.1            6.8          D                   3.3            6.1   6.3   13.4
  GR                 -7.7           -9.6            -7.1            -3.3          GR                -7.7           -16.6 -22.5 -25.0
  E                  -1.8         -13.1             -6.7            -2.1          E                 -1.8           -14.7 -20.4 -22.1
  F                   3.6            1.9              0.6            4.0          F                   3.6            5.5   6.1  10.4
  IRL                 2.8           -5.9              0.3           -0.4          IRL                2.8            -3.3    -3   -3.5
  I                 -2.7          -16.9             -4.6          -14.3           I                 -2.7           -19.2 -22.9 -33.9
  NL                  2.4            3.0             0.4             5.2          NL                 2.4             5.5   6.0  11.4
  A                   2.6            2.4             0.0             4.9         A                   2.6             5.1   5.0  10.1
  P                   3.6           -7.6            -4.7             2.8         P                   3.6            -4.3  -8.7   -6.2
  FIN              -12.7          -14.8              7.5             9.3         FIN              -12.7            -25.7 -20.1 -12.6
  S                   1.3         -19.3             -1.2            -4.7         S                    1.3          -18.2 -19.1 -22.8
  UK                -3.6            -9.0             0.2            -4.0         UK                 -3.6           -12.3 -12.1 -15.6
  EC                  2.2         -13.1             -2.2             1.4         EC                  2.2           -11.2 -13.2 -12.0
Source: Commission Services * on the assumption that exchange rates will remain constant at their April 1995 level
A notable feature of the inflation performance since 1993 is that, despite the severity
of the recession, the average rate of inflation in the Community has remained at over 3
per cent.               Certainly a large number of countries are currently experiencing a
satisfactory price performance, but in about a third of the Member States, inflation still
gives cause for concern. In addition, no further progress in lowering inflation is
projected for this year and next.
 ---pagebreak---                                              17
The apparent stickiness of inflation could reflect the influence of several, reinforcing,
factors. On the one hand, the amount of spare capacity created during the recession
may be smaller than currently estimated. This could be the result of measurement
errors or of an acceleration in the scrapping of obsolete capacities. On the other
hand, the credibility of announced monetary and, above all, fiscal policies may still be
too low and unable to affect significantly expectations about future inflation. In
addition, in some Member States currency depreciations have contributed to sustaining
inflation. Finally, it is possible that non-competitive conditions continue to prevail in
several Community countries despite the efforts to implement the internal market.
An implication of these considerations is that further reductions in inflation will require
measures which foster the credibility of policies, which improve the adaptability of
workers in a changing economic environment, and which also foster competition. In
particular, it is important to strengthen the credibility of the low inflation targets, so
that they can be incorporated into pay trends, and of the budgetary consolidation
programmes.
Budgetary convergence in the Community continues to be elusive. Table 6 shows
that, for the Community as a whole, the net borrowing of the general government,
which peaked at 6.3 per cent of GDP in the recession year 1993, is currently estimated
to decline gradually to 4.5 per cent of GDP in 1995 and to 3.9 per cent by 1996.
Between 1994 and 1996, the largest reduction in the deficit is projected to take place
in Finland and Sweden (4.6 and 4.5 percentage points in terms of GDP, respectively),
followed by the UK (4 points), Denmark (2.8 points), and Greece (2.3 points). In
addition to these five countries, five more, Belgium, Spain, France, Italy and Portugal,
are expected to register deficit reductions ranging between one and two percentage
points of GDP, with Spain and France envisaged to make the greatest degree of
progress amongst this group. No significant change is expected in relation to the five
remaining Member States which, with the Netherlands and Austria, includes the three
countries which were below the reference value of 3 per cent of GDP in 1994, namely
Germany, Ireland and Luxembourg. On the basis of the present forecasts seven
Member States will have a general government deficit at or below the reference value
of 3 per cent of GDP by 1996.
The forecasts are based on the assumption of unchanged policies; however, not all
Member States have announced their concrete budgetary intentions for 1996. An
implication of this assumption for the projected fiscal adjustment is provided by the
 ---pagebreak---                                                                 18
decomposition of the change in net borrowing into a cyclical and a discretionary part.
Table 7 shows that over a three-year period of strong economic growth (1994-96)
only small reductions in the structural deficits are expected to take place. The 1.6
point in terms of GDP cumulative decline in Community net borrowing between 1994
and 1996 reflects only 0.8 of one per cent of GDP discretionary deficit reduction.
Table 6
                                     General government deficit
                                                      (per cent of GDP)
                                1993                         1994          1995  1996
        B                         6.6                           5.3          4.2   3.9
        DK                        4.5                           4.0          1.9   1.2
        D                         3.3                           2.5          2.1   2.4
        GR                       13.2                         12.5         11.3  10.2
        E                         7.5                           6.6          6.0   4.8
        F                         6.1                           6.0          4.9   3.9
        IRL                       2.4                           2.3          2.8   2.6
        1                         9.6                           9.0          7.9   8.1
        L                        -2.1                          -2.3         -1.4  -1.5
        NL                        3.3                           3.1          3.2   2.5
        A                         4.1                           4.0          4.6   3.9
        P                         7.0                           5.8          5.6   4.7
        FIN                       7.8                           5.6          5.0   1.1
        S                        13.4                         10.4           9.1   5.8
        UK                        7.8                           6.9          4.8   2.9
        EC                        6.3                           5.5          4.5   3.9
Source: Commission Spring 1995 economic forecasts; (-) indicates a surplus
The persistence of fiscal disequilibrium has contributed significantly to the growth in
the general government indebtedness in the Community. At the beginning of the
present decade the ratio of general government debt to GDP in the Community was
55.8 per cent; as can be seen in table 8, it grew to 66.2 per cent in 1993, and it is
currently expected to grow to 70.4 per cent of GDP by 1996. In 1996, four Member
States (Germany, France, Luxembourg, and the UK) are projected to have a debt ratio
below the 60 per cent of GDP mark. Of the remaining Member States, the debt ratio
is projected to increase in six (Greece, Spain, Austria, Portugal, Finland, Sweden),
while in another five (Belgium, Denmark, Ireland, Italy, the Netherlands) it is
projected to decline. Despite the good growth prospects, these trends suggest that
substantially more ambitious fiscal plans than those currently contemplated are
necessary in order, in several cases, to stabilise the debt ratio and to place it
unambiguously on a downward path.
 ---pagebreak---                                                                       19
From a medium-term perspective, covering the period 1993-1996, in four Member
States (Belgium, Denmark, Ireland, the Netherlands) the debt ratio is projected to
decline, with the largest decline projected to take place in Ireland (16.2 percentage
points in terms of GDP), followed by Belgium and Denmark (4.9 points) and by the
Netherlands (4.3 points).
Table 7
     Changes in the actual and cyclically adjusted general government deficit
                                                           (per cent of GDP)
                      Changes in the actual deficit                         Changes in the cyclically-adjusted deficit
               1993           1994             1995          1996           1993            1994      1995           1996
  B             -0.1           -1.3             -1.1          -0.3           -2.4             -1.0     -0.8             0.1        B
  DK             1.6           -0.5             -2.1          -0.7             1.2             0.8     -1.3           -0.4         DK
  D              0.4           -0.8             -0.4           0.3           -1.4             -0.7     -0.3             0.3        D
  GR             0.9           -0.7             -1.2          -1.1             0.2            -0.8     -1.1           -0.9         GR
  E              3.3           -0.9             -0.6          -1.2             0.9            -1.3     -0.2           -0.7         E
  F              2.2           -0.1             -1.1          -1.0             0.5             0.1     -0.7           -0.5         F
  IRL            0.0           -0.1              0.5          -0.2           -0.8              0.5      1.2           -0.2         IRL
  1              0.1           -0.6             -1.1           0.2           -1.2             -0.4     -0.6             0.8        1
  L*            -1.3           -0.2              0.9          -0.1           -2.0             -0.4      1.1            -0.3        L
  NL            -0.6           -0.2              0.1          -0.7           -2.2             -0.2      0.7            -0.4        NL
  A              2.1           -0.1              0.6          -0.7             0.9             0.1      0.7            -0.6        A
  P              3.7           -1.2             -0.2          -0.9             2.1            -1.7      0.1            -0.4        P
  FIN            1.9           -2.2             -0.6          -3.9             0.1            -0.6      1.9            -2.4        FIN
  S              5.6           -3.0             -1.3          -3.3    .        2.4            -2.0      0.0            -1.9        S
  UK             1.7           -0.9             -2.1          -1.9             1.4            -0.1     -1.6            -1.6        UK
  EC             1.2          -0.8             -1.0          -0.6           -0.4            -0.5      -0.5           -0.3          EC
Source: Commission Spring 1995 economic forecasts; (-) indicates a reduction, (+) indicates an increase in the respective deficits
* Luxembourg has a surplus, thus a (-) indicates an increase, (+) a reduction in its surplus.
In France the debt ratio is projected to increase to 52.8 per cent of GDP by 1996,
while in the UK it is projected to stabilise at 51.5 per cent of GDP this year and next.
In Germany, the sharp rise in the debt ratio this year is a reflection of the take-over by
the general government of off-budget liabilities related to unification.
In Greece and Italy a rise in the debt ratio by 1 and 5 points, respectively, is projected
between the period 1993-1996. In Italy the debt ratio is expected to have peaked in
 1994 and relative to this mark a modest adjustment is projected for this year and next.
In Greece, where the debt ratio is also already very high, debt convergence will be
worsening this year and next.
 ---pagebreak---                                                                        -20
 Finally, worsening convergence on the basis of the debt criterion is also expected to
 take place in Spain and Portugal, where the debt ratio is projected to rise by 5.3 and by
 4.1 points, respectively, between 1993 and 1996 and to reach 65.2 and 70.7 per cent
 of GDP, respectively, in 1996.
 Table 8
                                            General government gross debt
                                                                 (per cent of GDP)
                                          1993                         1994                   1995                        1996
              B                            137.2                        136.1                  134.3                       132.3
              DK1)                           80.3                        75.6                    76.1                         75.4
              D                              48.2                        50.1                    58.2                         58.1
              GR                           115.2                        114.1                  115.3                       116.2
              E                              59.9                        62.3                    64.6                         65.2
              F                              45.8                        48.5                    51.2                         52.8
              IRL                            97.0                        89.8                    84.6                         80.8
             I                             119.4                        125.4                  124.9                       124.4
              L                               6.9                          7.2                    7.6                          7.8
              NL                             81.4                        78.1                    78.1                         77.1
             A                               62.8                        64.5                    66.2                        67.4
             P                               66.6                        69.2                    70.5                        70.7
              FIN                            57.1                        60.1                    64.4                        64.6
             S                               76.2                        79.1                    84.6                         85.7
             UK                              48.5                        50.1                    51.5                        51.5
             EC                              66.2                        68.1                    70.3                        70.4
Source: Commission Spring 1995 economic forecasts
1) Government deposits with the central bank, government holdings of non-governmental bonds and public enterprises related debt amounted
to 23.4% of GDP in 1994
2) The sharp increase in the German debt ratio in 1995 is mainly caused by the take-over by the government of off-budget unification-related
liabilities, the most important of which is the debt of the "Treuhandanstalt"
Worrying trends have also emerged in the debt ratio in the three new Member States.
While the large increases occurring over the period 1993-1996 reflect to a
considerable extent the impact of the recession, it is also clear that adjustment plans of
greater ambition are necessary in order to halt the rise, and to ultimately reverse
direction, in the path of the debt ratio. In May 1995 Austria presented a convergence
programme and Sweden is expected to do so in June.
It is possible that the persistence of fiscal imbalances in the Community countries, and
the failure to decisively advance fiscal consolidation in periods of strong economic
growth, reflect also the importance of budget institutions and procedures in the
determination of fiscal deficits as well as the nature of political discourse. In several
Community countries the rules according to which budgetary policy is approved and
 ---pagebreak---                                           -21 -
amendments to budget plans are admissible, play a key role in fiscal outcomes. It is
also possible that the form the commitment to fiscal consolidation takes may not be
conducive to fiscal discipline; for example, it may be appropriate to combine improved
budget procedures with numerical fiscal targets in order to enhance the probability that
fiscal programmes are actually implemented as planned.
The importance of these considerations has now become more pronounced, both
because it is necessary to explore all avenues to strengthen fiscal discipline in the
Member States and in order to increase the probability that fiscal convergence criteria
are met by the largest possible group of countries prior to the move to stage III of
EMU.
The forecast for 1996 indicates that, on the basis of the adjustment measures which
have been clearly specified so far among those Member States which have set fiscal
targets in their convergence programmes, the fiscal objectives will not be uniformly
respected. Adjustment to achieve the deficit target of the convergence programme is
required, albeit of different magnitude, in the cases of Belgium, Germany, Greece,
Spain, France, and Portugal; in all these cases, the projected deficit is larger than that
set in the convergence programme. On the other hand, Denmark, Ireland, the
Netherlands, and the UK are expected to meet the deficit objectives by next year. Of
the new Member States, Austria has recently submitted a convergence programme and
Sweden is expected to do so in June. In both cases more ambitious targets would be
required to ensure that fiscal convergence is secure. Finally, in Finland where a
substantial fiscal consolidation effort is under way, policies should ensure that the
projected reduction of the deficit in 1996 is in fact realised.
3. The policy objectives and risks
The Broad Guidelines of December 1993 and July 1994 have laid out the broad thrust
of the policies needed to achieve economic convergence and to foster job creation.
The 1995 Broad Guidelines should confirm these objectives.              In addition, the
recommended policies should take account of the risks and concerns characterising the
current economic outlook.
The Community economy is still broadly expanding at the pace forecast a few months
ago, even if growth prospects have become somewhat less favourable.                   The
improvement in the consumer and business confidence indicators stalled at the
beginning of this year, even before the recent period of exchange rate instability. In
 ---pagebreak---                                             -22
addition, a new period of weakness of the US dollar vis-à-vis the European currencies
would create an atmosphere of greater uncertainty that might jeopardise the projected
positive growth. On the other hand, it should be stressed that, as already noted, the
main factors affecting growth prospects - notably world trade and investment
profitability - remain good and that a rate of growth stronger than the one now
projected cannot be ruled out.         Economic policy must therefore act to prevent
developments that might jeopardise the continuation of the growth process.
The first risk to be considered is that of a renewed resurgence of inflation. As regards
the consequences of the recent currency movements for inflation two different groups
of countries may be identified: on the one hand the countries whose currencies
appreciated in effective terms and who are therefore likely to "import" price stability
and on the other hand the ones whose currencies devalued (especially Italy) and whose
inflation, all other things held equal, will tend to increase. Overall, this risks making
inflation performances more divergent than prior to the recent exchange market
episodes.
Inflationary pressures may appear due to the fact that the economy's actual rate of
growth may approach to or exceed the potential rate of growth, especially in 1996,
which would cause capacity constraints leading to inflationary tensions. This risk will
be less apparent if business investment in the Community increases significantly over
the next few years. Furthermore, there may be a danger that wage settlements will be
higher than currently forecast and put upward pressure on prices and/or lead to
reduced investment profitability.       This danger could also arise from a desire to
compensate, too rapidly and at the expense of growth and employment, for the low
increases or, in some cases, actual declines in real wages during the 1993-94 period of
sluggish economic growth and of rising unemployment. Some countries are already
expected to record inappropriately high wage increases in 1995-96.
The second, and more worrying, concern is that budgetary positions in several
Member States remain unsatisfactory. Increased consolidation efforts are therefore
necessary and the elimination of structural budgetary deficits must be tackled now,
during the recovery, when the Member States can also take advantage of the
functioning of automatic stabilisers. In addition, with the still high levels of public
debt, several Member States continue to be very vulnerable to interest rate shocks that
are possibly associated with uncertainties about fiscal, exchange rate and price
 ---pagebreak---                                             -23-
 developments and could in those countries effectively eliminate the budgetary gains
 likely to occur during the recovery.
Finally, as already put forward in the Commission's 1995 Annual Economic Report,
the favourable economic conditions created by the recovery may give rise to
 "adjustment neglect". This could take the form of a less determined commitment by
the public authorities to tackle the structural causes of the high budget deficits as the
 recovery makes a positive cyclical contribution to tax receipts and to the budget
balance. Furthermore, the efforts aimed at the removal of labour market rigidities
may seem less urgent in the short term when employment is starting to rise again and
unemployment is falling. Such a relaxation in consolidation and reform efforts would
 seriously put at risk the successful transformation of the recovery into a sustained and
job-creating growth process, would contribute to an unbalanced policy mix and would
increase the risk of a new recession.
Strengthening convergence and sustaining economic growth will require that the
opportunities emerging in the present recovery are wisely taken advantage of. It is
clear that an important contribution to inflation convergence will be made by wage
developments.
If nominal wage increases begin to accelerate with the consolidation of economic
growth, especially before unemployment declines substantially, also giving rise to an
acceleration of inflation, the Member States may have to undergo another deflationary
cycle; at current levels of unemployment, such an episode they can ill afford.
Moderate wage growth will also contribute to fostering investment. The recent
recovery of private investment is a reflection of the propitious economic prospects and
of a wage growth inferior to labour productivity increases. The strength of investment
expenditure, if sustained, will contribute to raising potential output and to fostering job
creation.
A wise use of the recovery will require that the Member States, first and foremost,
consolidate their public finances.         Sustainable fiscal positions are a necessary
condition to support economic growth and durable employment creation. It is evident
that the policies which are required to sustain long-term economic growth, foster job
creation and reduce unemployment, and strengthen convergence are mutually
consistent.
 ---pagebreak---                                            -24
Recent developments in the foreign exchanges indicate how important stability of
exchange rates within the Community is for furthering economic integration and
completing the single market.         Exchange rate changes can lead to resource
misallocation when investment decisions, made on the expectation of depreciation-
induced competitiveness gains, prove ultimately obsolete when competitiveness is
eroded either as a result of nominal exchange appreciation or because of higher
inflation. Furthermore, the possibility of exchange depreciation undermines wage and
price discipline since losses in competitiveness can be, temporarily at least, recovered
through exchange devaluations; as a result, reductions in inflation and price stability
become difficult to achieve. Finally, as devaluations offer a prospect of temporarily
improving competitiveness, they raise the possibility of practising beggar-thy-neighbor
policies, which are not compatible with the completion of the internal market.
4. The Policies
The principal task of economic policy at this stage of the cycle is to ensure that the on-
going recovery translates into non-inflationary, employment-creating, growth. In view
of the risks impinging upon the economic outlook, and the progress yet to be
accomplished in convergence, macroeconomic and structural policies should be
directed towards securing price stability, fostering fiscal consolidation, and
strengthening the dynamism and competitiveness of the Community.
4.1 Macroeconomic policies
The main task of macro-economic policies will be to maintain a stable framework
which will prevent the appearance of the tensions which have contributed to the
recession of 1992-93 and which will foster a continued steady increase in potential
output. As the previous sections have underlined, key developments give cause for
concern on both counts. At the same time, with the consolidation of economic
growth and the approach to stage III of EMU, the challenges confronting the Member
States have become more pronounced, while the diverging trends which have emerged
as a result of exchange rate changes have also raised important questions about the
appropriate economic policies.
Securing and furthering the progress made on inflation, and sustaining economic
growth is a crucial challenge for monetary and exchange rate policy in the current
cycle. A necessary contribution to the task of defending price stability in this context
will have to be provided by fiscal consolidation policies. While in virtually all Member
 ---pagebreak---                                             25
 States such policies are required, these are especially urgent in those Member States
where fiscal deficits and rising debt burdens, and the associated inflation and exchange
market developments, place the greatest burdens on the conduct of monetary policy
and where the risks of a substantial acceleration of inflation are greatest. Equally
necessary will be policies encouraging non-inflationary wage developments and, over a
longer-term horizon, increased competition in product markets.
Stability of exchange rates within the Community is essential for the proper
functioning of the internal market. In Member States where fiscal positions are
diverging and which have experienced exchange depreciations (Greece, Spain, Italy,
and Sweden) it is essential that a bold and credible efforts are undertaken to foster
fiscal consolidation. More generally, credible fiscal consolidation measures will
contribute to reducing exchange rate instability. This will contribute not only to
resolving concerns about competitive disruptions of the internal market, but it will also
create the conditions for reductions in interest rates, and it will ultimately facilitate the
implementation of the fiscal adjustment programme.
Budgetary policy directed towards consolidation will play a crucial role in reducing
the risks of an acceleration of inflation, of exchange rate instability, and of further
worsening fiscal imbalances.
Fiscal consolidation is necessary not only in order to foster stable inflationary
expectations but also to sustain the progress made in reducing inflation. This is
particularly important in Member States with persistent fiscal imbalances and persistent
inflation (Greece, Italy, Spain). Failure to make decisive progress in redressing the
fiscal imbalances, especially in an environment of strong economic growth, will
increase uncertainty about the intentions of the fiscal authority. This uncertainty has
been contributing to raising real interest rates and to, in turn, making fiscal
consolidation more difficult to achieve in several Member States.
Incomplete credibility of the fiscal consolidation plans may also be reflected in
exchange rate instability, higher real interest rates and increases in interest rate
differentials vis-à-vis other countries. Domestic and international investors holding
government debt require an increase in the rate of return, or a strong exchange rate, to
compensate for the increased risk, a combination of circumstances which is inimical to
both economic growth and to fiscal adjustment. The instability characterising
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exchange rates in Greece, Spain, Italy and Sweden is partly a reflection of the
continuing lack of resolution of the fiscal difficulties.
Over the medium term, fiscal consolidation will contribute to raising the level of
national saving and will, through this channel, contribute to increasing the level of
potential output.
Respecting the fiscal convergence criteria remains an area where sustained efforts will
have to be expended. According to the Spring 1995 forecast, seven Member States
are expected to have deficits below the 3 per cent of GDP mark in 1996 (Denmark,
Germany, Ireland, the Netherlands, Finland, and the UK; Luxembourg is expected to
have a surplus). In these Member States the efforts to consolidate the public finances
must be pursued with determination. In Belgium, France, and Austria, attaining the
reference value for the deficit in 1996 would be within reach, provided that the
adjustment effort gains renewed momentum. While no forecasts exist for the outer
years, it is clear that for the remaining Member States the objective to respect the
fiscal convergence criteria by 1999 must, even more than today, become a principal
policy objective.
The policy mix required in the individual Member States reflects the uneven
distribution of policy risks. The Member States whose currencies have experienced
depreciations over the recent months will likely see an increase in the inflationary
pressures while the interest rate implications of the exchange rate instability will
undoubtedly make budgetary consolidation more difficult. In general, these countries
had already unsatisfactory starting positions. The depreciations will lead to higher
import costs and, through the effects on export growth and economic activity in
general, will contribute to narrowing the output gap.
In these Member States the policy mix must be resolutely oriented towards containing
the inflation risks and towards stepping up the efforts to consolidate budgetary
positions. In these countries it will be particularly important to prevent, through the
instruments available in each country, that the increase in imports costs may lead to a
price and wage inflation spiral.
In the Member States whose currencies have experienced appreciations, inflationary
risks will be generally contained. However, given that the success of these countries
in containing inflation owes much to the external constraint, it will be important to
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make sure that pay trends do not lead to reductions in investment profitability.     There
are indications that this may be happening in Germany.
Investment profitability must still increase substantially in most countries if investment
is to expand to the extent necessary to ensure sustained growth in the medium term.
In some cases, the stability of exchange rates could only be maintained at the cost of
increases in the interest rate differentials with Germany. This suggests that markets
still perceive some risks in the budgetary positions of these countries. Determined
corrective action could bring substantial benefits through the reduction, or the total
elimination, of these differentials.
4.2.       Policies for greater competitiveness
Structural measures aimed at promoting the competitiveness, dynamism and overall
productivity of the Member States' economies are essential to the achievement of the
Community's twin policy objectives of strong, employment-creating growth and
enhanced nominal convergence.           Such measures are particularly important at the
present time to strengthen economic growth, but also given the renewed anxiety about
inflation especially in those Member States which have witnessed substantial
depreciations of their currencies.
The 1993 White Paper advocated reforms directed towards increasing the endogenous
growth forces of the Community's economy as the means to securing the basis for its
long-term prosperity. A variety of proposals aimed at making the Community
economies more dynamic were subsequently incorporated in the 1993 and 1994
Guidelines exercises. Such proposals, which were to be carried out at both the
Community and individual Member State levels, were essential to the quest to promote
the productivity and competitiveness necessary to underpin stronger growth and
employment creation.
Efforts at enhancing productivity and employment growth can only be successful if
carried out in the context of a flexibly functioning economy which is capable of
exploiting the opportunities generated by a rapidly changing technological and social
environment. In this regard efforts are being undertaken to:
      exploit the opportunities associated with the internal market, an open world
      trading system and to safeguard the Community's competitiveness;
      accelerate the realisation of the Trans-European networks;
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      push through rapidly the Action Plan concerning the development of the
      information society;
      exploit the growth and employment potential offered by SMEs;
      and actively promote Community initiatives in Research and Development
      (R & D) and call for a greater .degree of co-ordination of Member States' R & D
      policies.
In relation to the internal market, strong efforts have been undertaken to transpose the
relevant directives into Member States' legislation. However, transposition has been
 slow in the key sectors of insurance, company law, intellectual and industrial property,
public procurement, new technologies and services, financial services, and freedom of
movement.
The Essen European Council stressed the intention of the Council to pay particular
attention in the future to the competitiveness of the European economy. In this
connection the Commission has established a high-level group to deal with
competitiveness and to submit appropriate reports on these matters2. This the
Commission duly followed through on with the formation of the Competitiveness
Advisory Group at the beginning of 1995. The high-level Legislative Administrative
Simplification Group ("Deregulation Group") has begun its work. It has stressed the
need to monitor Community and national law for over-regulation and it requested the
"Deregulation Group" to submit a report by June 1995.
Initiatives in the area of the Trans-European networks in the transport, energy and
environmental spheres have also been receiving a lot of attention. The Group of
Personal Representatives of Heads of State or Government (the Christophersen group)
submitted their report to the December 1994 European Council. It confirmed that the
eleven priority projects decided upon at the Corfu European Council in June 1994 and
the three new projects concerning the Nordic Member States and Ireland had already
been started or were in a position to commence shortly.
In relation to the establishment of the information society, this has been the object of
an Action Plan adopted by the Commission in July 1994, which encompassed all
     See also "An Industrial Competitiveness Policy for the European Union", Communication from the Commission to
     the Council, COM(94) 319 final, September 14, 1994 and two companion documents: "Report on the
     Implementation of the Council Resolutions and Conclusions on Industrial Policy", SEC(95) 437 final, March 22,
     1995 and "Action Programme and Timetable for Implementation of the Action Announced in the Communication on
     an Industrial Competitiveness Policy for the European Union", COM(95) 87 final, March 30, 1995.
 ---pagebreak---                                           -29-
 aspects addressed in the report of the Bangemann group. In its November 1994
meeting this Council discussed the Commission's liberalisation timetable. The
December European Council emphasised that the Commission's Action Plan and the
 conclusions of the Ministers for Industry and Telecommunications had set the agenda
for the development of an information society. With regard to developments in 1995,
as a follow-up to the G-7 ministerial meeting of February 1995, the Group of
Commissioners on the Information Society was established
Raising the productivity of the Community's economy using these initiatives has the
potential to contribute to strengthening employment creation. There is no necessary
contradiction between productivity growth and employment creation.
However three conditions must be met to ensure that the relative price mechanism
makes possible a redistribution of productivity gains between sectors, enabling sectors
with low productivity growth to create new jobs and to maintain similar wages for
similar work:
     relative prices must continue to change without artificial rigidities, and the
     increased competition andflexibilityon all markets should help this;
     sectoral changes need to be socially acceptable, with market mechanisms being
     complemented by forward looking active policies and social dialogue;
     the overall macroeconomic rate of growth must be strong enough to allow for a
     positive balance between job creation and job destruction across sectors.
4.3 Employment and labour market policies
The economic recovery, if it progresses as predicted, could absorb by 1997 the cyclical
component of unemployment.          This component is estimated at about 3 million
unemployed or only 2 percentage points of the present eleven per cent rate of
unemployment in the Community. To absorb 3 million unemployed is indeed a first
important step and an essential one towards the achievement of the White Paper
objectives. Nevertheless, in order to reduce, in a significant and progressive manner,
the remaining 9 per cent of unemployment, it is necessary not only to achieve a strong
and sustainable medium-term growth process, brought about by investment in order to
create the necessary working posts, but it is also necessary to implement more active
and more efficient labour market policies which may need to bring about significant
changes in the areas of educational systems, labour law, work contracts, wage
settlement arrangements and the social security systems.
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To this end, the Essen European Council, identified the following five priorities:
 1) Improving the employment opportunities for the labour force by promoting
     investment in vocational training,
2) Increasing the employment intesiveness of growth,
3) Reducing non-wage labour costs,
4) Improving the effectiveness of labour market policies,
5) Improving measures to help groups which are particularly hard hit by
     unemployment.
Active and more efficient labour market policies contribute to the goal of increasing
employment through three main channels:
i)   reinforce the growth potential itself by an improvement in the quality of human
     capital;
ii) make growth more employment-creating without, however, negatively affecting
     the growth process itself; and finally
iii) facilitate, to the extent that the new jobs will become available, the absorption of
     those unemployed who are still easily employable as well as to help the long-term
     unemployed and particular disadvantaged groups who cannot easily occupy the
     available working posts and who risk being affected by social exclusion.
Labour market policies in the above three areas constitute not only an indispensable
complement to macroeconomic policies and to structural policies in the area of
competitiveness but they also contribute to maintaining and reinforcing cohesion and
social consensus inside the Union in the long and difficult process of absorbing
unemployment.
i)   As regards the improvement of the quality of human capital, it is a matter of
     strengthening the systems of professional training, in particular that of the young,
     and to promote continuous training of the workforce in order to prepare and
     adapt the latter to social and technological change in a world of free trade and in a
     process of strong structural adjustment. These policies will improve the flexibility
     of the labourforce, individual opportunities, and the comparative advantage of the
     European economy in comparison with other geographical regions of the world
     [Essen priority n° 1].
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     These policies will increase the growth potential of the European economy and,
     like the policies for competitiveness, will generate their full benefit from the point
     of view of both their costs and their creation of employment, if simultaneously the
     effective rate of economic growth can develop without encountering the obstacles
     of inflation and of capacity constraints.
ii) The contribution of the medium-term growth process to the reduction of
     unemployment is indispensable, but it must be complemented by a large effort,
     targeted and concrete, to increase the employment content of growth [Essen
     priority n° 2J. Actions in three areas, which must not hold back the growth
     process itself, are necessary in this regard:
     •    the examination, by the social partners, of whether a reorganisation, a
          reduction and/or new patterns of working time could lead to increases in the
          employment content of growth without reducing the competitiveness of firms.
          In particular, the de-coupling of the working time of individuals from that of
          the enterprise may open promising opportunities: the existing capital stock -
          equipment, premises, etc. - could be better exploited with significant
          productivity gains which may be used to encourage different working patterns
          among the employees. Development of part-time and other atypical forms of
          employment may also help.          Progress in this area might also require a
          revision of existing regulations [Essen priority n° 2].
     •    increasing the incentives to employment by reducing non-wage labour costs,
          especially at the lower end of the wage and productivity scale, without
          harming other parts of the labour market; from a macroeconomic point of
          view this must be achieved in ways which do not compromise the reduction
          of budgetary deficits nor the competitiveness of enterprises. Reforms,
          including where appropriate alternative financing sources for social protection
          systems, are therefore required [Essenpriority n° 3J;
     •    easing the development of new employment opportunities and activities, e.g.
          those linked to the service society and environmental sustainability [Essen
          priority n° 2].
iii) The task of facilitating the absorption without tensions of the unemployed and the
     new entrants to the labour market, when the economy makes available the new
     working posts, concerns firstly the efficiency of labour and manpower offices and
     the promotion of flexibility in the areas of professional and geographical mobility
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     [Essen priority n°4J. An important part of the non-cyclical component of
     unemployment could be progressively integrated into working life by reasonable
     efforts in these areas provided that the recovery can be transformed into the
     medium-term growth and employment creation process described by the White
     Paper and aimed at by the present economic policy guidelines.
     Nevertheless, to significantly reduce the hard core of structural unemployment -
     which could represent about half of the 9 per cent of non-cyclical unemployment -
     different and much greater efforts will be necessary. It is a matter not only of
     strengthening the link between the granting of social allowances and the
     availability of the unemployed to accept work, but especially of reinforcing active
     labour market policies aimed at improving the "employability" of long-term
    unemployed workers by giving access to specific training and of concentrating the
     latter on particularly disadvantaged groups i.e. women, young people and older
     citizens who risk to being affected by social exclusion [Essenpriority n°5].
     These relatively expensive policies also only achieve their full benefit if labour,
    which in this way is rendered employable, has the opportunity in practice to find a
    job. Nevertheless, these policies must not only be evaluated in terms of their
     immediate economic benefit; taking into account the inevitable and necessary time
     to significantly reduce the hard core of structural unemployment, these policies
     must also act to safeguard the existing human capital of the unemployed in order
    to prevent social exclusion and to maintain social cohesion.
In order to better organise the implementation of the priorities identified by the Essen
European Council, the Commission, on 8 March 1995, presented a Communication to
the Council in which it suggests the implementation, in the context of Article 103 of
the Treaty, of a surveillance procedure with regard to employment trends and policies.
                                            •
                                            •
Bearing these considerations in mind, the Commission is proposing the present broad
economic policy guidelines for the Community and the Member States which confirm
the medium-term framework of those of June 1994, and assert the policy priority of
reducing unemployment.
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                                                                    ISSN 0254-1475
                                                             COM(95) 228 final
                                               DOCUMENTS
 EN                                                                            10
                                     Catalogue number : CB-CO-95-270-EN-C
                                                              ISBN 92-77-89585-3
Office for Official Publications of the European Communities
L-2985 Luxembourg