Fragile European economy, Draghi says

We still have a fragile European economy, the European Central Banks’ president, Mario Draghi, said at the 44th World Economic Forum Annual Meeting at Davos-Klosters, Switzerland.

“The recovery is gradually taking place but the risks are to the downside,” he added.

Draghi said Europe is on the right path to recovery, but EU Member States’ governments must continue with structural reforms.

Apart from booming stock markets, the European recovery is now moving from exports to domestic consumption.

However, in this fragile European economy growth is lopsided. Confidence and industrial production data have been sometimes good and other times not so good, creating a situation similar to one the US went through about eighteen months ago, Draghi said.

Unemployment persistently high

Although unemployment appears to have stabilized, it is still stubbornly high, he added.

While praising Italy, Spain, Portugal and Greece for successfully applying some much needed structural reforms, he urged their governments not to relax their efforts. He also called on Europe’s core countries to make progress too.

He described the outlook for such progress as positive “since all over now there is widely diffused awareness of the need for reforms”.

Fiscal consolidation cannot be unravelled, Draghi said, taxes and government spending both need to be cut to make it more pro-growth. He also urged governments to spend more on infrastructure. In order to reduce youth unemployment several countries need to alter legislation.

Inflation will rise eventually rise, but deflation still a threat

Draghi doubts inflation will stay below the 2% target set by the European Central Bank (ECB) over the next two years. He says he has already indicated that the ECB will keep interest rates down “for an extended period.”

After peripheral countries complete their adjustments in relative prices, Draghi expects inflation to gradually move to target over the medium term.

Regarding the threat of deflation, Draghi emphasized “We would use all the instruments that our mandate permits [to fight deflation].” Although he does not expect Europe to slide into deflation, he acknowledged that the risks could increase if low inflation persevered.

Banking system dramatically better today

Europe’s banking system is “dramatically” better than it was twelve months ago. The stress tests that will soon be carried out will improve confidence in the banking system by increasing transparency.

The aim is “to have one supervisor and one regulator for all banks in Europe. The ECB’s view is that there should be an accelerated timeline for breaking the link between banks and sovereigns,” this will be done through the creation of a European fund that will be independent of national governments, to backstop banks that find themselves in trouble.

Business leaders gathered at the World Economic Forum urged European governments to do more to encourage economic growth.