Public Information Notice No. 02/89

Public Information Notice: IMF Concludes 2002 Article IV Consultation with Austria

August 14, 2002

On August 7, 2002, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Austria.¹

Background

After decelerating sharply in 2001, economic growth in Austria is projected to strengthen gradually during 2002, parallel to the expected improvement in the global economic climate. Real GDP growth is projected to average 1 percent this year, supported by a recovery in investor confidence and strong competitiveness. Despite the recent increase, the unemployment rate remains one of the lowest in Europe at about 4 percent. After rising to above 2 percent in 2001, headline inflation subsided to 1.6 percent in May.

After years of policy drift, fiscal policy had targeted balancing the general government budget by 2002. The government's 2001-02 adjustment program combined a tax package, savings on expenditures at the federal level, and savings by the subnational levels of government. In the event, general government balance was reached already in 2001, one year ahead of schedule, on account of cautious budgeting on the revenue side, larger-than-expected effects from the tax measures of the adjustment program, and strict expenditure discipline. The government intends to stick to its fiscal adjustment plan in 2002.

Austria's financial sector has benefited from globalization, in particular from the expansion in central and eastern Europe. The supervisory and prudential framework for the financial sector have adapted to the new challenges, notably with the creation of a unified and independent supervisory agency. The agency, which has responsibility for banks, insurance companies, capital markets and pension funds, began operations on April 1, 2002.

Reforms to liberalize the economy and privatize state holdings in commercial enterprises have been given a new momentum. The first phase of the authorities' privatization program has been concluded. The liberalization of the electricity and gas markets will be completed ahead of EU deadlines, an independent competition authority has been established, and legislation has been recently introduced which aims at streamlining regulatory and administrative requirements for businesses.

Executive Board Assessment

Executive Directors commended Austria's solid growth performance and low unemployment and inflation. Although growth weakened considerably in 2001, conditions are in place for a gradual strengthening of activity in the second half of 2002, due in large measure to the authorities' sound macroeconomic and structural policies. Directors recommended that the authorities continue to strengthen their focus on medium- and long-term objectives, in order to help sustain Austria's good economic performance and cope with the challenges of population aging and globalization.

Directors commended the progress already achieved by the authorities in imparting a greater medium-term orientation to policy. Setting general government balance as the medium-term fiscal objective, and implementing the adjustment measures necessary to achieve it, were important steps to ensure sound public finances. Establishing an independent financial supervisor—the Financial Market Authority—and revising prudential and other regulations have modernized the supervisory framework. The renewed commitment to implement structural reforms—demonstrated by completion of the first phase of the privatization program, advancing deregulation of the network industries, and establishment of a new competition authority—has laid the groundwork to enhance the economy's fundamentals.

In light of Austria's medium-term goal of general government budget balance over the cycle, Directors endorsed the planned continuing fiscal retrenchment this year, noting in this connection the outlook for the economy and the setting of supportive monetary conditions. The authorities' intention to implement permanent expenditure reduction measures to replace last year's one-off revenue measures was welcomed.

Directors stressed that it will be important to safeguard the credibility of the authorities' fiscal strategy. In that light, any relaxation of the fiscal stance in the coming years would be undesirable. Noting the role of fiscal policy in stabilizing the economy, some Directors stressed that fiscal surpluses would be in order in periods when economic activity is strong. Directors also emphasized that the lower levels of government would also need to contribute to adjustment—within the framework of Austria's "internal stability pact"—and that public sector wage restraint would be critical.

In light of Austria's high tax burden, Directors endorsed the authorities' strategic goal of reducing the tax ratio substantially over the medium term. However, they cautioned that this goal must not jeopardize fiscal prudence and urged the authorities to combine tax relief with reductions of public expenditure so as not to endanger general government balance. Directors noted that a more detailed and comprehensive medium-term fiscal policy framework—including medium-term expenditure targets—would help ensure the consistency of multiple policy objectives, illustrate policy tradeoffs, and increase transparency. They welcomed the authorities' intention to adopt this approach.

Directors urged the authorities to address the particularly severe consequences of population aging, which imply a serious threat to the sustainability of the public finances. Public awareness of this threat remains limited, however, and preparations for dealing with it have been slow. Pension reforms aimed at extending the period of working life and containing benefits are needed urgently to avoid a worsening of the public pension system finances over the longer run. Several Directors saw a case for more ambitious fiscal consolidation in this long-run context. Directors warned against any complacency concerning demographic trends and urged timely implementation of the necessary measures.

Directors commended the recent institutional and legislative changes that have helped strengthen the financial sector supervisory and prudential framework—in particular, the creation of the Financial Market Authority (FMA). The FMA should cooperate closely with the Austrian National Bank, in order to avoid gaps in supervision and duplication. In light of the growing cross-border linkages of the Austrian financial sector, the authorities should continue their vigilance, and work toward closer cooperative relationships with supervisors in other countries—particularly in Central and Eastern Europe, where foreign exposure is concentrated.

Directors noted with satisfaction that Austria is complying fully with all the recommendations of the Financial Action Task Force. The authorities' commitment to participate in a Financial Sector Assessment Program at an early juncture is also welcome.

Directors encouraged the authorities to reinforce the momentum of their structural reforms. They emphasized further privatization, deregulation and regulatory reform, and greater labor market flexibility in order to strengthen competition and raise growth potential, in the context of the further challenges of globalization and coming EU enlargement.

Directors welcomed Austria's plans to raise its official development assistance to at least 0.33 percent of GNP by 2006, and encouraged the authorities to increase it further toward the international benchmark of 0.7 percent of GNP.