“The recovery is likely to be slow and its shape and timing highly uncertain,” the International Monetary Fund said on Monday after annual consultations with the 16 eurozone economies.
It said that while government actions taken so far have helped stabilise the European banking system, policymakers needed to take “further decisive action, especially in the financial sector”, it said in a statement.
The banking system continued to face “stresses” while conditions for access to bank lending were tight, funding costs remained high, and some segments of the financial markets were functioning poorly, the Washington-based Fund said.
“Moreover, sizeable losses lie ahead as the recession unfolds. As a result, the financial sector is hamstrung in fulfilling its vital intermediation role,” it pointed out.
The IMF had forecast in April that Europe’s economy will shrink 4.2 per cent in 2009 and 0.4 per cent in 2010.
Central banks in Europe have lowered their interest rates considerably to cope with its worst recession since World War II.
The IMF said “tentative signs of improvement” from the recession had “yet to germinate into a recovery” in Europe.
It said a “key missing element” from the European strategy to address the crisis was a “proactive” strategy to deal with a weakened financial system.
It involved a review of capital needs to manage the recession, a cleansing of the financial system of its impaired assets, and a restructuring of weakened institutions, the Fund said.
“The momentum to reform Europe’s financial stability arrangements triggered by the crisis should be seized without delay, and extended to efforts to deliver fiscal sustainability and to structural reforms, with the latter crucial to shore up flagging growth potential,” it said.
The IMF sought “more effective coordination of policy actions across areas and borders, including support for neighbouring emerging economies”, to help restore confidence in the region’s economy.
It also highlighted “strong disinflationary pressures” in the eurozone, adding that the recent euro appreciation and large and widening output gaps “will depress pricing power”.