IMF: Switzerland Must Implement Fiscal Stimuli

by Ulrika Lomas, Tax-News.com, Brussels

25 March 2009

The IMF has published details of its 2009 assessment of Switzerland, warning that despite strong economic fundamentals, Switzerland cannot escape the impact of the global crisis.

“In recent years, the Swiss economy has experienced high growth, low unemployment and modest inflation, with strong fiscal and external positions. However, its openness, both in trade and financial relations, means that the domestic economy cannot be isolated from foreign shocks. The transmission runs through two main channels: a financial channel, including the impact of the crisis on the balance sheets of financial institutions and business models looking forward; and a trade channel, through which the global slowdown affects demand for exports. Both the financial and real shocks associated with the crisis have a major impact on the outlook for the Swiss economy,” noted the IMF’s preamble.

Following the assessment, the IMF has warned that Switzerland can expect a significant economic decline:

“The economy entered a recession in the second half of 2008, as the global financial crisis intensified and world trade fell sharply. Looking ahead, there are clear signs that the decline will accelerate as a result of a further weakening of global demand. Along with a sharp contraction in exports, investments are now being postponed. Consumption has held up well so far, but as unemployment rises, household spending will lose momentum. Growth is expected to pick up gradually in 2010, in line with an expected global recovery. As elsewhere, inflation is projected to decline further in 2009, with a few quarters of negative rates due to temporary factors. The external position is expected to weaken, because of lower financial sector inflows, but the current account will continue to register large surpluses; the exchange rate is broadly in equilibrium.”

“The IMF has warned that despite a pro-active approach taken by Swiss authorities, more may be needed. Swiss authorities have taken wide-ranging measures to address risks to the stability of the banking system. In addition, the monetary policy stance has been relaxed aggressively, and a fiscal expansion is underway. However, uncertainty about future economic and financial sector developments — internationally as well as in relation to Switzerland — remains, and further policy action may be required if the turmoil continues. Determining the optimal policy mix to address both further economic weakening and continuing financial sector vulnerabilities is the key challenge looking ahead.”

Against this background the IMF has suggested that Switzerland explore options for fiscal stimuli to mitigate the effects of the current downturn:

“Supported by recent years of strong growth and the impact of the debt brake rule, fiscal consolidation has resulted in general government surpluses and a declining stock of public debt. In 2008, although the debt stock rose as a result of large one-off expenditures, the federal government’s structural surplus increased again. Over the current year, however, the fiscal situation is expected to deteriorate rapidly as the recession deepens. Despite the absence this year of large extraordinary expenditures, a federal government deficit is projected for 2009, which will widen over the forecast horizon. At other levels of general government, surpluses in 2008 will turn into deficits in 2009-10. If this process were to coincide with an overly mechanical application of fiscal rules — e.g. not using the option of greater flexibility in bad times, where appropriate — it would carry the risk of triggering procyclical tightening in 2010.”

“The planned and approved cantonal and federal measures amount to some 0.75% of GDP in 2009. Approval of the second federal stabilization package is important, and, in light of the deteriorating outlook, a third package should be considered to help support domestic demand in 2010. These measures contribute to the international fiscal policy response to the global crisis. The automatic stabilizers are allowed to work fully, and are particularly strong in unemployment insurance. Additional stimulus—to be closely coordinated between federal and cantonal governments—could consist of public investment and transfers targeted to low-income households, including to subsidize health care contributions. Stimulus plans should preserve sufficient fiscal room to allow additional public sector support for the financial sector, if needed.”

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