FRANKFURT (MNI) – If European countries do not take determined
action to rein in burgeoning public deficits, there could be a spiral of
rising debt and risk premia that could hamper economic growth, Germany’s
Bundesbank wrote Wednesday.

The current crisis has reinforced the need to stick to European
fiscal rules and has shown that reforming those rules is
“indispensable,” the central bank said in its Monthly Bulletin.

The Bundesbank argued that sovereign debt worries in the Eurozone
would likely weigh on EMU growth going forward, but it said it expected
GDP growth in Q2 to surpass the first quarter’s performance.

The underlying trend of growth in the Eurozone is still positive,
the bank argued.

“Without determined counter measures the danger exists — as
observed in the case of Greece — of a spiral of rising risk premia and
increasing debt, which in turn can be associated with negative effects
on growth,” the bank wrote.

With regard to tougher rules, it will no longer be enough for
countries to quickly repair excessive deficits, the Bundesbank argued.
Rather, more emphasis must be placed on achieving and maintaining sound
budgetary positions, it said.

Although recent growth in the Eurozone has been weak, “for the
second quarter a higher pace [of growth] is to be expected because of a
catch up effect in the construction sector,” the Bundesbank said.

“For the remainder of the year the underlying trend should remain
moderately upwardly oriented, despite the expiry of fiscal support
measures and the waning impulse of the inventory cycle,” the bank said.

The intensification of the debt problems in a few peripheral
countries and additional consolidation measures taken to address them
“will presumably tend to slow the trend of the Eurozone’s rate of
expansion for the time being,” the bank predicted.

“The global recovery has further solidified since the beginning of
the year,” the bank reported, explaining that momentum had come from
monetary policy and the inventory cycle, while expansionary fiscal
policy has waned.

Stock market gains into April demonstrated greater confidence in a
sustainable worldwide rebound, yet markets have been shaken in recent
weeks because of worries about contagion from the debt crisis in Greece,
the bank observed.

However, “the increased insecurity in the international stock and
bond markets has not yet been reflected in the real economy,” the bank
commented.

But, “it constitutes a risk, above all for the Eurozone,” the
Bundesbank cautioned.

–Frankfurt bureau; +49-69-720142; tbuell@marketnews.com

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