Such reforms, if well designed and fully implemented, will reorient the engines of growth towards high-productivity sectors and enable companies to thrive in the Single Market and in the global economy. Studies based on general equilibrium models have confirmed that the long-run growth effects of such reforms are indeed positive and potentially very high.13 [Slide 9] This is my last chart. It shows model-based simulations carried out for the Portuguese economy by using a large-scale new-Keynesian dynamic general equilibrium model of the euro area and the world economy.14 In the model simulations shown, the wage mark-up is reduced by 10 percentage points over a period of five years. The size of the reduction mimics the cumulated gross wage differential between Germany and the rest of the euro area countries between 2005 and 2010, that is, in the five years after Hartz IV reform. To obtain a comparable set of results, the price mark-up is also reduced by 10 percentage points over five years. These simulations show clearly that to maximise the impact of reforms on GDP and employment it is important that those reforms have to reduce both wage and price mark-ups. The simulations also show that the impact of reforms is positive already in the second year and increases progressively afterwards. All this is consistent with other  13  See Gomes S., P. Jacquinot, M. Mohr, M. Pisani (2011), Structural reforms and macroeconomic performance in the euro area countries. A model-based assessment, ECB working paper no.
In my book, this is not only bad for the needed cyclical recovery in aggregate demand. I suspect that it will impede the rebalancing of the economy’s productive capacity. Firms wishing to enter or expand export markets, or compete against importers, often need credit. Finance is the oil that lubricates the allocation – and so, in current circumstances, reallocation – of capital in our economy. This is manifestly affecting SMEs. My hunch is that housing market conditions are a factor too. As long as anyone can remember, a crucial element of SME finance has been the capacity of entrepreneurs to pledge their home at the outset of a loan or, contingently, if and when their business hits choppy waters. Uncertainties about the path of house prices do not make that a comfortable backdrop for lenders in current conditions. 2  BIS central bankers’ speeches  Rebalancing will affect labour market conditions too. Perhaps the greatest surprise to the MPC over the past few years has been subdued productivity growth. One could think of this as firms maintaining employment at higher levels than would have been predicted given the fall in the level of output. Labour hoarding. That squares with business managers explaining that they worry about “structural” skill shortages and so are loathe to lose employees who they will need when their markets recover. But it does not really square with surveys of business conditions reporting that firms say they are carrying relatively little spare capacity. We have scratched our heads about this.