ACTION: A woman protests in Lisbon on Tuesday. Picture: REUTERS
ACTION: A woman protests in Lisbon on Tuesday. Picture: REUTERS

BRUSSELS — The eurozone should ease up on deep government spending cuts but stick to the path of reform, the Organisation for Economic Co-operation and Development (OECD) said on Tuesday, adding its voice to those calling for a softening of cost-cutting they see as choking economies.

Budget cuts are at the centre of the eurozone’s strategy to overcome a three-year public debt crisis, but since the bloc sank back into recession this year, policy makers are beginning to question the wisdom of such aggressive deficit reduction.

Against a backdrop of record unemployment and strikes across Europe this month, the OECD said simultaneous spending cuts in almost all eurozone countries had worsened the crisis. It urged countries that could afford to, such as Germany, to be prepared to raise spending to help growth.

"We recognise that one of the causes of the slowdown is fiscal tightening," said OECD chief economist Pier Carlo Padoan.

"If the situation deteriorates further, those countries with fiscal space should use it, by possibly adding some stimulus or further discretionary easing if need be," he said, singling out Germany in the eurozone and China.

After years of overspending, southern Europe is cutting public sector wages and spending on hospitals and schools, while Belgium and France are also under pressure to control their deficits. That is also translating into less demand for German goods and eating away at business confidence across the bloc.

The OECD’s call follows an admission by the International Monetary Fund (IMF) last month that the damage from aggressive austerity may be up to three times more than previously thought.

The European Commission, which polices the eurozone’s efforts to bring down budget deficits, has softened its stance, granting Spain and Portugal more time to meet European Union (EU)-mandated fiscal targets.

Eurozone finance ministers this month gave Greece two more years, until 2016, to reach its goals.

The eurozone’s €9.4-trillion economy, which generates a fifth of global output, slid into its second recession since 2009 in the third quarter.

Full-year 2012 is expected to show it contracted slightly.

The commission sees just 0.1% growth next year, while the OECD forecasts another year of contraction.

"We have gained in Europe a window of opportunity," Mr Padoan said on the European Central Bank’s plan to buy government bonds of countries who request help from the eurozone’s permanent European Stability Mechanism bail-out fund.

Among the worst affected states is Portugal. The OECD said Portugal’s economy will contract twice as much as previously expected next year and the bailed-out country risks falling into a fiscal and financial downward spiral. It also warned that further budget tightening will "likely" be needed to meet deficit targets set out under the €78bn EU-IMF bailout.