Euro zone finance ministers need to impress finance markets with the size of their rescue fund for indebted countries when they meet later this week, the head of the OECD said on Tuesday, advocating the mother of all firewalls.
Investors and many European officials want ministers to agree a combination of the 17-nation currency area's two rescue funds to nudge the International Monetary Fund into backing debt-stricken European economies, should they need help.
When dealing with markets you must overshoot expectations, said Angel Gurria, the secretary general of the Organization for Economic Co-operation and Development (OECD).
Gurria said an impressive firewall was crucial because the euro zone's public debt crisis was not over despite calmer financial markets this year, warning that the bloc's banks remain weak, debt levels are still rising and fiscal targets are far from assured.
Despite his repeated calls for a euro bailout fund of around 1 trillion euros ($1.3 trillion), the bloc's finance ministers look more likely to agree to a level nearer 700 billion euros when they meet on Friday in Copenhagen.
The mother of all firewalls should be in place, strong enough, broad enough, deep enough, tall enough, just big, Gurria said, flanked by the EU's top economic official Olli Rehn.
Euro zone finance ministers are expected to agree on combining the European Financial Stability Facility (EFSF) with its permanent European Stability Mechanism (ESM). German Chancellor Angela Merkel signaled for the first time on Monday that she was prepared to consider boosting the firewall's resources.
As the euro zone economy flounders for the second time in just three years, the OECD said in a report the 17-nation area needed ambitious economic reforms and there could be no room for complacency.
The pressure has come down, but we can't draw too much comfort from signs of healing, Gurria said at the report's presentation in Brussels.
Risk spreads remain at unsustainable levels for some countries and have showed signs of creeping up in the last few days, he told a news conference.
In a departure from forecasts by the International Monetary Fund and the European Commission, the OECD sees 0.2 percent growth in the bloc in 2012, rather than an outright contraction, although an OECD official said that is likely to be downgraded.
While international economists are divided over just how deep any downturn will be this year, most agree that weak business confidence and budget austerity is eating into the purchasing power of European households, driving up unemployment and leaving Asian and U.S. demand holding the key to growth.
Two years into the euro zone's sovereign debt saga, EU leaders' commitment to fiscal discipline and the European Central Bank's stimulus of 1 trillion euros to banks have cooled the panic in money markets late last year that drove Italian and Spanish bond yields to near unsustainable levels.
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'MORE CREDIBLE PLANS'
But euro zone government debt levels are likely to reach 91 percent of economic output next year, even as the bloc enacts some of the deepest austerity programs in half a century, and well above the European Union limits for a healthy economy.
While that level is lower than for the United States and Japan, it is up from an earlier peak of 74 percent of gross domestic product in 1996.
The OECD, which tracks industrialized economies to promote growth, cautioned that deficit-cutting goals needed to strike a balance with what was realistic and politically possible, or the EU's enforcement systems could lose credibility.
The euro zone must set out more credible and detailed medium-term budgetary plans, the OECD said. The crisis may have increased policymakers' determination to impose austerity, but recessions this year in southern European countries may make it harder for euro zone leaders and the European Commission to impose sanctions on member states should they miss targets.
Spain's Prime Minister Mariano Rajoy won a more relaxed 2012 deficit goal at a meeting of euro zone finance ministers earlier in March, but a looming recession will make even that a stretch.
Rehn, the EU's economic and monetary affairs commissioner, defended the Commission's approach, saying that focusing on cutting debts while trying to boost economic growth were not mutually exclusive but rather two sides of the same coin.
Strengthening banks is also critical to any resolution of the crisis, while the bloc must agree a big enough financial firewall to stand behind the indebted economies of Italy and Spain, should they be cut off from markets, the OECD said.
($1 = 0.7504 euros)
(Reporting By Robin Emmott; editing by Rex Merrifield/Ruth Pitchford)