* EU gives France, Spain two more years for deficit cuts
* Netherlands, Slovenia, Poland also get more time
* European Commission demands structural reforms in exchange
* Italy, Hungary and Baltic states released from deficit watch
By Jan Strupczewski
BRUSSELS, May 29 (Reuters) - Euro zone countries must focus on reforming their labour and services markets and can slow the pace of debt-cutting, the European Commission said on Wednesday, marking a shift away from austerity.
The change of emphasis comes as the euro zone struggles to escape a second consecutive year of recession and record high unemployment brought on by the collapse of investor confidence during three years of debt crisis.
The EU’s executive warned urgent action was required but said spending cuts would still have to be made.
“Member states should now intensify their efforts on structural reforms for competitiveness,” European Commission President Jose Manuel Barroso told a news conference as the Commission presented its annual recommendations.
“We need to reform, and reform now. The cost of inaction will be very high,” Barroso said. “Fiscal consolidation is ongoing and should continue with a pace that reflects the situation in each country.”
The Commission gave France and Spain, the euro zone’s second and fourth biggest economies, two extra years to cut their budget deficits to below the European Union ceiling of 3 percent of GDP as they struggle with recession.
French unemployment is above 10 percent and set to grow. In Spain it is 27 percent, with more than half of young people without jobs - a level that could have profound social impact.
Showing just how far the 17-nation euro zone is from returning to health, the Organisation for Economic Co-operation and Development said on Wednesday that the currency bloc would shrink 0.6 percent this year.
Poland and Slovenia also got two extra years while Portugal and the Netherlands each got a one-year extension to the deficit reduction deadline, imposed as part of the disciplinary framework agreed by member states to underpin the euro.
In a tribute to tough consolidation efforts undertaken so far, the Commission ended its disciplinary steps against Italy, Hungary, Latvia, Lithuania and Romania because they have cut their deficits to within EU limits.
Because debt-laden governments cannot afford to kick-start growth through public spending, they must reform the way their economies are run, largely by tackling inefficiencies in labour markets, pension systems and public services.
The Commission emphasised the need for labour markets to be made more flexible and on the opening up of product and services markets. It also called for Germany to push wages up in line with productivity so that domestic demand is increased.
Much of its attention was focused on France, which it said must carry out labour and pension reforms to regain the country’s lost business dynamism while cutting public spending to address its swollen budget.
It must also simplify its tax system to help companies compete and make its pensions system sustainable by 2020.
Barroso said Paris should use the extra two years granted by the Commission to reform.
“This extra time should be used wisely to address France’s failing competitiveness, as France’s enterprises have suffered a worrying loss of competitiveness in the last decade, indeed we can say in last 20 years,” he said.
The commissioner for economic affairs, Olli Rehn, hammered home that message.
“It is now of paramount importance that this breathing space created by the slower pace of consolidation is used by member states for implementing those economic reforms that are necessary to unleash our growth potential and improve our capacity to create jobs,” he said.
French labour laws make it difficult to fire someone on a permanent contract, which makes employers more reluctant to hire. The minimum wage in France, which at 1,430 euros a month is among the highest in Europe, hinders employment and makes French products less competitive globally.
The recommendations, once approved by EU leaders at a summit in late June, will become binding and are expected to influence how national budgets are drafted for 2014 and onwards.