A country breakdown as global growth accelerates: Italy, Spain, Greece, Japan

Today’s commentary

My contention has been that global growth is accelerating. Backing that up, yesterday I looked at four economies where growth has been good. Only in Sweden were we seeing renewed weakness. Today, I want to look at four economies where growth has been poor and where big problems remain.

I will produce one more post n this series covering at least Germany, Austria, France and the Netherlands. I may include Norway, Canada or Australia. Growth is good in those countries. And the overall tenor of these posts is that the economy is poised to grow faster but that big problems lurk underneath. There is the private debt problem, there is the low wage growth problem in Europe and the US, there is the “secular stagnation” problem in Japan, and there is the depression and deflation problem in the eurozone periphery. The question is not whether we can eke out a cyclical recovery. The question is whether these fundamental problems will re-assert themselves in the next cyclical downturn and bring renewed crisis.

And before I start in, let me make a note on something I read this morning about recovery and faux Keynesianism by Izabella Kamisnska at FT Alphaville. Izzy calls her post “Secular stagnation and the bastardisation of Keynes” and takes aim at the secular stagnation thesis that Larry Summers started and that Paul Krugman has advanced. The central point is this:

Krugman and Summers have the bubble causality wrong. It was not that the world needed debt-financed bubbles to grow; it was increased debt that caused the US and other major economies to grow unsustainably above potential.


At first sight, it’s tempting to classify the above as just another example of “debt is always bad” talk. However, upon closer inspection, it is actually a more sophisticated interpretation that factors in Keynesian logic.

Credit bubbles, the authors believe, caused western economies to run dangerously above their potential in the decades leading up to the current crisis creating an impossible stock of “goodies”, which could not be shifted or consumed by western economies without crashing the underlying markets. Think of it as too much too soon. Or better still, too much of the wrong stuff too soon, and too little of the right stuff too late. The result: the creation of faux capital which has never been unwound.

I agree with this characterization of the thesis. While Izzy points to Keynes, I would also call Izzy’s piece inherently Austrian in that her comments point to malinvestment from government trying to juice the economy above potential. The framing is very much in line with what I write here at Credit Writedowns.

So let’s start in with Italy.


The press has made a big deal about Italy’s return to growth. Similar to Spain, Italy eked out a marginal increase in GDP in the third quarter. But most of this was inventory building. Business investment actually fell 0.6% and household spending declined 0.2%. That doesn’t sound like a robust recovery if it even is one.

Meanwhile, the protests in Italy continue. An Italian reader sent me this link with photos of the protests as a demonstration of what is going on in Italy. She told me that “it is really bad here” and said that the politicians in Italy are not making any serious reform efforts – something she supports. Instead, “they keep raising taxes on labour”, which is hurting small and medium-sized business in particular. In fact, according to her many SMEs must ask for loans just to pay taxes.

If you recall, I posted a Wall Street Journal article last week on how the banks’ capital shortfall was hurting SMEs. The article starts with this anecdote:

Pietro Fattorini, owner of a marble company in the eastern Italian region of Marche, recently filed for bankruptcy protection. But it isn’t for lack of demand. The 23-year-old company he founded has plenty of orders from overseas clients.

Mr. Fattorini’s problem is much closer to home. His longtime bank, Banca Marche, lost more than €750 million ($1.01 billion) in 2012 and the first half of this year. As a result, the bank cut his credit lines last year, choking off the funds he needs to survive.

The rest of the article makes for sobering reading. Policy makers see this problem. The question is how much they can do about it given the policy space. The Bank of Italy has floated an idea whereby it pays banks, which own it nominally, a dividend. That would shore up capital and hopefully spur more lending to SMEs. But we are talking about only 450 million euros here. But the ECB has another scheme in mind. It has long argued that its easier monetary policy was not being effectively transmitted to where it was most needed, small and medium-sized businesses in the periphery. And so the ECB is considering making a new LTRO program dependent on loans to SMEs. These are just ideas of course. So it’s not clear whether any of this will have an effect.

The bottom line is that there is really no recovery in Italy and there are no real structural adjustments on the horizon that promise to markedly improve Italy’s productivity levels. Izzy’s piece has a quote from Independent Strategy that gets at this:

Take Germany: its population is ageing and its net population growth is slowing to a trickle (although that may be improved by increased net immigration from southern and eastern Europe). But Germany’s productivity level and growth is high (as is total factor productivity, expressing the gains from technology). Italy has a similar stagnation in its working population, but its real GDP growth has disappeared because of the fall in total factor productivity.

Italy vs Germany growth

Europe is counting on internal devaluation to do the heavy lifting and that is inherently deflationary. I believe we need to watch Italy because what happens there is important as Italy is the largest country in the eurozone periphery. The euro cannot survive without it.


The press has similarly made a big deal about ‘the return to growth’. I don’t see this as such a big deal, however. Spain was an outlier in the latest positive round of European data as the manufacturing PMI fell into recession territory after everyone was saying Spain had emerged from recession. The PMI was 48.6 versus 50.9 in October. This shows how fragile the recovery in Europe still is. Retailer IKEA received 20,000 applicants for just 4000 jobs. So that tells you how bad the jobs picture is.  Optimism is everywhere though. The OECD has predicted a 1.3% contraction in the Spanish economy for 2013 and 0.5% growth in 2014. That will bring unemployment down to the still ridiculously high 26.3% in 2014. And S&P has moved Spain from a negative to stable ratings outlook.

I love what Spain’s retail giant Inditex is doing. But its performance is not about the domestic market. Rather it is about international expansion, particularly in emerging markets. Meanwhile at home credit to households and small and medium-business is falling. Credit to households in Spain fell by a record 4.7% in October, putting credit at its lowest level since 2007. Credit to business also fell 10% and is at its lowest level since the crisis began as well.

Part of the credit problem is falling asset prices. Bad debt is actually rising, with ratio now at 12.7% for data through September. Now house prices are rising again in Madrid, the Baleares, Navarra and Extremadura. However, throughout Spain prices fell on average 4.5% y-o-y in Q3 2013. That is the lowest fall since Q4 2010. So, the fall in home prices in Spain is slowing, but the decline from the peak is now 38.5%. And permits for housing are down 25.9% in the year to September. Overall, the housing market acts as a huge credit decelerator on the real economy. As long as we see these losses in residential and business property values, credit to households and SMEs will remain low.

Despite Spain exiting its bailout program without a safety net, the Spanish banks themselves remain undercapitalised and hooked on the carry trade in sovereign bonds to bail them out. This has been a good trade so far as Spanish five-year yields are at an eight-year low. And with the ECB lowering overnight rates, one-year sovereign yields are at record lows. But the IMF is telling Spain the banks need to increase capital buffers further.

Rather than top up the capital with real money though the Spanish government is going to just do an accounting diodge. As Marc Chandler wrote, the Spanish government:

will allow Spanish banks to reclassify 30 bln euros of DTAs. The DTAs will now be recorded as tax credits. Under Basel III, such tax credits will count as regulatory capital. Spanish banks have been lobbying for such permission for several months. Italy allowed the a similar reclassification in 2011.

This doesn’t actually increase capital in reality, just on an accounting basis. And we can understand why the government has elected to do this. Spain’s federal deficit this year is larger than last year’s. Through October the deficit is 3.61% of GDP versus 3.33% in 2012. If one includes regions, total Spanish government debt was 4.8% of GDP through September.

Bottom line: the incipient recovery in Spain is weak and very vulnerable to exogenous shocks.


I am not going to say a lot about Greece because I have written about the situation in the past. I believe Greece will eventually exit the eurozone. Right now, the situation, while stabilizing, is still a depression. Unemployment rose to 27.4% in September. Greek industrial production declined 5.2% y-o-y through October. And deflation in Greece is now the highest on record. Wage rates are falling at the 2nd highest rate in Europe.

My view here is that Europe has wanted to isolate Greece, make it a special case by dragging the depression out so that the others could recover. Once the immediate crisis is over I believe the EU will try to cut Greece loose as a hopeless case separate from the rest. That’s what’s happening here. Greece has almost no chance of recovery as a part of the eurozone. The only interesting idea I have seen is Rob Parenteau’s idea of tax anticipation bonds.


Japan is the model. Crashing asset prices, bailouts, stop/start economic policies, deflation and massive government debt and deficits. This is where the European and US examples are headed unless we figure out a way to get wage growth and reduce private debt. Here’s what I have been saying about Japan:

  • September: “What will happen here is that the ‘miracle’ of Abenomics will be found to not be durable since none of the structural reforms have come online yet. Japan’s growth will weaken significantly, inflation expectationswill plummet, nominal GDP will trend further down, the Yen will rise in value due to rising real interest rates and profits will take a hit. Abenomics will come unstuck.

    “This is disastrous.

    “The question is what the Japanese do next. They could try to default. Seriously. Now I don’t see default s a serious short-to-medium term option but over a three to five year time frame, it is something to consider as a political option. It is clear that the Japanese are unwilling to take the measures necessary to either durably boost nominal GDP (structural reform, immigration, etc). And it is also clear that politicians want to close the fiscal gap as soon as possible every time it opens up. And I believe the tension is so great here that Japan will always look to close the fiscal gap before a durable recovery based on long-term structural reforms is in place. This is where we are now headed.

    “The bright spot in the Abenomics experience is behind us. By 2014, I expect the weaknesses to begin in earnest.”

  • November: “As for Japan, I am not that bullish. In September, I wrote a pretty downbeat analysis of Abenomics and Japan’s disastrous macro plans. My view is that Abenomics so far as really only been about goosing demand via fiscal stimulus and QE. Nothing meaningful has been done to ensure the growth sticks. No structural reforms, corporate subsidy cuts or immigration policy tweaks have made their way through. Meanwhile, the Japanese have already turned to closing the deficit via a sales tax, something that derailed growth in 1997 and ushered in the present deflation. How is this going to work? Where is the growth going to come from? Japan has posted its biggest annual exports rise in three years but it also posted an enormous trade deficit in October as import prices rose due to the weak yen. And Japanese banks still are finding it hard to lend. That may be because households are finding it difficult to save. Japanese households without savings has climbed the most since 1963. So the QE is not having a measurable impact on credit growth. GDP growth is starting to flag as a result. I recommend you read this Reuters summary of the situation. It breaks down the challenges well. I anticipate weakness in Japan in 2014.”

I don’t really need to add any more than this. But I will note that Japan’s Q3 growth has been revised down to 1.1%. And that Japan could start losing wealth soon as the external balance turns against it. I see Japan as the cautionary tale for what awaits us if we try to extend and pretend. Eventually there is no way out. And sovereign default or wealth confiscation become viable options.

Overall, this set of countries represent the most downbeat worms in the overall upbeat economic apple core. The hope has to be that the problems here are overwhelmed by greater growth elsewhere and that this growth is sustained by wage and productivity increases that reduce economic fragility such that the next downturn is mild.  Irrespective, for now the problems in Italy, Spain, Greece and Spain are being dominated by the upswing in countries like the US, China, Britain and Germany. I think 2014 will be better economically than 2013 globally and in the periphery. Japan will be an outlier.

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