The eurozone is still in a bad way
I stole this title from the Wall Street Journal because that was takeaway #1 in their post on the 5 takeaways on eurozone GDP. It seems apt but what does it mean? For me it means that the eurozone is at stall speed, vulnerable to crashing into recession at any time, due to an exogenous economic shock. The drop in oil prices, however, is a large, positive economic shock that will give the eurozone some breathing room. Some brief comments below.
Yesterday’s post on Europe was mostly negative. Europe is the growth laggard in the developed world and will remain so. German government debt phobia is driving the bus on this and it has boxed Europe into a policy framework which leaves very few pro-growth alternatives. But the data for Q3 in Europe, while poor, showed that the expansion in Europe has hung on for at least one more quarter. Output was up 0.2% q-o-q after lobbing in a goose egg last quarter. What is catching everyone’s attention, however, is the mix of growth.
Greece led the way with 0.7% growth, followed by Slovakia at 0.6% and Spain at 0.5%. Only Cyprus and Italy showed shrinking economies at -0.4% and -0.1% respectively. The core of the eurozone – France and Germany – showed sluggishness with France coming in at a 0.3% rate and Germany at a 0.1%. rate. Ireland has not reported yet. While the eurozone can say that it has avoided a recession, it has only barely done so. The same is true of Germany, which is worrying since Germany makes up 30% of the output of the eurozone.
The pattern here is following the script. Here is how I put it in February:
“Spanish GDP growth rebounds and outstrips German GDP growth. I can’t be completely downbeat here. So, in line with my more optimistic view, I am looking to Spain to re-assert its growth ’tiger’ role alongside Ireland. A number of things come into play here. First, everyone is extolling Germany for a job well done. And second, people are less optimistic on countries in the periphery. I think this is wrong-headed and believe that Spain has the best chance of showing why. The Germans are saying their economy will grow 1.8% in 2014. While the Spanish are saying 0.7% growth for their economy. The European Commission has bumped up its forecast to 1.0%. But it is still below estimates for Germany. Morgan Stanley has Germany at 1.4% growth for 2014. But it has Spain at 0.6% growth. Therefore I believe the market would be surprised by German weakness and Spanish strength.
“First, Spain is allegedly going to raise its forecast. Second, German domestic numbers are weak. Foreign trade is driving growth. This is Germany’s Achillees heel, especially with emerging markets slowing, the US slowing, and the periphery still weak. Spain is benefitting from lower yields, which will pass through into credit growth at some point this year, increasing Spanish home prices. And rising bad debt will stabilize, further improving the situation. Bottom line: Spain has a basing effect to work from. Having been savaged by austerity, they will benefit from a low base and GDP growth will increase more than anticipated. That’s my call here.”
But, here’s the thing: Spain is working from a basing effect, as is Greece. Of course, GDP growth is going to be better when the economy turns. The question is sustainability. Moreover, while I talked up Spain in February I was not talking down the German policy response. It’s clear that the fiscal restraint in Germany has been more severe than I expected. Combine this fiscal drag with the sanctions on Russia and we can see why the German economy has stalled.
I don’t have much to add here that isn’t available on other news outlets. But I would concentrate on France and Italy regarding the economy and Germany regarding policy because I think those are the defining elements. Right now we are in a bit of a holding pattern. Growth will continue to be slow for the foreseeable future. And there are no indications economic policy is about to make an abrupt shift. So we will just have to wait and see what kinds of economic shocks we get to see how the situation in Europe develops. The oil price shock is stimulative though. Therefore I expect numbers to improve over the next few months.
Have a good weekend.