Recovery, sort of
Europe’s economy is expanding again. Will it be enough to avoid a Japanese scenario?
09. Feb. 2014 –
Yes-ish. That’s how Martin Sorrell summed up the message at this year’s World Economic Forum (WEF) in Davos. The CEO of the advertising group WPP pronounced his verdict on the morning of the congress’ first day in response to the question so many are asking: Is Europe coming back? The Europeans are, sort of, putting the crisis behind them, he said. But how exactly? And what direction are they taking?
Some 1,500 corporate leaders, 40 heads of state and government, thousands of regular visitors, one conclusion: progress is possible again. Following years of crisis and mop-up work, most WEF participants were ready to show optimism again, for Europe and the greater global economy. But just how upbeat they were depended entirely on who was doing the talking.
Sorrell subdivided the continent into three groups. He said he was “very bullish” regarding Eastern Europe, meaning Russia and Poland, though Germany, which he called “the strong man of Europe,” very much belongs to this group, he added. Spain would see improvement, though from a low starting point, but France and Italy had yet to rise from the dark depths of their troughs, the British executive concluded.
Most other speakers and observers likewise took a “yes, but” stance. European Central Bank (ECB) President Mario Draghi saw the “beginning of a recovery” in the eurozone but added that it was “still weak, still fragile, still uneven.” Harvard economist Kenneth Rogoff called the state of the euro a “big improvement” on last year. Axel Weber, former Bundesbank chief and now head of Swiss lender UBS, emphasized the risks. “It’s going back up, but growth is too slow,” he remarked.
Their assessments were founded on figures that indeed suggest a certain improvement in some areas. The states of the eurozone finally posted marginal economic growth of 0.1 percent in the third quarter of 2013 – figures for the fourth quarter will be released later in February. For the current year the International Monetary Fund (IMF) predicts a 1 percent expansion rate.
The Greek government recently announced that it had at least achieved a primary surplus in 2013. Budgetary revenue came in higher than expenditures – if one brackets out the billions spent on servicing the country’s debt. And for 2014 Athens is hoping for a modest output rise of 0.6 percent, and that unemployment falls from the current, catastrophic rate of 27.3 to 26 percent.
These kinds of improvements may seem ridiculous, but if they continue, it could mark a turning point. And many people in Davos believed that turning point is possible, even if setbacks can’t be ruled out.
Like Greece, Spain’s economy returned to growth in the second half of 2013. The IMF forecasts 0.6 percent expansion in the current year. Unfortunately, that probably won’t much help the country’s legions of unemployed. Officially, 26 percent of Spain’s workforce is currently without a job. The weak recovery is not likely to impact that figure significantly, and the message for much of the rest of the eurozone is pretty much the same. Unemployment, currently at a record high of 12 percent, will stay in the double digits in 2014.
One glimmer of hope is that the continent appears to have emerged from the financial turmoil that nearly brought down its common currency. While the rich and powerful mingled in Davos, Spain issued €10 billion in bonds for which demand outstripped supply by four to one. Shortly before, Ireland and Portugal likewise managed to issue bonds at normalized yields, as institutional investors regained their appetite for eurozone periphery debt. That’s because they see risks retreating in the region. Markets appear to be marching in step with the forecasts coming from Davos.
The question now is, where do we go from here? UBS’s Axel Weber identified two rocks that could shipwreck everything in 2014. The first obstacle is the European Parliamentary election in May. It’s possible that euroskeptic parties will perform well and add greatly to their presence in the legislature, thereby further complicating the already tortuous process of reaching consensus in Brussels. Second, the banking executive drew attention to the “stress test” that the ECB wants to complete by year’s end. Europe’s 130 biggest lenders are supposed to prove that, if another financial crisis hits, their equity capital does not fall beneath 6 percent.
Both Weber and Jeroen Dijsselbloem, the Dutch finance minister and Eurogroup chief, are quite sure that not all of the banks to be tested will clear this hurdle. That raises the question of what this supposition and its possible confirmation could unleash on financial markets. Will the jitters return, and vulnerable states again pay risk premiums on their debt? Will the financial crisis start all over again? Or will investors have taken heart that Europe has become resistant enough to resolve these limited problems? We don’t know yet.
Some people at Davos decided to take an especially upbeat stance. One of them was German Finance Minister Wolfgang Schäuble. “As is always the case in Europe, this matter is complicated. But it will work out,” he said on the subject of the stress tests.
ECB chief Draghi argued a different point with the same intention. “I don’t see deflation in the euro area,” he remarked. The underlying problem here is that prices are rising at an average of beneath 1 percent annually, far below the ECB’s two-percent target rate. That raises the possible danger that, in a practically stagnant economy, prices begin falling. Consumers and companies would then start postponing purchases and investments for reasons including expectations of even lower prices down the road. The feeble recovery could relapse into recession.
Pierre Nanterme, CEO of corporate consultants Accenture, raised the specter of this “Japan scenario.” After two decades of alternating weak growth, recessions and deflation, the world’s number three national economy has fought its way back to inflation rates that many economists consider essential for anything like vigorous economic expansion. In December 2013, consumer prices in Japan came in 1.3 percent higher than in the same month a year earlier.
But in what direction will the euro area go? Will inflation return to 1.5 percent, and the economy resume growing? Or does the continent face decades of stagnation after overcoming its acute crisis? Again, we do not yet know.
A few other economic problems could also throw obstacles in the recovery’s way. For one, with the boom in cheap oil and gas in the United States, a gap in energy prices is opening up fast. In North America energy is one-third to 50 percent cheaper than in Europe. That’s a disadvantage especially for companies that sell products in the US that were at least partially made in Europe.
German automakers, machine tool producers and chemical companies feel especially threatened, which is partially why the German government and the EU Commission are looking to cut the costs of renewable energies, which are particularly expensive. One quarter of Germany’s electricity already comes from comparatively costly wind- and solar power.
Secondly, the US is on the rebound. Unemployment is falling and workplace productivity is on the rise. That makes US products tougher competition for European goods.
Third, some parts of the infrastructure in Europe urgently need modernizing. While many people and companies in eastern states such as Estonia and Lithuania profit from high speed Internet, in some parts of Germany it can be difficult to send an email with a photo attachment. The old transmission lines cannot handle today’s quantities of data.
And yet: will Europe come back? Probably. One good sign is that Harvard’s Kenneth Rogoff, a dyed-in-the-wool euroskeptic, felt obliged at the WEF in Davos to underscore the common assets of the 28-nation-bloc’s members: peace, good education and good governance.