German growth leads the eurozone out of recession but can it really lead the eurozone out of its crisis?

As has been widely covered today, the eurozone exited recession in the second quarter of this year, growing by 0.3% (over expectations of 0.2%).

We posted our thoughts on this expected ‘turnaround’ in the eurozone a couple of weeks ago, so we won’t rehash them. Needless to say the figures are a positive but there is still plenty of negative data around (unemployment, bank lending to real economy, consumer confidence), so European leaders should refrain from getting overexcited.

The key point for us remains this issue of divergence. It’s worth noting that Germany and France played a significant role in pulling the eurozone average growth up. There also seems to be a prevailing logic that German growth can play a big role in pulling the eurozone out of its crisis. As we have noted before we’re fairly sceptical of this idea for a couple of reasons.

There are two mechanisms through which German growth could in theory help boost struggling eurozone countries:

• Firstly by boosting German demand for imports from these countries significantly.
• Secondly by moving Germany away from its export model (possibly through decreased competiveness) allow these countries to fill that gap and export more.

1. Boosting imports
 

(Data up to end of 2012, however imports from eurozone countries have continued to decline in 2013)

As we have discussed before, and as the graph above shows (click to enlarge), German imports from peripheral eurozone countries have decreased substantially with only Italy featuring as one of Germany’s top ten trading partners. Furthermore, imports from other EU countries have declined to 56% of total imports – with the eurozone accounting for approximately 38% of this and peripheral eurozone states a small part of this. 

Therefore, even if GDP and consumption are growing quickly in Germany it’s not entirely clear that this would have a significant knock on effect on the countries that need it most.  The Netherlands, France and Italy are the most likely to see some boost. The IMF itself noted recently that using fiscal policy to boost Germany GDP would provide limited help for the eurozone. It ultimately also depends where Germany’s economic growth comes from, if driven by its own exports or government spending the impact would be even further limited.

2. Providing space for the periphery to boost exports

The theory here is that Germany ‘reflates’ allow wages and unit labour costs to grow and focuses its economy more on domestic consumption and investment rather than exports. This allows for the other eurozone economies to step in and export more, not least because they look relatively more competitive.

However, as the graphs above show (via UBS, click to enlarge), in many cases the struggling peripheral countries do not export the same goods as Germany (transport equipment, electrical equipment, chemicals), although there is some overlap on food and financial services. In any case, it’s far from clear that the struggling peripheral countries would be able to step into any breach left by Germany (particularly with heavy competition from emerging markets). Furthermore, many German exports used component parts from elsewhere in the EU, so decreasing them could actually have negative knock-on impact in certain sectors.

Another point worth keeping in mind is that a rapidly growing Germany would put added strain on the one-size-fits-all policy of the ECB. With the ECB now forecasting that interest rates will stay low for some time, if Germany continues along this growth path it may not be too long before the Bundesbank becomes concerned about the monetary policy being too lax.

It almost goes without saying that strong German growth is a good thing for the eurozone generally (breeds confidence and helps encourage investment) and strong economic growth should be the target for all countries. However, as the points above demonstrate, this does not mean it will be enough to drag the eurozone out of its crisis (i.e. it may be necessary but it is far from sufficient) and is certainly no panacea. The key issues to address remain the structural flaws in the eurozone and the lack of competitiveness within many of the peripheral economies.

Tackling the slow, painful decline: A bad day of economic data for the eurozone

Some have said the worst of the eurozone crisis is over – this morning’s economic data did not provide much support to their argument.

 

Top of the list are the growth figures for the eurozone in Q4 2012 – as a whole the bloc contracted by a massive 0.6%. Maybe not a huge surprise but still worse than most expected. Furthermore, there were few glimmers of hope. 

As the graph above shows, Germany posted a contraction of 0.6%, Italy 0.9% and Portugal a massive 1.8% (more on this in a minute). France’s 0.3% contraction looked relatively mild, although it confirmed that the French economy saw zero growth in 2012 – it also put pay to any hopes of the French government achieving its growth projections for 2013 or its deficit target (see here for more on this). For all of these countries, this was the worst quarterly growth performance in almost four years (2009Q1).

The Italian statistics agency confirmed that growth for 2012 was -2.2%, a timely reminder of Italy’s real problem – an endemic and chronic lack of economic growth. The absence of any credible policy for correcting this in the current electoral campaign should be of grave concern to all of Europe.

Portugal was undoubtedly the stand out performer, but not in a good way. The 1.8% contraction in the final quarter brought the annual real terms contraction in 2012 to 3.2%. This result, along with the German contraction (which was put down to a collapse in European demand for German exports), highlights the substantial risk of expecting export lead recoveries to materialise when the entire eurozone is in a recession. The stumbling growth in the US and China at the end of 2012 likely created a further drag.

In fact, the only countries to provide any strongly positive data were the smaller central and eastern European economies – particularly Estonia, Latvia and Lithuania. Some would highlight that these are the countries that have already completed a significant round of structural reforms and internal devaluation. In any case, they are far from large enough to help pull the rest of the eurozone out of its current slump.

Meanwhile, the Greek statistics agency Elstat also released its figures for Greek unemployment in November 2012. Overall unemployment reached 27%. As we have noted many times before, this far outstrips the EU/IMF/ECB troika estimate for the end of 2012 which was 24.4% (this is even after it was revised upwards significantly in the IMF’s January report on Greece).

More worryingly though, youth unemployment has reached a whopping 61.7%. Think about that figure - it's absolutely extraordinary, especially when compared to the fact that it was only 28% three years ago. We can’t help but wonder how long such high levels of unemployment can be sustained before the political and economic impact becomes too heavy for the state to carry alone (i.e. before Greece demands further eurozone funding and concessions on its reform programme). Again, the risk is that the very fabric of Greek society could start disintegrating under such sustained pressure.

There has been plenty of optimism around the eurozone recently, some of it warranted and we should relish this. But this data should be a timely reminder of, arguably, the biggest challenge of them all for the eurozone: how to reverse the trend of slow, grinding decline.

If EU leaders thought for one minute that there were room for complacency, they can think again.

French economy: "Bienvenue au Club Med!"

France’s National Statistics Institute (INSEE) and Eurostat have both confirmed that the French economy shrunk by 0.3% in the last quarter of 2012 - and according to INSEE the economy registered zero growth throughout 2012. President François Hollande is expected to soon revise down his painfully optimistic growth forecast of 0.8% for 2013. In the meantime, if anyone had any doubt as to what these figures mean for France, a comment piece on the front page of today's Le Figaro does the trick:

 

Hollande can always seek consolation in the fact that the figures for the rest of the Eurozone were pretty grim as well....