I sometimes wonder whether Wolfgang Munchau of the Financial Times and Ambrose Evans-Pritchard of the Telegraph channel each other. Although they are both dubious of the eurozone’s ability to navigate its way out of its current mess, they also have an interesting habit of taking up similar issues on the same publication date.
Today, both writers focus on last week’s spurt of optimism about the eurozone’s prospects, particularly stronger than expected economic results out of Germany. Both writers took it upon themselves to parse the optimists’ case and found it sorely wanting.
Evans-Pritchard takes two thrusts: the good news for Germany is not anywhere as good as it appears for the rest of the eurozone, and the good German performance is also unlikely to be sustained at this level:
Jean-Claude Trichet, head of the European Central Bank, last week cited this Wirtschaftswunder as evidence of durable recovery in Europe. It is no such thing. The OECD’s leading indicators for June rolled over in Italy and France, as well as China and India.
The IMF expects Spain’s economy to contract by 0.4pc this year. It has lowered its forecast for the eurozone from 1.5pc to 1.3pc in 2011. “Downside risks to the recovery have risen sharply,” it said….
Yes, Germany is on the cusp of EMU “outperformance”, but that is more curse than cure for Club Med laggards. Germany is benefiting from a currency that is as misaligned as China’s yuan, though this mercantilist advantage is disguised within Europe’s monetary union. Crudely, Germany is doing to Spain, Italy, and increasingly France, what China has been doing to the rest of the world – but more so – by holding down its exchange rate….
Be that as it may, we now have an untenable socio-strategic situation in which German unemployment has been falling for 12 months in a row to 7.5pc, while Spain’s unemployment has vaulted upwards to just under 20pc. This immense gap – with everything it implies about the state of a society – has surfaced in little over two years.
The delayed effect of German wage discipline over the years has at last hit EMU with volcanic force. The same time-lag is underway in Spain with opposite effect as the property slump grinds deeper. Wishful thinking lingers, but the harsh truth is that the Spain’s housing crash has barely begun. The Madrid consultancy RR de Acuna sees an implicit overhang of 1.6m housing units. It will take six years to clear. By cruel contrast, Hans Werner Sinn from Germany’s IFO Institute said his country is on the cusp of a property boom. “Germany is the winner of this crisis,” he said….
The IMF is frankly in a muddle as well on the big picture. Its World Economic Outlook said the surpluses of Germany, China, and Japan, will rise from $586bn (£377bn) last year to $758bn by 2015, perpetuating the imbalances that led to the credit crisis.
Brian Reading from Lombard Street Research said that if this occurs, it assures a global slump because the deficit states of the Anglosphere and Club Med cannot keep the game going by adding further debt. They must retrench, and therefore global demand must implode. The IMF evades the conclusions of its own logic.
Wolfgang Munchau contends that robust-looking eurozone results are due to factors that are in large measure are about to go into reverse:
During the first half of 2010, the eurozone enjoyed nominal short-term interest rates of near zero, a big fall in the euro-dollar exchange rate and an expansive fiscal policy. Those three factors contributed to a recent increase in industrial orders in Germany, and resurgent optimism in that country’s business community.
As we enter the second half of the year, two of the three factors are changing. First, we are now seeing a policy-driven tightening in monetary policy… what matters is the Euro Overnight Index Average (Eonia) money market rate, which until recently had been trading at 0.3 per cent. As a result of a recent shift in liquidity policy, the Eonia rate spiked to 0.5 per cent last month, and has since fallen to 0.4 per cent.
Some economists, who have done the maths on this, have calculated that the tighter liquidity conditions will gradually push the Eonia close to the repo rate, the ECB’s official policy rate – which is currently 1 per cent….
Second, the recent increase in the euro-dollar exchange rate means that the euro is no longer heading in a direction that would generate a positive demand shock for products manufactured in the eurozone.
Note that Muchau sees this as adding up to a Japan-style low-growth outcome; Evans-Pritchard expects worse due to the pressures of private sector deleveraging and increasing political tensions as Germany-dictated policy looks increasingly good mainly for Germany.
But higher money rates in the eurozone also suggest that, if investors decide they like the results of the ECB bank stress tests results, due later this month, the euro could continue to rise near term.