Bill Jamieson Euro crisis: why a bail-out will just not do it

COMMENT

BILLJAMIESON | Executive Editor of The Scotsman

Euro crisis: why a bail-out will just not do it

There is now an opportunity for structural reform in the eurozone, above all in the labour market. It might be the last.

For anyone in business today, the eurozone crisis has been like living with a permanent pneumatic drill. It is running at full volume when you get into the office, still drilling away by the time you leave – and waiting for you at home when you switch on the TV news.

For many months the constant series of euro summits, G20 summits, emergency packages, disagreements and failures, ever rising sovereign bond yields and most recently the replacements of governments in Greece and Italy, have dominated television news and the front pages of newspapers. Futurology has ranged from a prolonged era of uncertainty through sovereign default and a massive banking crisis to the break-up of the euro itself. That Nicholas Sarkozy and Angela Merkel have even admitted this as a possibility (the idea of secession from the eurozone till now being a total no-no) has been widely seen as the crossing of a Rubicon for the failed euro currency project. Indeed, a break-up, while deeply traumatic in its initial stages, is now being considered as potentially less painful in the medium term than staying on the current ‘preservation of unity at all costs’ policy route.

All has come to hinge on a deeply reluctant European Central Bank agreeing to flood the euro area with monetary easing through massive purchases of problem sovereign debt. The worry medium term would then be the inflationary consequences of such a policy. The result is that households have become as apprehensive and depressed as businesses. This crisis has been acting like a corrosive acid on confidence, with huge uncertainty the killer ingredient. How do we start to see beyond this?

Strange as it may seem, many UK and continental European companies have been doing rather better than the Armageddon headlines suggest. And – so far at least – global stock markets have declined to stage the apocalyptic plunge that often seems to be wished upon them by economic commentary. Share markets are down – but there has not been the sustained collapse that we would expect to accompany the complex financial and political crises that have descended across the single currency area. Companies are still exporting to Asia Pacific. Infrastructure projects are moving up the agenda. And there are continuing advances in consumer electronics.

In addition, many firms are currently sporting strong balance sheets, the result of regimes of cash conservation put in place since the onset of the financial crisis in late 2007. And the deep uncertainties, not just about the availability of bank finance and the health and strength of the banking system but the weakness of domestic demand, has encouraged companies to hold back from spending and to become even greater cash hoarders. Confidence to invest has been shot through. Result: growing cash piles while business waits for some visibility through the euro fog,

The gap between trends in the eurozone and the rest of the world is now a gulf.

From gap to gulf

For the moment, the omens are not good. Latest data suggest that economic momentum across the eurozone area is rapidly fading. Industrial output is reckoned to have fallen by 2.7 per cent in September. In October the composite purchasing managers index (PMI) fell from 49.1 to 46.5, the lowest since June 2009. It has plummeted from a high of 58.2 in February and has given rise to widespread fears that eurozone GDP in the fourth quarter may show a contraction. The gap between trends in the eurozone and the rest of the world is now a gulf. PMI data for global manufacturing rose from 50.1 in September to 50.5 in October while the euro area PMI has fallen from 50.4 to 47.1.

Even if Europe’s export-orientated economies avoid recession, the continuing rolling thunder from the sovereign debt crisis make any immediate recovery in business and consumer confidence unlikely. What would add materially to the downward pressure would be a further tightening of credit conditions. And it is this that, on some estimates, could turn a mild recession into something much more unpleasant.

However, there are now tentative but encouraging signs with the eurozone’s two most debt-laden countries under new leadership. This is rather sneeringly referred to by the political elite as ‘government by technocrats’ (as if the absence of credible political leadership was not sufficiently glaring and that the debt crisis was somehow not the result of years of ducked reform and tough decisions by the political elites). Deficit reduction and structural reform may now be tackled in earnest. Much, however, depends on a consensus around such painful reform being maintained for a long period. But at least the first steps have been taken that may provide a breathing space.

The immediate concern of governments across the eurozone will be the rise in unemployment as the slowdown continues and the need, not just to provide some form of demand stimulus but to ease the regulatory barriers to labour hiring. Bail-out money from China or the IMF is no substitute for such reform. Thus, through crisis, comes a long-delayed opportunity to tackle one of the great structural blockages to improving productivity and competitiveness. And if this is not grasped, the future for the eurozone will be bleak indeed. n