Bill Jamieson

COMMENT

BILLJAMIESON | Executive Editor of The Scotsman

Eurozone: Breathing space – or last gasp?

When suffering from a headache it does help to stop banging one’s head against a wall.

For a few weeks this autumn it did rather seem as if the eurozone had desisted from its relentless self-inflicted headache.

We had Mario Draghi, head of the European Central Bank, to thank for this. He pledged that the ECB would do “whatever it takes” to save the euro – a statement widely interpreted to mean a resort to quantitative easing on a massive scale.

Markets gave a massive sigh of relief, interest rates on troubled sovereign debt fell sharply, equity markets rallied and for good measure the German Constitutional Court gave a conditional green light to German approval of an enlarged eurozone bail-out fund.

Suddenly, after months of gloomy prognostications about the eurozone heading for a financial catastrophe, it did look as though the Draghi pronouncement had bought the eurozone time for governments to undertake structural reforms, bear down on their deficits and lower their credit risk.

There was only one problem: the ECB could not purchase any government bonds until the country in question had formally requested assistance from the bail-out fund. After the interest rate on its bonds had fallen sharply, the Spanish government, never in a hurry to make such a request at the outset, has felt it has been effectively let off the hook.

In the meantime it is pushing ahead with an austerity programme which it feels adequate to the task, and fears any attempt to pursue an even more severe programme that a formal bail-out application would entail would run the risk of political explosion.

The result is that the enormous feeling of relief that swept through markets in August has given way to renewed apprehension in the face of further deterioration in the economies of the eurozone and uncertainty over further progress on the road to stabilisation.

This is worrying because many were counting on the European Central Bank’s bond buying scheme to bring about a period of calm in markets and lift the gloom that has been bearing down on domestic demand. Indeed, considering all the postponed spending decisions over the past two years it may even unleash a torrent of investment orders.

There is certainly little evidence of any immediate economic uplift in the eurozone. Economists at HSBC are sticking with their forecast of a 0.6 per cent contraction in eurozone GDP. And its forecast for 2013 has also been edged down. What growth there is for next year is seen to come from a gradual revival in demand for exports. And of course, the lower these growth forecasts, the greater the doubts as to whether member states can realistically meet their fiscal targets: a deadly Catch-22 that seems once more to have the eurozone in its grip.

Counting on Germany

In Germany the outlook for companies in the capital goods sector has deteriorated owing to falling capacity utilisation in manufacturing, a development that points to lower capital spending ahead despite those rock bottom interest rates. As a result, job hiring looks unlikely to improve, pointing to slow or no growth ahead. However, helped by wages and salaries showing year-onyear growth rates of almost four per cent, domestic demand should continue to contribute to growth. And it is the strength in German domestic demand that Spain and Italy are critically counting on to help lift their own economies out of the mire. Despite all this, however, HSBC has deemed it prudent to cut back its 2013 growth forecast from 1.5 per cent to 0.9 per cent.

So, some two months after the ECB chief seemed to have halted the eurozone’s headlong plunge into financial mayhem, it is hard to find positive reasons for optimism. With Germany facing elections next autumn, Chancellor Angela Merkel will be anxious to avoid having to make any fateful and unpopular decisions – or at least, not until these elections are out of the way. This might also mean that Germany may not be so keen to provoke a confrontation with those governments that appear to be dragging their heels on budget reform.

One possible lifeline in the coming year may come in the form of a growth upturn elsewhere in the world economy. For example, a massive credit/infrastructure stimulus in China would provide a boost, at least in the short term, to the likes of German exporters. In America there is the prospect that Congress could agree an approach to rebalancing the country’s fiscal position. That could help confidence and boost hopes of a growth recovery next year. And that would help give some hope for a pickup in the eurozone – though one thing’s for sure: Europe’s politicians would be loath to admit it. n

Some two months after the ECB chief seemed to have halted the eurozone’s headlong plunge into financial mayhem, it is hard to find positive reasons for optimism.