Bill Jamieson Dancing close to the door

Comment

BILLJAMIESON | Executive Editor of The Scotsman

Dancing close to the door

Italy’s election and the migrant crisis have left the French plan for ‘more Europe’ looking ever more implausible.

Lost from view in the impenetrable fog that is Brexit Britain are some encouraging signs. Estimates of UK growth in the first quarter have been revised upwards, albeit modestly. Consumer spending and retail sales have also perked up.

An upbeat survey from the normally lugubrious Confederation of British Industry suggests the manufacturing sector may be regaining momentum after a sluggish 2018 so far. The orders balance encouragingly improved to a five-month high in June while the balance of manufacturers reporting a rise in output over the previous three months jumped to a 2018 high.

And separately, a survey from specialist business bank Aldermore found four-fifths of UK SMEs trading overseas expect to see their exporting business revenues rise by an average nine per cent over the next 12 months. Medium-sized businesses, those with between 50 and 249 employees, are the most confident, with almost nine in ten (89 per cent) saying they expect their export revenues to grow during this period.

Small pinpoints of light, admittedly. And it has certainly seemed that the continental economies have been a haven of growth and stability compared to the pessimism that pervades economic assessment in the UK. But it would be mistaken to assume that the skies over the eurozone are cloudless.

The Brussels summit last month was supposed to be dominated by French President Emanuel Macron’s ‘grand plan’ to relaunch the euro and put the single currency on stronger foundations. This, said its supporters, was vital for the euro area to strengthen its defences against a downturn. But this was swept off the table by a gruelling overnight debate on migration policy.

President Macron had been pushing for a big leap forward on fiscal union with moves to facilitate fiscal transfers, this against a persistent fear that a future economic slowdown would leave the zone critically illprepared and its weakest members vulnerable to collapse.

But despite all the rhetoric about ‘more Europe’, virtually zero progress has been made since the crisis that nearly destroyed monetary union in the 2012 banking crisis.

Germany cannot contemplate further Greek bail-out style obligations and across the continent as a whole, populist euro sceptic parties, deeply suspicious of further moves to strengthen Brussels, have been on the rise.

But why worry that much? There is no immediate cause for concern. The eurozone economies are chugging along reasonably well. Unemployment has been falling and businesses growing. Despite all the rhetoric about ‘more Europe’, virtually zero progress has been made since the crisis that nearly destroyed monetary union in the 2012 banking crisis.

Political challenges

But clouds are building. Growth in the eurozone economy slid to a seasonally adjusted 0.4 per cent over the previous quarter in Q1, down from Q4 2017’s solid 0.7 per cent rise. Exports contracted for the first time since Q4 2012.

A slower global recovery and strong euro likely hit overseas sales in the quarter. Government spending also stalled, while fixed investment growth slowed substantially. Several eurozone economies saw momentum wane in the first quarter, including regional giants France and Germany.

Meanwhile, salvos have been fired in an escalating trade war with America, with President Trump imposing a 20 per cent tariff on European car imports. And political challenges are emerging, threatening the common currency area. Italy and Spain have both seen political turbulence in recent weeks, with new, relatively shaky governments installed.

The most worrying is Italy, where a government formed by the populist Five Star Movement (M5S) and right-wing League party was instated in June. The two parties are most unlikely allies, but they have united round an economic programme that could blow the eurozone apart.

Policies include: A guaranteed income for the poor, at a cost of €17 billion; two ‘flat tax’ rates (15 and 20 per cent), while families would receive a 3000-euro annual tax deduction; scrapping planned sales and excise tax increases next year, worth €12.5 billion; abolishing planned pension reform to raise the retirement age; and modifying the Stability and Growth Pact which sets a budget deficit limit of 3 per cent of GDP.

Bear in mind that Italy already holds the world’s third-largest public debt, totalling €2.3 trillion – a debt-to-GDP ratio of 130 per cent, the highest in the eurozone after Greece – and it is not hard to see why European leaders are fearful.

Simple – just raise taxes! But the top rate of income tax in Italy is already one of the highest in Europe, well above the 39 per cent average for top rates across the 28 members of the Union. And the number of Italians at risk of poverty is now thought to be 18 million – nearly a third of the entire population.

Little wonder that the looming challenge from Italy has led to speculation about the future of the eurozone and how it would weather the next global downturn. Its monetary ammunition is largely exhausted, debt ratios are dangerously high and no fiscal union is in sight. Hardly the best time for Italy to be dancing close to the door. n

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