Business sentiment, orders, manufacturing…the telltale signs of a trend reversal in the German economy are all there: the euro area’s biggest economy is in a downturn.
This might come as news to some observers and we will discuss the primary reasons behind the situation and try to provide answers to the biggest questions raised by the impending downwards revision to German growth forecasts:
– Recession or no recession in the euro area next year?
While encouraging euro area PMIs in March convinced a number of observers that the ECB had made the right decision (i.e. perpetuate the status quo), the statement from the President of the Bundesbank has lent credence to our scenario of additional stimulus…if not immediately, at least in the not-too-distant future. Such a possibility sends a couple of messages: 1- The euro area is far from being in the clear, 2- German growth is losing steam, 3- The ECB will do more but only because the prospect of the euro area are in fact frail.
It isn’t easy to get a clear sense of how the introduction of a statutory minimum wage in Germany will play out. From one angle of vision, it should raise household disposable income and at the same time contribute to a much-needed rebalancing in the euro area. From another perspective, such a guaranteed minimum is likely to trigger an upward wage trend that couldn’t happen at a worse time for German manufacturers who are increasingly struggling to keep exports up. Assuming the Social Democratic Party (SPD) membership approves the deal between the coalition partners on December 17, two basic trends should help us determine the relative weights of these factors and grasp the implications of such a move:
The extent to which wage increases spread to export industries, which already pay considerably higher wages than the agreed-upon minimum,
Whether or not international demand for capital goods will recover. If it doesn’t, Germany will inevitably slip from its position as a leading exporter and will be unable to power the euro area economy.
On both scores, the introduction of a minimum wage will mean radical change in relation to the pre-euro era—not only for Germany, but for the entire currency bloc.
The euro area economy has continued to gain traction. Sentiment has picked up in an increasing number of sectors, even suggesting that the employment and investment outlook in most member countries may gradually get brighter. According to the European Commission’s latest Business Climate Indicator, annual GDP growth for the currency union should move back into positive territory by year-end. So all in all, things look fairly good.
But there’s a missing ingredient: better export performance. Not only are sales to the rest of the world marking time, but trade within the currency bloc has contracted further—an unusual occurrence in a recovery phase. The main explanation for this lies with persistently stagnant demand in Germany— a major obstacle to any real improvement for the regional economy as a whole.
Like all crises, the present one provides a fertile breeding ground for dogmatic, cookie-cutter statements and clichés that don’t always square with reality. So perhaps the best way to avoid making disastrous decisions on the momentous issues of today is to take a good, hard look at our past. This view was what prompted us to publish the following series of charts, which sum up twenty years of comparative economic history in France and Germany.
Growth, consumption, employment, real estate, debt, demographics, and foreign trade are the themes we have covered here, in the hope of offering the reader greater insight into the forces at work in the euro area’s two leading economies.
Those who believe we can offset the devastating effect of an overvalued euro by copying German recipes from the preceding decade are kidding themselves.
In fact, a brief look at how the German economy achieved competitive adjustment will highlight the unique conditions that supported such a turnaround. The international environment in the first decade of this century not only proved extremely beneficial to Germany’s industrial recovery; it also made the turnaround fairly painless for the country’s consumers.
Today, no other eurozone Member State has anywhere near the kind of industrial strength enjoyed by Germany, or for that matter the means to ease the social pain of the reforms needed to put the common currency area back on a competitive footing. If Europe’s leaders persist in copying past German recipes without considering how or why they worked, the monetary union will unquestionably be facing its greatest danger ever.
To fend off that danger, there is just one viable response: an orchestrated depreciation of the euro along the lines of the 1985 Plaza Accord, which was designed to counteract the damaging effects of an overvalued dollar on the world economy. Let’s hope the prospects of a protracted eurozone slump will win enough converts to such an approach, because it probably holds out the last chance to save the common currency.
The current consensus will eventually collapse in the face of statistics released in the last twenty-four hours. The IFO’s July Business Climate Survey abundantly confirms a scenario that has looked inevitable since early spring—Europe has unquestionably entered a recession and no country will escape it. This should be a sobering warning to consensus economists, who were still predicting an improved outlook for 2013 in July, with 0.5 percent growth in the eurozone as a whole, 0.7 percent in France, and 1.3 percent in Germany! But while this grim news ought to prompt a wrenching re-evaluation, the forecasting community shows such inertia that we are unlikely to see any real change in the consensus until November or December. By then, it will be impossible to deny the undeniable: in 2013, the recession will spread from Southern Europe to the entire rest of the region, and the sovereign debt crisis will become increasingly hard to untangle.