The Jaded Jedi

Journal and General Musings

Round 2 of the Euro crisis ?

04/09/2014

The Euro domino effect

The Euro domino effect

Regardless of your view of the merits (or disadvantages) of the European Union, we must all be painfully aware of the risks of a crisis in the Eurozone. The potential consequences of a major euro using country entering a further round of financial crisis or worse still default can probably not be under-estimated.

Today’s quiet and surprising news of a further reduction in central European bank interest rates could be the latest indication of renewed stresses within the Eurozone area. Certainly, the reduction in interest rates can only be seen as an effort to encourage spending, investment and therefore bring growth to the member states using the Euro.

Greece has been far quieter in recent months, but has already indicated that the social pressures caused by austerity measures (unfairly seen as being imposed by Germany) are continuing to cause political and economic instability in the country. So far these have not caused repayment schedules to be amended but many believe these Greek words of caution may be testing the waters for a revised repayment plan. So is there any other evidence to support the prospect of a further Euro crisis ?

Italy: Triple dip recession

Italy: Triple dip recession

Perhaps the most obvious and worrying example is the deflation impacting on parts of the Eurozone, making debt (or at least the real value of debt) more challenging for those trying to pay off debts. There is an argument that this deflation hitting countries such as Italy could lead to a deflationary spiral such as that seen in the US in the 20’s.

Italy’s trade and GDP figures show it has entered a triple dip recession and staggeringly only two countries (Haiti and Zimbabwe) have grown less than Italy over the past 25 years. With Greece’s economy best described as fragile, the last thing needed would be a problem with the significantly bigger Italian economy.

Many economists and academics (such as Marianna Mazzucato – University of Essex) believe these faltering economies are evidence of a more fundamental issue. She (and others) argue that the diagnosis of economic malaise is flawed so consequently the medicine being prescribed is also equally flawed.

Several leading economic figures argue that productivity simply cant mean the same in Germany, France or the UK as it does in Greece and Italy. They believe that German productivity has been based around bidding the best product at a reasonable (not the cheapest) price based on demand for those products/services as a result of very significant investment in their economies. This is the very investment that Greece and Italy can no longer afford or attract in part due to their heavy repayment schedules. Default and crisis ensues; don’t default and crisis may be delayed but will ultimately break.

A further round of Quantitative easing may be on the cards from the European Central Bank – but that depends on whether the additional demands placed on the ECB by the Ukrainian crisis leaves sufficient fiscal room for manoeuvre.  Even if further QE is scheduled to assist the Greek and Italian economies not all observers believe it will have a meaningful effect. Martin Wolfe (Chief Economist for Financial Times) points out that the US has now achieved 3% growth but only after $4 trillion quantitative easing and a matching fiscal injection for investment into key business sectors – something the EU simply couldn’t replicate.

uro2Perhaps more telling and ultimately more important is the fact that the lion’s share of any bail out has (and probably will) fallen to Germany to fund.

Recent German media and social commentaries have shown a grudging willingness to provide support to Greece in order to prevent a further financial crisis. However, similar soundings of the German population now noticing tighter purse strings as a result of the support come closer to the view ‘this far and no further’

It is unclear, at least to me whether the obvious and consistent desire to make the European Union work effectively is seen as worth the cost by the general population of Germany.

So for me, a watching brief on the Eurozone at present – but the indications aren’t too positive in my view. Despite my personal views on the sense of a currency zone the size of Europe, I wouldn’t wish a further crisis on any of us. Here’s hoping my reading of the early indications are wrong.

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