Eurozone Heading Toward Full-Blown Economic Crisis

EghtesadOnline: One has to be concerned about the near-term prospect of an intensification of the eurozone’s downward economic and political spiral.

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15 September 2016

Not only is the eurozone economic recovery showing clear signs of sputtering despite the unusually favorable tailwinds it is now experiencing, but its politics are also showing increased signs of fragmentation ahead of key elections over the next 12 months in each of the eurozone’s four most important countries, news outlets reported.

Over the past decade, the distinguishing feature of the eurozone economy has been its failure to deliver meaningful economic growth. Major European economies like Italy and Spain are still some 7% below their pre-2008 peak levels, while the overall European unemployment rate remains stuck in double digits.

Political Fragmentation

As might have been expected, the eurozone’s very poor economic performance, coupled now with its Syrian refugee crisis, has led to a disturbing fragmentation of its politics in both its southern and northern member countries. This fragmentation will make it all the more difficult for the eurozone to reform its economy in a manner that might hold out the prospect of an early end to its downward economic and political spiral.

As an indication of the eurozone’s political fragmentation, one only need consider the erosion of power of its mainstream political parties. From Greece to Spain, and from Italy to Portugal, the two main centrist political parties, between which governments regularly alternated, now together command generally less than 50% of the vote.

Instead, political power has shifted steadily to upstart political parties on the extreme left and right of the political spectrum like Syriza in Greece, the Five Star Party in Italy, Podemos in Spain, the National Front in France and now the Alternative for Germany Party.

At the heart of the eurozone’s present economic and political malaise has been the euro straitjacket to which its members are subjected. That straitjacket has precluded highly troubled economies like Greece, Italy, Portugal and Spain from using exchange-rate depreciation either to restore international competitiveness or to offset the contractionary effect of painful budget austerity.

Lacking Recovery

Sadly, the eurozone’s immediate economic growth prospects do not appear to be good. This would seem to be particularly the case considering that, over the past year, the eurozone has been unable to sustain a meaningful economic recovery despite the prevalence of unusually favorable tailwinds.

After all, this year European interest rates have been at historic lows, international oil prices have been at rock bottom levels and very easy European Central Bank monetary policy has led to a large euro depreciation that benefits exports. Yet, over the past year, eurozone economic growth has remained anemic at best while the specter of deflation has continued to haunt the continent, according to Financial Tribune.

More troubling yet, years of very poor economic performance have substantially weakened their banking systems and, despite many years of budget austerity, countries like Greece, Italy, Portugal and Spain all have public-debt-to-GDP ratios today that are significantly higher than they were in 2010.

Industrial Output Drops

Eurozone industrial production went into reverse gear in July, the month after Britain’s vote to leave the EU, falling by 1.1% compared to June and 0.5% versus a year earlier.

The recent disappointing numbers from Germany, the eurozone’s biggest economy, have raised questions over the extent to which the bloc has, and will be, affected by Britain’s decision to leave the EU.

Year-on-year, the 0.5% decline in eurozone industrial production was better than the 0.8% drop expected by economists but the monthly number was slightly worse than the 1% fall forecast ahead of Wednesday’s data release.

Eurozone GDP growth cooled to 0.3% from 0.5% in the second quarter but there has since been a spate of particularly disappointing data from Germany. German industrial production fell 1.5% month-on-month in July and 1.2% year-on-year while its exports slumped 10% in July versus the same month a year earlier.