Germany’s surplus on the current account of its balance of payments surged to a record level last year, reaching $285bn, or 8.5 per cent of gross domestic product. It is now overtaking the Chinese surplus as the largest trade imbalance in the world. Although the term “crisis” is normally confined to trade deficits, not surpluses, this imbalance is clearly causing major headaches, both inside the eurozone and globally.
Not least, the surplus is causing problems for Germany itself. Nevertheless, the Merkel administration follows a longstanding German tradition in viewing it largely as a symptom of economic success, not failure. Both the government and the Bundesbank are resistant to lectures from foreigners on how to fix something that is not, in their view, broken.
There is growing pressure from the IMF and the European Commission to take steps to reduce the surplus but, in the main, this has fallen on deaf ears in Berlin. The consequences of ignoring this quandary could be profound. Read more
This is the latest report in our regular monthly series of “nowcasts” for global activity.
Global economic data published in November have shown a further uptick in worldwide activity growth after the significant dip that was reported after mid-year.
It now appears almost certain that the 2015 Q3 dip in world activity was not the precursor of a slide towards global recession. Instead, it seems to have been another of the minor mid-course corrections that have been a consistent feature of the moderate upswing in global activity that started in 2009.
Although the recent flow of data has therefore been somewhat reassuring about the global cycle, serious problems are still prevalent in the world economy. China has not suffered a hard landing; but severe deflation in the manufacturing sector remains unchecked, and the economy is clearly slowing as rebalancing between old and new sectors takes effect.
Most other emerging economies are now embarking on a major deleveraging cycle, and this may drag on EM growth rates for several more years. Growth in the advanced economies as a whole has been stable at about trend rates throughout 2015; but underlying productivity growth remains extremely weak by past standards. Therefore the advanced economies do not appear sufficiently robust to withstand an intensification of the EM shock, should that occur.
Overall, the global economy continues to grow below trend rates, so at some deep level the deflationary pressures in the system are not abating. However, the specific deflationary impetus from the commodity price collapse is now passing its maximum effect so recorded rates of headline and core inflation are likely to rise significantly in the next few months.
The latest data therefore confirm the conclusion reached in last month’s report: the global economy is suffering from a longstanding malaise but not from a cyclical recession. Full details of this month’s nowcasts and global industrial production data are attached here. Read more
Tuesday’s extremely weak German industrial production figures published for August have come an awkward time for the German government. An informal “employment conference” including some EU leaders has been called by Italian Prime Minister Renzi, and it is scheduled to take place, amid little advance publicity, in Milan on Wednesday. This will presumably set the stage for the next European Council meeting on October23. In between will be the International Monetary Fund/World Bank annual meetings in Washington, when the German approach to economic policy in the euro area will be heavily scrutinised.
The official German line heading into these meetings is that the recovery is proceeding well, both in Germany and in the euro area as a whole, implying that the recent marked weakening in both gross domestic product and inflation data are just a temporary aberration. There is no sign that the Merkel administration is ready to change its longstanding formula for economic success in the eurozone: member states should stick to the fiscal targets in the Stability and Growth Pact, and should accelerate structural reforms, so that the expansionary monetary stance provided by the European Central Bank can bear fruit. Read more
Fiscal austerity, a concept which German Chancellor Merkel says meant nothing to her before the crisis, may have passed its heyday in the eurozone. This week, the European Commission has published its country-specific recommendations, containing fiscal plans for member states that are subject to excessive deficit procedures. These plans, which will form the basis for political discussion at the next Summit on 27-28 June, allow for greater flexibility in reaching budget targets for several countries, including France, Spain, the Netherlands and Portugal.
Furthermore, there have been rumblings in the German press suggesting that Berlin is beginning to recognise that fiscal consolidation without economic growth could prove to be a Pyrrhic victory. If true, this could mark the beginning of a new approach in the eurozone, helping the weakest region in the global economy to recover from a recession that has already dragged on far too long. So how real is the prospect of change? Read more
When David Marsh wrote his definitive biography of the Bundesbank in 1993, he chose the following sub title: “The Bank That Rules Europe“. Feared and revered in equal measure, the Bundesbank was the model on which the ECB was built. Imitation was not, however, the sincerest form of flattery for Germany’s central bank. The arrival of the ECB removed most of its direct authority over monetary policy, leaving it with only one out of 23 votes on the governing council of the new central bank.
Recently, the Bundesbank’s President Jens Weidmann has been in a minority of one on the question of whether to launch the ECB’s new programme of Outright Monetary Transactions, to which he is fundamentally opposed. He views the proposed purchases of government debt in the troubled eurozone economies as a thinly disguised monetary bail-out of profligate governments, something which the Bundesbank had believed from the very beginning to be outside the intention of the treaties. Read more
Today’s decision from the German Constitutional Court in Karlsruhe is a major victory for Angela Merkel and for Germany’s preferred approach to handling the eurozone crisis. The court has approved the ratification of the ESM treaty, with only minor conditions attached.
It looks like a comprehensive defeat for those trying to mobilise political opinion inside Germany to block the treaty. As a result, the ESM and the fiscal compact can now be safely launched, and any immediate obstacle to Mario Draghi’s bond buying plan at the ECB has disappeared. What has emerged from this messy process is, in effect, an ESM leveraged by the ECB, something which seemed impossible this spring.
This represents a very large building block in the rescue strategy which the eurozone has gradually pieced together in the last three months.
The acute phase of the crisis peaked in mid June with the Greek election, which reduced the probability of a disorderly Greek exit.
Then, the eurozone summit in late June announced a roadmap for the long term reform of the eurozone. Mr Draghi was a co-author of the plan, and in retrospect it was a very important step, not least because he deemed it to be so.
These steps did not immediately settle the markets, and at times during July it seemed that the capital outflow from Spain would reach unmanageable proportions. However, at that point, Mr Draghi crucially said that the ECB considered it to be within its mandate to eliminate “convertibility risks” in the eurozone, and that statement basically turned the crisis around. Since then, for example, Spanish equities have risen by 30 per cent. Read more
Amid all the focus on the UK’s decision to use its veto, it is important not to miss the main economic outcome of the summit, which is that the agreement heralds a new era in European policymaking. The German approach to fiscal policy will now be writ large across the eurozone. This raises three key questions:
- How different will this prove to be in practice from the old status quo?
- Is it a good idea from an economic point of view?
- Does it allow the European Central Bank in future to play the same role in the eurozone as the Federal Reserve and the Bank of England have been playing in the US and the UK?
My initial take on the deal is that it will be sufficient to dampen the acute phase of the crisis, but that the absence of a clear long-term strategy for growth means that there could still be a long period of chronic problems ahead. Read more
ECB headquarters in Frankfurt. Bloomberg
(Updated with comments, below) For those of us trying to follow the progression of the eurozone’s leaders towards their critical summit on Friday, it has been a fascinating but somewhat bewildering week. However, the critical point is that, so far, the game still seems to be taking place on a playing field mainly of the Germans’ choosing, so the inevitable concessions and bargains which are reached at the summit will still leave the final outcome lying well within their preferred territory. (See an earlier blog.)
What is basically under discussion is a tightening in the fiscal rules which will apply to, and indeed within, the member states, in exchange for a provision of a limited amount of liquidity to allow these countries to reach the point at which they can regain market access for their sovereign debt. With eurobonds now effectively ruled out, any permanent transfers of resources within the enhanced fiscal union are strictly limited in size and scope. However, if the settlement is to prove durable, Germany will need to give some ground in the coming hours. Angela Merkel, the German chancellor who is nothing if not an arch pragmatist, undoubtedly realises that. So where will the bargains be struck? Read more
The leaders of the eurozone have finally reached crunch time. This is the week in which Angela Merkel’s “grand bargain” is due to reach fulfilment at the European summit. On one side of the bargain, the eurozone will be required to accept Germany’s demand for “fiscal union”. On the other side, Germany will agree to the provision of funds to help indebted countries to remain liquid while they reduce government deficits and debt ratios, and thereby regain market access. These provisions of liquidity will come from the EFSF, which will transform into the ESM in 2013, and potentially from the ECB.
Given that fiscal union will play such a central role in this bargain, it is surprising that its exact contents have received such little examination, at least in the financial markets. What might it include, and to what extent is it desirable? Read more
It has suddenly become respectable to ask the question: what would happen if the euro broke up? Last week’s rise in German bond yields signals that a euro break-up is being taken more seriously by investors. I am told that London law firms are allocating large amounts of time to examining the validity, following a break-up, of cross-border contracts written in euros. And, to judge from my own inbox, asset managers are beginning to ask about the economics of how it could occur. Read more
Mario Draghi — Getty Images
In Mario Draghi’s first meeting as the new president of the ECB on Thursday, he already faces a decision which could determine the eventual fate of the euro. This is not a decision about whether to cut short term interest rates. They will be cut, decisively, before the year end. Nor is it a decision about the maintenance of non-standard measures to inject liquidity into the eurozone’s banking sector. These measures will be maintained and increased.
Instead, his historic decision will be whether to use the balance sheet of the central bank to purchase the troubled debt of countries like Italy and Spain, and thus effect a large transfer of resources between the member states of the eurozone – a transfer which the political leaders of the zone have so far been unable to undertake. It is becoming increasingly clear that, among European institutions, only the ECB has the constitutional authority and the financial muscle to undertake such a transfer. But is it appropriate territory for a central bank to enter? That is President Draghi’s dilemma. Read more
Euro symbol by the European Central Bank headquarters. Image by Getty.
When the idea of leveraging the European Financial Stability Facility to increase its firepower was touted as the solution to the European sovereign debt crisis at the International Monetary Fund meetings last weekend, markets rallied sharply. They saw this (rightly) as the first sign of a policy initiative which might actually be large enough to get ahead of the deteriorating crisis. But I commented here on Sunday that there was no real indication that Germany was ready to embrace the scheme and, sure enough, Wolfgang Schäuble, finance minister, yesterday described the approach as “a silly idea” which “makes no sense”.
Germany’s public opposition to increasing the size of the EFSF may be partly tactical, given tomorrow’s key vote on the fund in the Bundestag. But it is also based on a crucial sticking point. The strong economies fear that increasing the size of the fund would result in them losing their own triple A status and they have consistently given a greater weight to these costs than to the less certain, but potentially much larger, costs of a euro breakdown. Read more
A couple of months ago, financial markets realised that the developed economies were slowing sharply, while the policy response from central banks and finance ministries was slow, or confused, or in some cases, like the debt ceiling debacle in Washington, directly damaging. Since then, some policy makers have woken up and smelled the coffee. There have been significant policy shifts in the US, and at the ECB. But there has been no progress whatsoever in the eurozone sovereign debt crisis. Last week, that became by far the most urgent problem facing the global economy. Read more
There have been definite signs of progress this week on European sovereign debt. The ECB is pressing governments to get “ahead of the markets” and come up with a comprehensive solution to the crisis in the next few weeks. Meanwhile, there is talk that Germany may have at last decided that its own narrow national interest would be best served by agreeing to a larger and more generous package of European support for the troubled nations.
Although the optimists may be over-stating the degree to which German thinking has actually changed, something is clearly afoot. For the first time since the crisis started last May, there is a chance that the EU could surprise the markets with a coherent response to the problem. Read more
Although the European Summit reached agreement on how to develop the bail-out mechanism for sovereign countries after 2013, it was an agreement about process rather than content. Germany remained adamant that there would be no fiscal transfers to troubled economies, and that the best way forward is further fiscal consolidation, along with plans for the private sector to share in any losses after a sovereign default. EU finance ministers have been charged with filling in the blanks by 31 March, 2011 – if the markets are ready to wait that long. I am not confident that they will be. Nor do I believe that the present path is necessarily in the best interests of Germany itself, let alone other EU member states. Read more
The proposal to issue E-bonds, made in the FT last week by Jean-Claude Juncker and Giulio Tremonti, has sparked widespread controversy. Some observers (for example, Wolfgang Münchau) have said that it contains the kernel of a solution to the European debt crisis – which, under some circumstances, it might. Read more
There are two massive fixed exchange rate blocks operating in the world economy today, and both of them are facing severe strains and conflicts. Read more
The exceptionally strong German GDP figures for 2010 Q2 have triggered a lot of commentary on whether Germany has coped better with the recent recession than other countries, especially the US. Read more