The production of macroeconomic data from the European Union for the last two quarters of 2014 is a bit slow. The main source, Eurostat, took until last week to release GDP data for the third quarter, though that was under ESA 2010 standards. We are still waiting for the “modernized” versions to be released.
According to the “older” series, which I reported on last week, economic stagnation continues to hold Europe in an unforgiving chokehold. A look at unemployment statistics – which is updated faster than national accounts data – confirms this picture:
Regardless of what configuration Europe is given – the EU as a whole or the euro zone – its unemployment rate is not where it should be. Before the Great Recession, U.S. unemployment was almost half of what it was in Europe; after a brief period of declining jobless rates, Europe experienced a long period of unrelenting increase. In fact, as Figure 1 shows, European unemployment has been creeping upward for five years, from mid-2008 to mid-2013.
It remains to be seen if 2013 actually was the peak, and if 2014 represents the beginning of a long-term decline. There is no underlying trend in GDP or any of its individual components to hint of a real recovery. Here, the European economy stands in stark contrast to the U.S. economy, where unemployment has been falling, albeit slowly, since 2010.
All is not dark as night in Europe, though. Some countries have seen a drastic decline in unemployment since the peak. Measured from the first quarter of 2013 through the third quarter of 2014, the unemployment rates in…
Hungary fell by more than a third;
Lithuania declined by almost one third;
Estonia, Poland and Portugal have plummeted by about one quarter;
Bulgaria, Czech Republic and the U.K. are down by just over one fifth.
Despite these reductions, rates are still disturbingly high in many countries. Here are the EU member states with an unemployment rate higher than the U.S. rate of 6.2 percent:
|Unemployment, EU States, Q3 2014|
While it is good to see that “only” a quarter of all Greeks were unemployed in Q3 2014, as opposed to 28 percent a year ago, it should also be noted that unemployment was lower in 2012 when their economy was plunging like the Titanic after she hit the iceberg. In Q3 2012 the Greek unemployment rate was 25 percent exactly.
Spain, with Europe’s second-highest unemployment rate, saw its peak in early 2013 at 26.9 percent. They are now back where they were in 2012, but the decline is very, very slow.
Cyprus is actually still in the phase where unemployment is increasing. It is unclear if the same is true for Croatia, where unemployment has been fluctuating between 14 and 18 percent – averaging 16.6 – over the past three years. What is clear, though, is that there is no downward trend in the Croatian unemployment rate.
Fifth on the list is Portugal, where unemployment topped at 17.8 percent in Q1 2013 and has been moving down very slowly since then. To their credit, the Portuguese have seen a slow improvement in GDP growth, from an annual, inflation-adjusted rate of -1.4 percent in Q2 2013 to one percent in Q3 2014. Greece and Spain have seen similar improvements:
The Spanish improvement is predominantly driven by exports. The same is ostensibly true for Greece and Portugal as well, in which case the case for a lasting improvement is basically non-existent. A more detailed examination of national accounts data will give us a more detailed picture (stay tuned).
The small decline in Europe’s notoriously high unemployment reported above is far too weak, far to little to indicate anything beyond a temporary easing of the social and economic pressure that comes with large segments of the labor force being unemployed for years.
In a couple of articles recently I have noted that Greece and Spain seem to be breaking the ranks of economic stagnation in Europe. While we wait for Eurostat to release third-quarter GDP data, let us take a look at what has happened on the job front in those two countries.
Let us, first of all, make one thing clear: a recovery as traditionally defined in the macroeconomics literature is not necessarily a recovery from a crisis of the kind Europe is now stuck in. This crisis is structural – permanent by default – and it will take a permanent change in the structure that perpetuates the crisis in order to end it. We may see an improvement in economic activity without such changes, but that improvement will not be strong enough to actually recover these economies.
A real recovery means a permanent elevation of economic activity above the two-percent growth threshold. Greece and Spain are far away from that threshold – even if they occasionally hit it in one quarter, it does not mean that they have recovered.
That said, there is one area where the Greek and Spanish economies are at least showing some resiliency: the job market. Analyzing Eurostat employment data we find quite a few interesting factoids.
Both Greece and Spain saw stronger job growth in Q2 2014 than the euro zone as a whole. In Greece the total number of employed persons grew by 1.58 percent over the previous quarter; in Spain the increase was 2.37 percent. For the 18-country euro area as a whole, job growth was a modest 1.21 percent.
In Q1 2014 total Greek employment increased by 0.11 percent, while Spain saw a 1.07-percent decline. Both numbers beat the euro zone where total employment fell by 1.57 percent over the previous quarter, Q4 2013.
Annually, the improvement is not quite as impressive. The Greek economy only grew total employment by 0.1 percent in Q2 2014 over Q2 2013. For Spain, the number was better at 1.1 percent, clearly beating the euro zone’s 0.3 percent. But both Greece and Spain lost jobs in the first quarter over same quarter previous year: employment was down 0.6 percent in Greece and 0.5 percent in Spain, while euro-zone employment expanded by 0.2 percent.
Nevertheless, looking back, the Greek economy has clearly been moving in the “right” direction for some time. Their annual quarter-over-quarter employment numbers have been improving for five quarters in a row now. This means four quarters of smaller and smaller decline, and again one quarter with an improvement year-to-year. The Spanish economy has seen a similar trend, though not quite as pronounced as in Greece.
The euro zone, by contrast, is not exhibiting any clear job-creation trend. Year to year, its quarterly employment numbers vary within a narrow band: from a decline of one percent to 0.4 percent growth. This verifies that the Greek and Spanish economies are bucking the trend, and this in turn calls for a deeper analysis of why that is happening. Furthermore, it means finding out whether or not it is realistic to expect the improvement trend to continue.
There is more good news for Greece and Spain: both countries have been able to turn around, or almost turn around, the employment situation for their young. In the age group 15-24, Greece has again seen five straight quarters of improving numbers: three quarters of a slowdown in job losses and two straight quarters, Q1 and Q1 2014, of actual growth in youth employment. For Spain, the trend is again not as pronounced – young Spaniards are still losing jobs – but at least situation is not worsening nearly as fast now as it did in 2012. For Q1 2014 Spanish youth employment fell by 4.7 percent; for Q2 2014 it fell by 1.2 percent. By contrast, the first two quarters of 2013 the decline was 14.7 and 12.4 percent, respectively.
In this area the euro zone is still very much in trouble. Consider these changes, quarterly year-over-year, to youth employment in the 18 euro-zone countries:
|Euro-18 youth employment change||-3.94%||-3.05%||-2.88%||-2.71%||-3.01%||-2.75%|
As soon as third-quarter GDP data is out we will take a close look at them. Then we will get a good opportunity to asks whether or not Greece and Spain are indeed recovering, or if their job improvement numbers are merely a reflection of the end of the harshest austerity measures known to free men (outside Sweden) since the 1930s.
At the beginning of this year there were lots of forecasts that the European economy was going to recover. I never believed them, primarily because government was a bigger burden on the economy than ever. So far I have been proven right, which is not something I would want to celebrate. But I also want to make clear that once government pulls back from its efforts at balancing its budget with higher taxes and spending cuts, the private sector will eventually start to recover.
There is a lot of research to show this. I review the public policy part of that research in chapter 5 in my new book Industrial Poverty. My conclusion is that this kind of austerity can work – the private sector emerges growing from even the most protracted periods of austerity. However, this is not a reason to use austerity as it has been applied through most of recent history, namely as a means to save government. Instead, austerity must be redesigned to reform away government. Otherwise the private-sector recovery that follows will suffer from two ailments:
1. It will look fast in the beginning, as consumers catch up with the standard of living they lost during the austerity period; and
2. Because of the recalibration of the welfare state – permanently higher taxes and permanently lower spending – the economy will hit its full employment level at a higher rate of unemployment than before the austerity episode.
It is also important to keep a watchful eye on whether or not a recovery is external or internal. In too many European countries over the past quarter century, a recovery has come from a rise in exports, i.e., been external. The consequence of this is that the domestic economy lags behind.
To make matters worse, much of modern manufacturing in Europe consists of bringing in parts produced in low-cost countries, assembling them at a highly efficient plant in a European country and then shipping them on to their final destination. This new kind of industrial production is increasingly isolated from the rest of the economy, which means that its multiplier effects on private consumption and business investments is relatively weak. It is, in other words, no longer possible for a small, exports-oriented European country to enter a lasting growth period merely on a rise in exports.
Earlier this year I pointed to Germany as an example of the feeble macroeconomic role of exports. You can get a temporary boost in GDP growth from a rise in exports, but once that boom goes away, it will have left very few lasting “growth footprints” in the economy. It looks like the same thing is now happening in Spain, which is in a recovery, according to the ECB:
The economic recovery has gathered momentum during 2014, with GDP growing at a faster pace than the euro area average.
Going by the latest national accounts numbers from Eurostat, which for obvious reasons covers only the first two quarters of 2014, it was not until Q2 this year that Spanish GDP outpaced the euro zone: 1.1 percent real growth over the same quarter previous year, compared to 0.5 percent for the euro zone.
Before that, Spain was doing worse than the euro zone by a handsome margin.
The ECB again:
Growth has been supported by a rise in domestic demand, while the external balance has weakened substantially as a result of a slowdown in export market growth and higher imports. Domestic consumption and investment in equipment are benefitting from growing confidence, employment creation, easier financing conditions and low inflation.
Over the past year there has been a slow but steady decline in Spanish unemployment, from 26.1 percent in August 2013 to 24.4 percent in August 2014. That is very good for a people hit very hard by disastrously ill designed fiscal policies over the past three years.
At the same time, there are clear signs that this is an “export bubble”. Consider these growth numbers for the country’s GDP (quarterly over same quarter previous year):
There is no doubt that GDP growth is improving. While 1.1 percent is absolutely nothing to write home about, as mentioned earlier it exceeds the euro-zone average. The big question is whether or not this improvement will last. The biggest concern is the exports numbers: good growth for two quarters, then a major leap up to 6.4 percent, only to fall back to 1.5 percent. (While these are not seasonally adjusted numbers, they are quarterly growth on an annual basis which neutralizes seasonal effects.) If exports fall back to tepid growth numbers below two percent, GDP growth will most likely slide back into zero territory.
However, there are a couple of other mildly encouraging factoids in these numbers. To begin with, government spending, while on the growth side, is expanding slowly at no more than one percent per year. This number does not account for financial payments, such as unemployment benefits and other income security entitlements, but they do account for government activities that involve government employees. Alas, restraint in government spending means very little effort from government to expand its payrolls to do away with unemployment.
The apparently stable growth in private consumption is in all likelihood attributable to the post-austerity effect I pointed to above. This means that we will not see 2+ percent growth for much longer; for that to happen there has to be a sustained and substantial addition of consumers to the economy who are capable of spending more than what is required for pure subsistence. This, in turn, will not happen until unemployment comes down more than marginally.
Another mildly encouraging sign is that business investments have stopped declining. The turnaround over the past four quarters is in all likelihood an attempt by exporters to expand their capacity. If the exports boom is coming to an end, so will probably investments.
To turn this fledgling recovery into a lasting trend, the Spanish government needs to address the underlying problem in its economy: the welfare state. Otherwise it will just experience spurts of growth here and there as anomalies to a permanent state of stagnation – and industrial poverty.
I recently noted that the French government has resorted to desperate tax cuts. These cuts reflect a major change in economic thinking in Paris, but the decisiveness of this turnaround struck me as a bit odd. After all, there was no unpredictable economic news out there to explain why it happened now.
Or was there?
British newspaper Independent has the story:
The land of 400 cheeses, the birthplace of Molière and Coco Chanel, is facing an unprecedented exodus. Up to 2.5 million French people now live abroad, and more are bidding “au revoir” each year. A French parliamentary commission of inquiry is due to publish its report on emigration on Tuesday, but Le Figaro reported yesterday that because of a political dispute among its members over the reasons for the exodus, a “counter-report” by the opposition right-wing is to be released as an annex.
And why is this such a controversial topic? The Independent explains:
Centre-right deputies are convinced that the people who are the “lifeblood” of France are leaving because of “the impression that it’s impossible to succeed”, said Luc Chatel, secretary general of the UMP, who chaired the commission. There is “an anti-work mentality, absurd fiscal pressure, a lack of promotion prospects, and the burden of debt hanging over future generations,” he told Le Figaro.
That is France in a nutshell. No other country in Europe, not even Sweden, has been able to combine welfare-state entitlements with ideologically driven labor market regulations to the extent that the French have. (In Sweden, labor market law delegates the right to regulate the labor market to the unions instead, effectively elevating them to government power without government accountability.) But this is not the work of two years of socialism under President Hollande – it has been very long in the making. Alas, the Independent continues:
However, the report’s author Yann Galut, a Socialist deputy, said the UMP was unhappy because it had been unable to prove that a “massive exile” had taken place since the election of President François Hollande in 2012. What is certain is the steady rise in the number of emigrants across all sections of society, from young people looking for jobs to entrepreneurs to pensioners. According to a French Foreign Ministry report published at the end of last month, the top five destinations are the UK, Switzerland, the US, Belgium and Germany.
So here we have the explanation of why the French government is now scrambling to cut taxes. Their tax increases were the straw that broke the camel’s back. By raising the top income tax bracket to a confiscatory 75 percent they gave tens of thousands of entrepreneurs, medical doctors, computer engineers, finance experts, investors and business executives the final reason they needed to leave the country. As a result, tax revenue from the punitive taxes introduced under Hollande are nowhere near what the socialist government had planned for. As a result there is less money in government coffers to pay for the same socialist government’s entitlements.
The smaller-than-planned revenue stream in combination with larger-than-affordable entitlement spending opens up a budget deficit. The French government is already in breach of the EU balanced-budget law, often referred to as the Stability and Growth Pact. A self-inflicted escalation of the deficit puts Hollande in direct confrontation with the EU Commission, which is already loudly complaining that France seems perennially unable to bring its deficit down under the ceiling of three percent of GDP mandated by the aforementioned Pact.
Back now to the Independent for some more details on the French exodus:
Hélène Charveriat, the delegate-general of the Union of French Citizens Abroad … told The Independent that while the figure of 2.5 million expatriates is “not enormous”, what is more troubling is the increase of about 2 per cent each year. “Young people feel stuck, and they want interesting jobs. Businessmen say the labour code is complex and they’re taxed even before they start working. Pensioners can also pay less tax abroad,” she says.
Wait… what was that?
Businessmen say the labour code is complex and they’re taxed even before they start working.
Those evil capitalists. Two 20-year-old guys from working class homes have a passion for fixing people’s cars. They decide to open their own shop and start by working their way through the onerous French bureaucratic grinds to get their business permit. (I know someone who tried that. A story in and of itself. I’ll see if he wants to tell it in his own words.) Once they have the permit they scrape together whatever cash they can, buy some used tools and put down two months rent on a garage at a closed-down gas station. While they get the tools together, find the garage and get everything set up they obviously have no revenue. But that does not stop The People’s Friendly Government from showing up at their doorsteps to collect taxes on money they have not yet made.
These two young Frenchmen do not exist. And if they did, they would move to England and open their shop there instead, thus joining the growing outflow of driven, productive Frenchmen from all walks of life. But it is actually good that the Independent is less interested in reporting on the young French expatriates and instead puts focus on the country’s hate-the-rich taxes:
As for high-earners, almost 600 people subject to a wealth tax on assets of more than €800,000 (£630,000) left France in 2012, 20 per cent more than the previous year.
Governments in high-tax countries rarely pay any attention to the outflow of their young, productive and aspiring citizens. The argument is that those young people don’t pay much taxes anyway. Right now. Of course, if they are allowed to work and build careers and businesses instead of emigrating, they will become wealthy and create lots of jobs in the future. That, however, is a perspective that big-government proponents notoriously overlook. Therefore, there is really just one way to explain to them what harm their punitive tax policies do, and that is to shed light on the exodus of wealthy, productive people happening right now. Such news can actually work.
As indicated by my earlier article on the desperate French tax cuts, it may already be working. The French government cannot ignore forever how its combination of a wealth tax and a 75-percent tax on top incomes destroy existing jobs and, more importantly, solidly and decisively prevents the creation of new ones. They cannot forever dwell in the delusion that government somehow can raise GDP growth above the current level of zero percent, and they certainly cannot use government to create jobs for the more than ten percent of the work force that are currently unemployed.
It remains to be seen how sincere the French socialist government is about reversing course. It is by no means certain that the newly announced tax cuts mark a turning point. It could just as well be that they are mere token gestures, aimed at giving false hope of a better future to new prospective emigrants.
Scottish voters narrowly said no to independence. This was the better outcome: an independent Scotland governed by the Scottish National Party and Labour would have build a full-fledged Scandinavian welfare state, paid for in good part with revenue from oil taxes. It would have been a bad deal for the Scottish people, especially since they were apparently planning on staying part of the EU.
By remaining part of the United Kingdom the Scotsmen will be better off the day Britain leaves the EU. British taxes are still at the lower end in Europe, its welfare state is not quite as elaborate as in, e.g., Scandinavia and there is still a tradition of individual responsibility and opportunity left there. By seceding from the EU, Britain would have a future at least as bright as that which lies ahead for the United States once we are through this laggard recovery and back in full gear again.
In fact, the list of reasons for member states to leave the EU grows longer almost by the day. The latest addition is the so called “youth guarantee”, a feeble and typically statist idea to reduce youth unemployment. From the EU Observer:
Outgoing EU commissioner for employment Laszlo Andor on Wednesday (17 September) defended EU-wide efforts to tackle youth unemployment amid critical remarks from MEPs. Andor told deputies that the so-called youth guarantee “is well on track and is already bringing results”. He noted many of the programmes in the policy are set for adoption this year. He also said national authorities expected to send the commission “concrete information” by the end of the month on the estimated number of young people who stand to benefit. Submitting and getting the commission to adopt operational programmes is important because it entitles member states access to EU funding.
This is a good summary of what the “youth guarantee” is all about. The EU taxes its citizens (visa member states) then spends the money on putting young men and women on subsidized employment. Employers get cheap labor that they could not afford without the subsidy – and cannot afford when the subsidy ends – while government can formally count the tax-sponsored “employees” as no longer unemployed.
This is a classic example of “active labor market policy”, ALMP. Like most other bad economic ideas it has its roots in Sweden, which by the way at 27.6 percent has the eighth highest rate of youth unemployment in the EU (according to Eurostat, second quarter 2014).
The EU Observer again:
So far only France and Italy fit the description. Launched last year, the guarantee is the EU’s response to persistent record high unemployment rates among the under-25s. It aims to find young people work or training within four months after graduation or after being laid off. “In principle the youth guarantee is a very positive thing for young people, but national leaders lack the political will and ambition to properly implement it,” Allan Pall, secretary general of the Brussels-based European Youth Forum, told this website.
Of course they do. The EU has created this and expects that member states share the cost for it. First Brussels strong-arms member states into jobs-destroying austerity programs – thus saving the welfare state at the expense of full employment – then Brussels comes back and tries to mandate that those same member states spend money on artificial, tax-subsidized employment for the young men and women who could not find jobs because of austerity.
Back to the EU Observer:
Meanwhile, the jobless trend remains stubborn with one in two youths still unable to land a job in either Greece or in Spain. Spain (53.8% in July 2014) now has the highest youth unemployment numbers, overtaking cash-strapped Greece (53.1% in May 2014). Italy, Croatia, Portugal, and Cyprus are not far behind. Overall EU numbers indicate that more than one in five young people still cannot find a job.
Here are the numbers from Eurostat for the EU states that so far have reported youth unemployment for the second quarter of 2014:
It is worth noting that the Greek unemployment rate has fallen almost ten percentage points in two years. A good part of the reason, though, is that young Greeks emigrate, even to such formerly deplorable economies as Romania.
Overall, the youth unemployment rate in EU-28 is 21.7 percent and 22.9 for the 18-state euro zone. By comparison, America’s youth unemployment rate has fallen to 13.5 percent, down 3.1 percentage points in a year. That is twice the reduction in the EU-28. But more importantly, of the 26 reporting EU states, seven saw youth unemployment rise in the past year, and that includes Germany. The Netherlands reported unchanged unemployment since second quarter 2013 and only eight states reported a decline bigger than that in the United States.
To further highlight the lack of an EU-wide trend of declining youth unemployment, please note that almost one in three young men and women who went from unemployment in Q2 of 2013 to a job in Q2 of 2014 lived in Britain. In Q2 of 2013 Britain was home to only 9.3 percent of all the unemployed youth in the EU, a fact that reinforces the point that Britain, with its strong currency, moderate taxes and Anglo-Saxian economic and social traditions, does not belong in the European Union. It belongs in a trans-Altantic relationship with its culturally proximate friends in North America.
As for the rest of the EU member states, they would be well advised to develop an orderly plan for dissolving the super-state structure before Marine Le Pen becomes the next French president and destroys the euro by reintroducing the franc.
There is yet more evidence that Europe, unlike the United States, is going to remain in a state of economic stagnation for a while longer. The EU Observer reports:
Italy has slipped back into recession putting pressure on Prime Minister Matteo Renzi to fulfil promises to see through major structural reform to boost growth. The Italian economy, the third largest in the eurozone, shrank 0.2 percent in the second [quarter], the country’s national statistics office said Wednesday (6 August).
The only quarterly number that Eurostat has released so far is the one adjusted for seasons and workdays, a number I would rarely use. However, it has its merits, too, as it comes as close as you can to linking GDP to the abstracted performance of economic agents. Compared to the same quarter 2013, this number shows a 0.3-percent drop in GDP over the same quarter 2013. Going back two years, the total decline is 2.5 percent. While the bulk of that decline took place in 2013, the country is still suffering from government-saving austerity programs designed to bring Italy into compliance with EU debt and deficit mandates.
But it is not over yet for Italy, not by a long shot. EU Observer again:
Finance minister Pier Carlo Padoan defended the government’s reform plans and said the country would not now need a corrective mini budget to stay on the right side of the EU’s fiscal rules. “The (GDP) figure is negative, but there are also positive elements. Industrial production is much better and consumer spending is continuing to increase, albeit slowly,” said Padoan
This statement is revealing of the purpose behind austerity. Everywhere in Europe, political leaders measure the success of austerity in terms of government fiscal balances; the metric never includes GDP growth. Greece is the prime example of this, where government-saving austerity peeled away one fifth of GDP in fixed prices. The Spanish encounter with austerity exemplifies similarly warped policy goal setting.
In addition, the finance minister’s statement about consumer spending is downright false. While there are no second-quarter Eurostat numbers yet on the spending of Italian consumers, first-quarter numbers are downright troubling. From Q1 2012 to Q1 2014, Italy’s consumer spending declined four percent. Over the last year, Q1 2013 to Q1 2014, the decline was a modest half-percent, but that is still a decline – not an increase.
Even if the GDP and consumption numbers indicate that the decline in Italian economic activity is coming to an end, there are no real signs of a sustainable uptick. It would be foolish to expect anything else, as the main fiscal-policy priority of the Italian government remains the same: save the welfare state. As we go back to the EU Observer, we get even more indications that nothing is really going to change for the better in the Italian economy:
The Italian PM has been among those calling the loudest for flexibility in the interpretation of the rules that govern debt and deficits in the eurozone. However other partners and the EU commission have indicated they wanted to see more structural reform undertaken first. The commission reiterated this on Wednesday and noted that Italy had already been told that it should stick to its budget plans. The other leader calling for flexibility and support from its EU partners is France’s Francois Hollande. In an interview with Le Monde recently, the French president urged Germany and the European Central Bank to do more to boost growth.
1. The Italian prime minister’s call for more flexibility in the interpretation of the EU’s stability and growth pact is really nothing more than a request to be allowed to increase government spending. It echoes what the socialist French president has been demanding for almost two years. However, the last thing Europe needs is more government spending.
2. When European political leaders talk about “structural reform” they do not refer to the kind of reforms actually needed, namely an orderly phase-out of the welfare state. Their take on “structural” is entirely regulatory and focused mostly on the labor market. But regulations do not build a structure – they are part of it, but they are not a structure in themselves. Furthermore, it is pointless to relax labor-market regulations without permanent tax cuts and terminations of government spending programs. Deregulation is supposed to make it easier for employers to hire and fire, but if there is no more demand for labor after the deregulation than before, there won’t be any more jobs out there.
3. It is rather amusing to see how the French president is urging others, outside of his domain, to do more for economic growth. In essence, he is telling the Germans to run their economy better, so he can continue to raise hate-the-rich taxes and drive even more entrepreneurs and hard-working high-end professionals out of France.
In conclusion, there still is no case for an economic recovery in Europe. The continent is now on its sixth year of stagnation, and in some countries an outright depression. Monetary policy has now taken the entire euro zone into the liquidity trap while fiscal policy remains stubbornly fixated on government-saving austerity policies.
Youth unemployment remains stuck above 22 percent in the EU, and above 23 percent in the euro zone. An entire generation is lost.
As painful as it is to say it, Europe is turning into an economic wasteland. It is entirely self-inflicted and if the Europeans want get out of their permanent crisis, they have the solution in their hands.
Yes, folks, it’s time for one more article on Europe’s deflation threat. This one adds a bit more to the picture of just how dangerously close Europe is to deflation.
The European central bank will almost certainly act this week to breathe life into the eurozone’s struggling economy after a shock fall in inflation, economists said. An unexpected fall in annual inflation to 0.5% in May from 0.7% in April appeared to seal the case for additional stimulus when the ECB announces its June policy decision on Thursday. It remains well below the ECB’s target of just under 2%, and surprised economists polled by Reuters who had forecast no change.
The “Thursday” that the Guardian refers to is, of course, last Thursday’s ECB meeting where they decided to introduce negative interest rates on banks’ overnight deposits. Banks now pay a penalty for depositing money with the central bank, a move that the ECB hopes will encourage banks to lend even more aggressively to the private sector.
The problem is that the private sector in Europe in general does not have enough confidence in the future to take on more debt. Those that would gladly borrow more money are probably not credit worthy, due to half a decade of recession, unemployment and struggling businesses. Banks therefore end up with piles of liquidity they cannot make money on – unless they lower their credit standards.
Hopefully that will not happen. Back to The Guardian:
Christine Lagarde, the head of the International Monetary Fund, has been among those to raise concerns that “lowflation” will persist against the backdrop of a sluggish recovery in the 18-nation eurozone, urging the ECB to act. The fear is that weak price pressures could ultimately trigger a dangerous deflationary spiral, where consumers and businesses put off spending amid expectations that prices will fall further still. May’s fall in inflation dragged the annual rate back down to March’s four-and-a-half year low. Eurostat, the region’s statistics office, said food, alcohol and tobacco prices rose by just 0.1% in May compared with a year earlier, while energy prices were flat, as were non-energy industrial goods prices.
And this after years with a money supply that has increased several times faster than money demand, leaving plenty of new liquidity out in the economy.
All this with no effect on GDP growth. Back to The Guardian:
A sustained recovery has yet to take hold in the eurozone, with growth slowing to 0.2% in the first quarter, down from 0.4% in the previous quarter. There was some slightly better news from the labour market on Tuesday, as the unemployment rate fell unexpectedly to 11.7% in April, from 11.8% in March. The number of people out of work fell by 76,000 to 18.75 million. But the headline figure hid big disparities between the 18 member states. The lowest jobless rates were recorded in Austria at 4.9% and Germany at 5.2%. Greece had the highest rate, at 26.5% in February, followed by Spain at 25.1%. Youth unemployment also fell in the eurozone, by 202,000 to 3.38 million people. The rate fell to 23.5% from 23.9% in March. But more than half of young people in Greece and Spain do not have a job.
Small changes back and forth in unemployment make no difference over time. It would take a closer look at employment rates and similar data to find out if this is indeed the beginning of a recovery, or simply an exit from the workforce entirely. The abysmal GDP numbers would indicate the latter.
With no recovery in sight, deflation is still a real possibility in Europe. It is definitely more likely than a sustained recovery.
Never bark at the Big Dog. The Big Dog is always right.
As expected, the harsh reality of the European economy is beginning to sink in with the political leaders of the EU. For a while, the narrative has been that the European economy is rebounding and that unemployment is falling. I have maintained all along that there are no signs of any such recovery, and on Friday Eurostat released a report that begins to backtrack from the unwarranted optimism. However, as the EU Observer reports, the narrative has changed somewhat, now putting focus on differences between member states rather than the absence of any downward trend across the EU:
Figures released on Friday (2 May) by the EU’s statistical office, Eurostat, indicate large differences remain in unemployment rates across member states. The eurozone unemployment rate was 11.8% in March 2014, stable since December 2013, but down from 12.0% in March 2013 With an 11.8 percent overall jobless rate in the eurozone, the chances of people landing a job remain low in countries like Greece and Spain when compared to Austria and Germany. At 26.7 percent, austerity-hit Greece still has the worst unemployment rate in the EU, followed closely by Spain with 25.3 percent. Austria at 4.9 percent and Germany at 5.1 percent have the lowest.
There is a good reason why the new story in Europe is about differences between member states rather than the overall trend. Figure 1 reports quarterly data on total unemployment, not seasonally adjusted, for the EU as a whole and for the euro zone specifically:
Yes, there are differences between member states, but the differences become pointless of there is no overall positive trend in unemployment. Germany is a good example, with an unemployment rate at 5.5 percent in the first quarter of 2014. While this is low by European standards, it is important to note that there is no strong downward trend in these numbers. Yes, measured over the same quarter a year before (e.g., first quarter of 2014 compared to first quarter of 2013) the Germans do see a slow, weak but nevertheless visible improvement. However, the rate still fluctuates from quarter to quarter by as much as a half percentage point, showing somewhat of a weakness in the trend.
Figure 2 highlights further the lack of trend in unemployment:
Most notably, Greece and Italy have not yet reported full data for the first quarter of this year. So far their trends point steady upward, though numbers that I reported previously on the Greek GDP give us reason to believe that unemployment will be flat in early 2014. Italy is a more uncertain case, partly due to growing talks about the country leaving the euro.
It is positive, no doubt, that both Spain and Ireland saw a decline in unemployment in the first quarter of 2014 (the second quarter in a row for Ireland with a decline). However, at the same time French unemployment is steadily on the rise, a fact that, given the size of the French economy, will have hampering effects on any possible recovery in other euro-area countries.
As we return to the EU Observer story, we can hear the frustration echo through the EU head quarters:
EU social affairs commissioner Laszlo Andor called for more investment into job creation. “The ultimate factor that will determine Europe’s economic future is whether we can hold together and further strengthen our Economic and Monetary Union, or whether we let weaker members of the EU and of our societies drift away,” he said. Earlier this year, Andor warned that one in four Europeans is at risk of poverty, despite unemployment figures dropping in some member states. Young people are the worst affected by the unemployment crisis. Only around one in four people of working age under 25 have a job. To offset the trend, the EU last summer launched its Youth Guarantee scheme with a promise to help the young find jobs, continue their education, or land a traineeship within four months of becoming unemployed or leaving formal education. EU money to support the scheme is primarily sourced from the European Social Fund (ESF).
Which is built by, and maintained by, Europe’s taxpayers. Instead of doing something about the high taxes and other factors that prevent Europe’s entrepreneurs from creating jobs, the EU taxes people more so it can give money to the young men and women who cannot get jobs because of the high taxes.
Of course, as the EU Observer story continues, spending taxpayers’ money to create jobs is about as hopeless a project as trying to ride a bicycle in zero gravity:
But given the scale of the problem, the EU plan has been criticised for being underfunded and lacking in ambition. The Brussels-based European Youth Forum in a study out in April on ten member states says the scheme has yet to live up to its promises. “It is a good way of tackling youth unemployment but effectively so far there hasn’t been enough ambition in it and enough political will in some member states to implement it properly,” said a European Youth Forum spokesperson.
Wrong. The reason why it has not yet been successful is because it is a government program, spending taxpayers’ money when taxpayers should really be allowed to keep their money and spend it as they see fit. Because of the high taxes across Europe, only countries with strong exports industries are able to pull ahead (Germany and Austria are good examples). Until government rolls back its presence in the economy – on both the spending side and the taxation side – Europe will be stuck with its disastrously high unemployment levels. Temporary changes up or down will not make any difference over time.
Europe’s political leadership keeps trumpeting out that their austerity policies actually worked. They are closely backed by their media outlets. Alas, the following story in the EU Observer:
Cash-strapped Greece recorded its first primary budget surplus in a generation last year, according to data released by Eurostat on Wednesday (23 April). Excluding interest on its debt repayments and a number of one-off measures to prop up its banks, Athens recorded a surplus of €1.5 billion, worth the equivalent of 0.8% of its economic output in 2013. Despite this, Greece still recorded an overall deficit figure of 12.7 percent, up by 4 percent on the previous year as the crisis-hit country endured a sixth straight year of recession.
As always, it is completely wrong to use the government budget as some sort of health indicator for how an economy is performing. To illustrate how dicey that can be, let us go over some numbers on the Greek economy.
First, GDP growth, measured as growth over the same quarter in the previous year:
If economic growth was any indicator, the jury would still be out on the Greek economy. It is somewhat of a relief that the contraction of the economy (“negative growth”) is slowing down – the figure for the last quarter of 2013 was -2.3 percent – but there were also two “spikes” of improvement during the ongoing recession, one in late 2009 and one in 2011.
The slowdown of the contraction that began in 2012 is still ongoing, though, which could mean that the Greek economy may actually start growing again some time in 2014. The question is what is behind this improvement. Since austerity policies are still being enforced, fiscal policy is suppressing domestic spending. Therefore, a good bet is that the “leveling out” of the long decline in Greek GDP is driven by an improvement in exports. Not surprisingly, Eurostat data show that Greek exports increased three quarters in a row during 2013. This is the longest period of improvement in exports since 2010.
If activity is improving in the exports industry, it would naturally translate into better GDP numbers, albeit limited compared to a sustained recovery in private consumption. QED. It would also translate into an improvement of government finances, as tax revenue would rise from growing corporate income. However, this improvement is probably not going to be strong enough to lift the Greek government budget to balance, thus it won’t help them end austerity.
So what, then, do Greek government finances actually look like?
If amplitude is a measure of stability, things do not look good for the Greek government. However, what the European press and its political leaders are raving about is the improvement of the budget deficit displayed as the very last data point in the chart above. There, the consolidated government budget is in a deficit of “only” 2.86 percent of GDP. If this came on top of the weak but visible trend of smaller deficits from 2009 and on, there would be a reason to believe in a recovery. However, two variables call for a reality check: first, the exceptional dip in the second quarter, plunging the deficit into 30.4 percent of GDP; secondly, and much more importantly, the fact that the Greek GDP is still shrinking.
If the deficit improves as a ratio of a shrinking GDP, it means that tax revenues are shrinking as you improve your deficit ratio. This in turn means that you are making very drastic changes to tax rates as well as spending: tax rates have to go up and spending has to decline.
In other words, the only way to accomplish an improvement in the Greek deficit is to keep austerity in place. This in turn keeps the depression lid on domestic economic activity. So long as that lid is in place there is no chance for an improvement in overall economic activity.
In addition to GDP growth there is one variable that mercilessly tells the true story of how an economy is actually doing:
If the Greek GDP is indeed nearing a point where it will no longer shrink, and if the reason is a surge in exports, then the leveling out of the employment ratio is the best the Greeks are going to see for the foreseeable future. Their exports industry cannot pull the economy out of the recession anymore than it could pull Denmark out of its very deep recession in the late ’80s, or Sweden in the mid-’90s. So long as austerity remains in place, depression will still keep its tight grip on the Greek economy.
But just to make it worse… even if austerity was lifted, the Greeks would have little reason to expect a rapid return to better days. To see why, let us return to the EU Observer story:
The surplus [in the Greek budget], which was achieved a year ahead of the schedule set out in Greece’s rescue programme, means that it is entitled to further debt relief on its €240 billion bailout. Talks on debt relief, which is likely to involve lengthening the maturity of Greece’s loans to up to 50 years, will start among eurozone finance ministers following May’s European elections.
All the EU is doing here is kicking the can down the road. They are extending the Greek welfare state’s credit line over and over again. All the bailout programs really achieve is a recalibration of the welfare state, with higher taxes, lower spending and overall a more intrusive government that takes more from the private sector – at a lower level of private-sector activity.
And this is precisely the point here. The goal with austerity policies in Greece is to balance the Greek government’s budget. The goal is not to restore full employment; the goal is not to return to high levels of GDP growth; the goal is not to reduce the ranks of welfare and unemployment benefit recipients. No, the goal is to balance the budget. If the Greek government accomplishes that, they will be rewarded by the EU with more, longer-maturity loans.
In a “normal” welfare state the budget balances at something akin to full employment. However, that changes once a welfare state ratchets down into the depths of a protracted recession, such as the one Sweden experienced in the early ’90s and Europe has been struggling with since 2009. Austerity raises the tax ratio on GDP in order to make sure that government can pay for its spending obligations; spending cuts mitigate some of those tax increases. As taxes go up and spending shrinks, the government budget eventually clears, but at a GDP that provides much fewer jobs than before. In other words, after a long period of austerity, government can pay for its expenses without having as many taxpayers as before.
Once the economy starts improving, tax revenues will go up earlier in the recovery than they otherwise would. Since spending has been adjusted downward, this means in effect that government will begin over-taxing the economy way before it reaches full employment. In the Greek case, if austerity actually works the consolidated government will find itself running a surplus at an employment ratio 10-12 percentage points below what it was before the recession.
Excess taxation thwarts private economic activity. Taxes themselves discourage productive investments and spending, but so long as government spends the tax money there is at least some return that mitigates the loss to the private sector. Taxation for a budget surplus, however, means that literally nothing is coming back into the economy. Every tax dollar is a full loss of economic activity, meaning that the budget surplus indiscriminately prevents the creation of new jobs.
The economy gets stuck at a low rate of employment. This is a perspective on the Greek economy that nobody outside of this blog is pointing to. Yet there is ample evidence that this is exactly what will happen – unless the Greek government replaces austerity with a long series of permanent, well-designed tax cuts.
There is historic experience to show that such policies could work very well. There is also historic experience to show that if you do not cut taxes, you perpetuate the depression you are in. For more on this, please be patient and wait for my book Industrial Poverty, out in late August.
Recent unemployment data from Eurostat gives yet another grim picture of the European economic landscape. The EU Observer reports:
Over two-dozen regions throughout the Union have an unemployment rate twice the EU average. The data, published on Wednesday (16 April), by the EU’s statistical office Eurostat, says the jobless rate in 27 regions in 2013 was higher than 21.6 percent. Thirteen are found in Spain, 10 in Greece, three in the French Overseas Departments, and one in Italy. Five of the worst affected are found in Spain alone.
There is a strong relationship between unemployment and growth. In fact, over time the only way that the private sector can create jobs is if the economy as a whole is growing. With GDP growth at deplorable levels in the EU, there simply is no way for the economy to solve the unemployment problem.
The EU Observer again:
At 36.3 percent, Spain’s Andalucia tops the overall unemployment regional figures, followed closely by Ceuta, Melilla, Canarias, and Extremadura. Youth employment is worse. Young people are twice as likely to be unemployed, when compared to the average unemployment rate, in more than three quarters of all the EU’s 272 regions. Ceuta tops the list of youth unemployment with a 72.7 percentage, followed by Greece’s Dytiki Makedonia at 70.6 percent and Ipeiros at 67.0 percent.
These regions are nothing short of economic disaster zones. As I explain in the linked growth article above, there is very little economic value being created in the European economy that can translate into new jobs. At best, the unemployment situation is not getting worse – it is the herald of Europe’s new era of economic stagnation.
Back to the EU Observer:
The data also showed that over 47 percent of people without work have been unable to find a new job after a year. … Around 75 percent of the unemployed in Slovakia’s Vychodne Slovensko region are also unable to find a job after a year.
In fairness, as the EU Observer notes there are some islands in this sea of economic depression where conditions are a bit more normal:
At the other end of the spectrum are Germany, Austria and Sweden. At 2.6 percent, Germany’s Oberbayern region had the overall lowest unemployment rate. Both Freiburg in Germany and Salzburg in Austria tied at 2.9 percent. Oberbayern, along with Tubingen, also ranks as having the lowest youth unemployment rate at 4.4 percent with Freiburg coming in at a close second. Long-term jobless rates are the lowest in six Swedish regions, which includes Stockholm.
In January I explained that the German economy is on the downslope, with key GDP components gross exports and private consumption coming to a standstill last year.
As for Sweden, nationwide unemployment is a hair below eight percent, with youth unemployment at three times that rate. Recently there have been microscopic changes for the better, but that is coming to an abrupt end with the new fiscal policy plan that Treasury secretary Anders Borg announced back in February: tax hikes, tax hikes and tax hikes.
There is one more caveat with the low unemployment numbers in, primarily, Sweden. Government has a large share of the workforce on its payroll.