Three statistics that have been published in the week between May 12 and May 19 characterize the economic situation in the Euro Area. First it is the GDP growth number for the first quarter of 2013 then it is the external trade balance for March and then the detailed publication of the inflation rate for April.
With these three perceptions we can have an almost complete picture of the short term dynamic of the economy .
The chart below presents real GDP in level. It’s the level of activity not a change from one period to another. After the break of 2011 it’s easier to see the current trend.
For each of the last 6 quarters, GDP was lower. During the first quarter of 2013 it was down -0.2% (-0.9% at annual rate). Since the first quarter of 2011, GDP has decreased by -1.2%. The Euro area dynamic is still one of recession. And as far as this momentum prevails question number one will remain on unemployment.
Carry over growth for 2013 at the end of the first quarter is -0.7%. For the whole year the growth number will be negative. To converge to 0% growth in 2013 GDP has to increase by 0.5% (2% at annual rate) every quarter during the last three quarters of this year. Looking at world trade and at the internal dynamic these 3 targets in a row do seem realistic as we cannot perceive what could be the catalyst for such an improvement.
External trade balance is skyrocketing since the beginning of this year. In March the surplus was Eur18.7bn. Such a surplus has never been seen in the Euro Area since its inception. This is the blue line on the chart. This strong momentum is also perceived when data are smoothed with a 3 month moving average (purple line). This looks like a change in regime.
The cumulated balance for the three months to March is EUR 40.7bn versus 9.3 last year. Between the two reference, exports were up by EUR 13bn (2.8%) and imports down by EUR 18.2bn (-4%)
I’ve checked that the drop in imports does not come exclusively from energy. On non-seasonally adjusted data energy imports were down by EUR 10.9bn. This number has to be compared to non-seasonally adjusted imports that were down by EUR -23.6bn. Lower imports cannot be explained only by energy.
In April inflation rate was 1.2%. This level is well below the ECB 2% target. The decomposition shows that Greece is already in deflation and the probability of such a situation is not null in Cyprus, Portugal, Malta, Ireland and France. With inflation rate below 1% there is a doubt: these countries could be in deflation.
Green bars are core inflation in April. For the Euro Area core inflation is 1%. Inflation rate and core rate are consistent this means that low inflation rates do not result from low energy price contribution. In fact there are no pressures on prices due to a lack of demand and a lack of tensions on the labor market. There are no pressures on wages to go up and feed inflation. Looking at the core inflation rate then Germany and Slovenia are candidates to a possible deflation. In countries like Spain or Greece there are some fiscal effects that push up inflation rate. Without these specific and temporary effects inflation rate would be lower.
These three charts show the unbalanced situation that currently characterizes the Euro Area. Growth is on a downward trend for the last 18 months. This reflects the lack of internal demand as external trade surplus is mainly explained by a drop in imports. This is confirmed by the lack of pressures on prices. This issue on the weak internal demand momentum was shown here.
The question is to know if this process is sustainable, if this is the new equilibrium of the Euro Area or if it is just a temporary situation that has to change again to be sustainable?
In the short run, the main point is the dramatic increase of the external trade surplus. This clearly means that internal demand follows a too weak momentum. Households do not want to spend and try to save and companies do not want to invest as their future is still uncertain. Currently, private internal demand is too low to support growth. That’s what is show on the following chart (we do not have GDP details yet so we cannot calculate internal demand level)
Two points to mention
- Unbalanced external sector reflects a gap between saving and investment. A positive gap means that saving exceeds investment. If governments try to reduce their public deficit they will increase their saving and increase the current surplus: Probably not a good idea.
- Low investment explains the absence of business cycle rebound. In fact business cycle profile depends on investment and durable goods expenditures. Low investment and weak auto sales are an explanation of the current low profile. The best way to improve the current business cycle is to improve investment. At the end this will be positive for employment. As far as there is no improvement in investment we cannot imagine following a strong and virtuous profile that could improve everyone’s situation.
Probably external trade surplus is not sustainable as it reflects a downside trend for imports. We can have different views on this issue. (Here I have a detailed post in French)
One is to say that with large external surplus the Euro Area will be able to exports savings and behave with the rest of the world as Germany did with other Euro area countries before the 2008 crisis. But this would not be sustainable as German surplus came from strong exports and weak imports but Euro surplus comes mainly from lower imports. Strong exports momentum is not in the picture yet. Internal devaluations that try to reduce costs to improve competitiveness are not deep enough to boost exports. At the same time, do countries have the capacity to export some highly demanded products as some German products? Probably not
Then as the surplus reflects weaker imports, weak internal demand and high unemployment rate it cannot be stable. How will it be possible to manage weak internal demand and high, sometimes very high, unemployment rates? That’s the case for Spain, for Portugal. Economic policy cannot be neutral with a 27% unemployment rate as in Spain. This means that economic policies will have to boost internal demand. This will then lead to higher imports and a lower surplus. This change is not in the cards yet.
With no change in unemployment rate momentum as it can be seen on the chart below, the current global situation for the Euro Area is not balanced and as such does not show a possibility to converge to a balance profile.
To summarize, as internal demand follows a weak momentum due mainly to austerity policies, GDP is on a downward trend and imports drop. This creates a large external surplus and a low inflation rate almost everywhere in the Euro Area.
As unemployment rate continues to increase we cannot imagine that the situation converge to a stable one. A new trajectory has to be found that could improve internal demand, growth, employment and that could put pressures on prices. At this moment external surplus will trend lower as imports will increase. This new trajectory has to be found, it is not a continuation of what has been seen because the current trend and the three charts above characterize a region in recession.
There is still a lot of uncertainty on these issues as high unemployment rate can lead to social unrest. As long as all these issues do not follow a more virtuous process we cannot imagine that the crisis is over. Recession with low investment momentum and higher unemployment are the three items that currently characterize the Euro Area. We cannot imagine that this is the out of crisis trajectory.
Moreover, there is still institutional uncertainty as Germany is reluctant to rapidly create the Banking Union.
Uncertainty on the Euro Area is still important, this has an impact on people’s behavior: the crisis is not over yet.