Markus Schreiber
Constantin Gurdgiev is head of research with St. Columbanus IA and lecturer in finance at Trinity College, Dublin
I've been saying for a while now that the Euro zone is heading for a recession in Q4 2011-Q1 2012. And for a number of good reasons, including, in order of their importance:
1. Structural collapse of growth drivers – consumer demand and corporate capex – on the back of severe debt overhang in the real economy (ex-Government)
2. Structural decline of potential growth due to demographic and institutional factors
3. Banking crisis and credit supply
4. Fiscal crisis – reduced access to deficit financing
But one driver that is not there is the pure austerity of falling public debt levels.
Let me explain. There are, basically-speaking, three forms of austerity.
One form is the external austerity -- a policy that pursues current account surpluses at the expense of domestic consumption. This policy was adopted by Germany, Sweden, Finland and Belgium in the recent past. It is also being adopted -- at least as far as policy pronouncements go -- by Ireland, Austria, Portugal and, to some extent Spain and Greece. Of course, talking about the need for generating current account surpluses is not the same as delivering them, especially where there is no currency devaluation capability.
The second form of austerity is reduction in deficits. Note, reducing deficits is not the same as reducing debt levels. Hence, this form of austerity is available only to those states, where public debt/GDP ratios are actually benign. The bound for benign debt/GDP ratios is a point of major contention, but in general, the cut-off line rests somewhere around 80 per cent of GDP. According to latest forecasts, this option (based on expected 2012 figures) is available to Austria, Cyprus, Estonia, Finland, Luxembourg, Malta, the Netherlands, Slovak Republic, Slovenia and Spain. Even for some of these states, reduction of deficit still requires care. Too shallow reductions can lead to increases in debt/GDP ratios that will eventually breach the sustainability bounds. Likewise, stretched over time, reduced deficits risk running into a cyclical recession, resulting in a twin amplification of deficits and fall in GDP that, once again, can lead to breaching sustainability bounds.
The third option is the nuclear option of repaying actual debts. As in old-fashioned paying these debts down. This is virtually unheard of for the Euro zone economies and it scares the daylights out of the proto-Keynesian economists populating the Continent. So much so, that the recent headlines in some of Europe's leading newspapers capture the panic that such a prospect causes – a panic underpinned by belief that repaying one's debt is going to destroy one's economy.
Hence, headlines like the ones found in a major UK publication, reading "Debt repayment is driving the EU back to recession".
But this panic is misplaced. The austerity-bound Europe has no plans to reduce its actual debt by repaying it. At least not any time soon. Chart below shows that euro zone as a whole has absolutely no plans to actually pay down any of its debts, at least as far as we can forecast:
In fact, the austerity-bound euro area is planning to increase overall government debt from €7.86-trillion in 2010 to €9.52-trillion in 2016 – a gain of some 21.1 per cent. Not exactly what one might call 'growth-busting austerity'.
Things get even more strange for the 'Austerity Cometh!' Keynesianistas. When looked at the member states level, according to the IMF latest available projections, no euro zone member state will be paying down any of its government debts any time before 2014. Thereafter, only two euro area member states – Greece and Germany – have plans to repay some of their debts. However, combined debt changes between 2010 and 2016 are expected to yield gross government debt increases in all member states.
So, now you know, those claims that euro area growth is a victim of Government debt repayments-linked austerity… are not really true.