Read much of the British press’s output on the European economy and it won’t be long before you come across words like “sclerotic”, “stagnant” or “moribund.” There is a peculiar type of glee that is found in talking up the Euro’s inevitable demise; doubly peculiar when one considers that a serious crisis in the UK’s largest trading partner would hardly be good news for our own economy.
The alleged catalyst for this seemingly inevitable meltdown has been pinned on different culprits over the past two years: the Greek debt crisis, Italy’s constitutional referendum last year, or anti-Euro right-wing populist victories in the Netherlands or France this spring.
Somehow, though, all these bullets have been dodged. In fact, as the Brexit talks begin, the Eurozone economy looks to be in much better shape than the UK’s.
An awful decade
No serious analyst can fail to acknowledge that the Eurozone economy has suffered an awful decade. Unemployment—and especially youth unemployment—has been unacceptably high. Greece has suffered a depression whilst the other “peripheral” economies of Portugal, Ireland, Spain and Italy went through extremely tough years.The Euro has always had structural flaws in its very design. Very different economies were bound together with a common currency and common monetary policy, but without the usual offsetting factor of a system of fiscal transfers that could move resources from stronger-performing regions to harder hit ones in a crisis. Perhaps even more seriously, the financial system of the Eurozone was never properly unified—if the Greek banks found themselves in trouble, and unable to lend to businesses, it was always going to be hard for others to step in.
Policy mistakes
During the global financial crisis, these structural flaws were amplified by clear policy mistakes. Not only was the engine badly designed but the driver made clear errors. Fiscal policy was kept unnecessarily tight as Northern European policymakers focussed on trying to contain public debt rather than support spending. The European Central Bank actually raised interest rates in 2011 at a time when the economy was still struggling—almost unbelievably, in hindsight.But just as no one should doubt that the last decade has been, at times, disastrous for Europe’s economy, nor should anyone let that blind them to how things have changed over the past year. Increasingly aggressive monetary policy from the European Central Bank—which finally got started on quantitative easing (or electronically creating money to buy government debt) in 2015, years after the Bank of England and US Federal Reserve—coupled with easier fiscal policy have seen the outlook improve drastically.
A weaker post-referendum pound has pushed up inflation in the UK and is squeezing household living standards as real wages, adjusted for prices, fall. Household consumption, the traditional driver of the UK economy, is sputtering, and whilst the outlook remains uncertain, it is clear that growth has slowed.
By contrast, European growth is accelerating. In the first quarter of this year, the British economy grew by just 0.2%, whilst the Eurozone powered ahead by 0.5%.
Will the Eurozone outgrow the UK economy?
It would be a mistake to overanalyse one quarter’s worth of data. But forward-looking indicators of business sentiment point to continuing Eurozone strength.The European expansion has been broad-based; this isn’t simply a story of Germany continuing to do well. Often overlooked under all the talk of political disaster, the French economy has been putting in good numbers for months now, Spain continues to grow, Greece has finally left recession (although has a very long way to go before any talk of recovery possible) and even serial-laggard Italy is showing some signs of economic momentum. Stronger leadership from Merkel and Macron, together with receding political risks will surely help.
Of course, things aren’t entirely rosy in Euroland. Unemployment has fallen considerably from its peak, but at 9.3% is still at twice British levels. On the other hand, for all the talk of “moribund” Europe versus the “dynamic” UK, underlying productivity in the Eurozone puts the British performance to shame. Economic output per hour worked in the UK is around 25% lower than Germany, 20% lower than France or 10% lower than Italy.
Most forecasts now expect the Eurozone to outgrowth the UK economy in both 2017 and 2018. What happens in 2019 and beyond will be in a large part determined by exactly how “hard” a Brexit the UK ends up undergoing.
A new "sick man of Europe"
As the Brexit talks develop many aspects of the UK’s self-image will be questioned. Our supposed economic success relative to our continental neighbours will be just one of those. It’s often forgotten how quickly the popular imagination can change. Today Germany is once more seen as an economic success story but go back just 18 years and it was featured on the cover of the Economist as the “sick man of Europe.”That’s an unwelcome title which the UK hasn’t been associated with since the late 1970s—but it’s one that a hard Brexit against a backdrop of a growing Eurozone economy could see us regain.
