Eurozone Recovery Stalls, With Weakness in Germany and France

14/8/2014

This was supposed to be the year that the European economy decisively broke free of its shackles. But after a dismal round of economic growth reports on Thursday, the main question appears to be whether the eurozone will avoid tumbling back into recession.

Germany and Italy both contracted 0.2 percent in the second quarter, compared with the first, official data showed, and the French economy stagnated yet again. The region was beginning to falter even before the latest round of tit-for-tat sanctions with Russia over Ukraine further clouded the outlook.

With the Continent’s three main engines sputtering, the gross domestic product of the 18-nation eurozone did not expand at all from the first quarter of this year, when it grew only 0.2 percent. The latest figure from Eurostat, the European Union statistics agency, equates to a meager 0.2 percent annual rate.

“It’s fairly clear that the eurozone recovery is coming apart at the seams,” said Nicholas Spiro, managing director of Spiro Sovereign Strategy in London, as most of the bloc is either “in recession or flirting with it now.”

The reports drew renewed calls for more aggressive stimulus from the European Central Bank to restore an economy that has been hobbled by millions of people out of work and price pressures so weak that deflation is a genuine threat.

Weakness in the European Union, with its more than 500 million consumers and one-quarter share of world G.D.P., bodes poorly for the already shaky global outlook. Credit is shrinking rapidly in China, while Japan’s economy shrank 6.8 percent in the second quarter at an annual rate.

Even the United States, which reported last month that second-quarter growth rebounded to a 4 percent annual rate after a dismal start to the year, has been posting disappointing numbers of late.

The International Monetary Fund last month cut its forecast for 2014 global growth to 3.4 percent from the 3.7 percent it forecast in April.

Economists had been forecasting that the eurozone economy would grow as much as 2 percent this year after a 0.4 percent decline last year.

After the report on Thursday, many analysts were revisiting their outlooks for a possible downward revision.

Lena Komileva, chief economist at G Plus Economics in London, said that the figures showed there was a “real risk” that the eurozone was headed back into recession and that they added to pressure on the European Central Bank to adopt stronger monetary stimulus.

“Not only does this render the E.C.B.'s anemic growth forecast of 1 percent for 2014 unrealistic,” she added, “but it is hard to see just what will keep the recovery growing.”

Another cause for concern on Thursday was the specter of deflation: Eurozone consumer prices rose last month just 0.4 percent from a year ago, Eurostat said, confirming an earlier report.

And of the 18 nations in the bloc, prices rose on a monthly basis in only two — Germany and the Netherlands — and declined in 15 others; they were flat in Malta.

That added to fears that Japan-style deflation was becoming more likely. Investors piled into German sovereign debt, considered the safest asset in Europe, and the yield on the 10-year bond, which moves in the opposite direction to price, fell at one point below 1 percent for the first time.

“The current no-growth, negative-price reality in the eurozone already leaves little hope for restoring jobs, living standards or public debt sustainability,” Ms. Komileva said.

Some positive signs did appear on Thursday.

Economic growth picked up in several so-called peripheral euro members: Spain grew 0.6 percent on a quarterly basis, up from 0.4 percent at the start of the year; Portugal, the Netherlands, Finland and Sweden all returned to growth after contracting in the first quarter; and Cyprus and Greece moved closer to the break-even mark, suggesting that their steep declines might be nearing an end.

And the downturn in Germany, the eurozone’s largest economy, followed by France and Italy, could prove to be temporary. Economists said the latest figures were skewed by unusually fair weather in the first quarter, which bolstered construction growth to a level that was not sustained in the second quarter.

But other indicators have pointed to a rough patch ahead for Germany, which remained relatively healthy through the worst of the economic crisis across the rest of Europe. The ZEW index of economic sentiment, released on Tuesday, showed morale among analysts and investors in the country plunging in August to its lowest level in more than 18 months.

And German businesses have warned that the European Union’s economic sanctions against Russia could hurt the domestic economy.

The eurozone’s most immediate problems are rooted in the need for households and businesses to cut debt and in a dearth of demand that has left more than 18 million people in the unemployment line.

After the sovereign debt crisis led Cyprus, Greece, Ireland and Portugal to seek bailouts and raised fears about Spain and Italy’s ability to remain in the euro bloc, governments agreed to a policy of fiscal austerity.

While the overhauls won a reprieve from the market, demand declined further as governments cut spending and raised taxes.

The data reported Thursday raised the likelihood that Europe was headed for a deflationary trap, as flat or declining G.D.P. would weigh further on the labor market and keep downward pressure on prices, said Carl B. Weinberg, chief economist and managing director of High Frequency Economics in Valhalla, N.Y.

“There’s no inflation anywhere in sight,” he said.

Inevitably, considering the refusal of Germany and some other nations to weigh using the traditional lever of fiscal policy to stimulate growth, all eyes are now on Mario Draghi, the president of the European Central Bank.

At its meeting last week, the central bank left monetary policy intact, with its main interest rate at a record-low 0.15 percent and its deposit rate at negative 0.1 percent.

Mr. Draghi has pledged to provide banks with a new round of cheap loans to bolster lending to smaller businesses.

But many economists have also called for the bulk buying of debt on the open market — a policy known as quantitative easing — as a last-ditch attempt to restore credit and keep prices from the downward deflationary spiral that would further weaken borrowers and banks and sap investment.

Mr. Draghi has said the central bank is considering quantitative easing, but many analysts are skeptical that it can be done within the constraints the central bank faces.

“Q.E. is a political nonstarter,” Mr. Spiro said, as “we don’t believe Mr. Draghi will be able to get the support of German politicians.”

Mr. Draghi, for his part, has sought to keep the spotlight on promises of structural changes made by the recalcitrant governments in France and Italy.

“It’s pretty clear that the countries that have undertaken a convincing program of structural reforms are performing better — much better — than the countries that have not done so, or have done so to a limited extent,” he said in a news briefing last week.

Mr. Weinberg said it was misleading even to speak of a recovery in the eurozone, considering that the bloc’s G.D.P. remained more than 2 percent lower than its level in early 2008, before the global financial crisis.

“I think we’re still in a depression that began six years ago,” he said. “The difference between a recession and a depression is that you have a natural bounce-back from a recession, but a depression needs a policy response.”

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