A very strong 13% rebound of EU’s economic activity in the second quarter, after a 3% decline during the previous three quarters, is mainly the result of more relaxed sanitary limitations and a powerful support of an easy monetary policy.
That surprisingly fast and vigorous response reflects a forward momentum in the four largest economies – Germany, France, Italy and Spain -- representing three quarters of the union’s GDP.
Remarkably, those growth dynamics have taken hold under conditions of subdued consumer prices, strong employment creation, robust external balance and euro’s stable trade-weighted exchange rate.
But that’s not good enough for the Germans. They are now stepping up their attacks on the European Central Bank (ECB) because their inflation rate has exceeded 2%. The fact that the EU’s core consumer prices (i.e. CPI minus energy prices) last month were virtually flat at only 0.9% does not interest them.
Berlin apparently wants the ECB’s credit stance benchmarked on German ideas of price stability – whatever those are. And to do that, Germany’s highest judicial authority wants to impose its own constraints on the way the ECB exercises its charter-based policy mandate.
Speed up the €750 billion stimulus
The ECB’s latest report on its credit aggregates reflects no excesses likely to feed sustained inflationary flare-ups in the months ahead. Indeed, lending to households and nonfinancial corporations in June was growing at annual rates of 4% and 1.9%, respectively.
Those numbers don’t suggest runaway consumer spending or business investments within the EU. Retail sales, for example, show a strong recovery following the easing of pandemic conditions during the spring, but their annual increase has slowed sharply to 5.3% in June. By contrast, lending to businesses remains quite weak as a result of an apparently stalled investment spending.
Predictably, the ECB’s lending to governments has been its strongest credit component for some time, showing a 13% increase in the year to June.
Lending to governments could have been quite a bit smaller had the EU Commission proceeded with greater dispatch in disbursing its €750 billion stimulus package. Unfortunately, in addition to limiting allocation of those funds to investments in “green and digital” projects, that money has now become an instrument of German-led pressures on countries suspected of violating “EU values.”
As a result, governments had to increase their own spending to rescue their sinking economies as the sanitary situation continued to deteriorate with no vaccines or effective medications available. That has led to sharply deteriorating public finances. In the first quarter of this year, the EU budget deficit came in at 6.8% of GDP from roughly balanced public sector accounts a year earlier. [That’s still less than half of America’s 14.4% of GDP budget deficit at the moment.]
With budget gaps ranging from 6% of GDP to 12% of GDP, countries like Germany, France, Italy and Spain have little or no room at all for any further deficit financings.
The EU’s public debt at the end of the first quarter hit 93% of GDP (compared with 126% of GDP for the U.S.), with debt burdens of major EU economies climbing to levels that are twice or three times larger than the 60% of GDP limit adopted by the European monetary union.
Meanwhile, the EU’s trade balance is a bright spot. In the first six months of this year, the trade surplus rose 12% from the year earlier to €84.4 billion, on sales to the rest of the world exceeding €1 trillion.
EU offers good investment alternatives
A strong recovery since the beginning of the year has also triggered a 21.2% growth of intra-EU trade. That is an important indicator because rising internal trade flows could serve to support growth in less developed and traditionally deficit countries of the union.
China remains the EU’s largest trade partner, with the U.S. running as a close second. A more important difference here is that China took a €98 billion surplus on its EU trades, while the U.S. got an €81.4 billion deficit, a huge 23% increase from the first half of last year.
The EU is obviously benefitting from America’s large economic stimulus, and a liberal access to booming U.S. markets. But the EU’s current trade patterns with China are not reflecting a political consensus in the trans-Atlantic community to limit trade and investment transactions with China. Washington, however, has nothing to say about that as long as its own commerce with China keeps growing at an annual rate of 30%, as was the case in the first half of this year.
What can negatively affect EU’s economic outlook over the near term?
There is always a possibility that the pandemic could get worse as a result of a slow EU vaccination process, imprudent behavior during the summer vacations and a cooler weather in the months ahead.
Apart from that, the EU economies could be set back by a delayed access to €750 billion of stimulus funds at the time when all the large countries that are driving the area’s growth have hit the limits of their expansionary fiscal policies.
The EU still looks good, though. With its low inflation, trade surpluses and relatively sound public finances (sic), the EU offers a good alternative to overstretched asset values in U.S. and Asian markets.