Eurozone Recovery Grinds To Halt Amid Ukraine Fear

August 14, 2014

Frankfurt (Aug 14)   After four quarters of meager growth, the fragile economic recovery in the 18-country eurozone creaked to a halt in the second quarter.

Growth was zero. After only 0.2 percent in the first quarter.

Now who will get out and push? The European Central Bank, with a further monetary stimulus? Or governments in France and Italy, which have dragged their heels in making their economies more business-friendly?

Either or both could help. Especially if the Ukraine crisis mushrooms with a Russian invasion that would scare off business investment even more — and extend one bad quarter into an outright recession.

Few economists think the eurozone will slip back into its third recession in six years. Most expect only a slow recovery as Europe continues to work down its debts and that's not ideal for a global economy that's a long way short of firing on all cylinders.

In short, the eurozone remains a potential drag on the rest of the world.

"I don't think today's numbers make that picture any worse," said Tom Rogers, senior economic adviser to the EY eurozone forecast. "It's still going to be a slow recovery for the eurozone and it will be a slow recovery for eurozone markets for imports from the rest of the world."

Here's what happened:

SILENT SPRING: Germany let everyone down by shrinking 0.2 percent in the second quarter from the previous three-month period. Economists aren't too concerned because they think a lot of the growth simply migrated to the first quarter because of a very warm winter that let construction start early. Europe's biggest economy remains the continent's standout performer. It has low unemployment and took steps to cut business taxes and costs years ago.

RUMORS OF WAR: The "Putin effect," as economists at Berenberg Bank call it, comes from fears that Russian President Vladimir Putin may back an invasion of eastern Ukraine where pro-Russian separatists are fighting Ukrainian government forces. That worry is making businesses hesitant to invest. Though eurozone exports to Russia are only 0.8 percent of the bloc's annual gross domestic product, the crisis has hurt business confidence — executives are wary of risking cash for expansion, just as they were getting their mojo back after the debt crisis of the past few years. Business surveys like Germany's Ifo show the fear is taking hold.

Ukraine fears have only grown since the end of the quarter on June 30. Since then, the shooting down of Malaysia Airlines Flight 17 over Ukraine on July 17 — by a missile from territory held by pro-Russian separatists, according to the U.S. and Ukraine — has increased tensions dramatically.

THE USUAL SUSPECTS: Stagnating France and Italy are balking at politically tough reforms that would lower costs for businesses. France's economy was flat in the second quarter. Italy's shrank 0.2 percent, for the 11th drop in the past 12 quarters. So-called structural reforms include easing rigid rules on hiring and firing, and especially in Italy's case, reducing choking bureaucracy and corruption. France has tried cutting payroll taxes to help business but further steps have stalled. Italy's Prime Minister Matteo Renzi came into office six months ago promising fast change, but now says reforms will be rolled out over the next 1,000 days.

WHO'S PERIPHERAL NOW? This time it was Europe's core economies that were the problem, even as smaller, so-called peripheral economies are recovering from the debt crisis that ravaged the currency unions. Spain and Portugal both showed robust growth of 0.6 percent.

And Greece, the country at the forefront of the debt crisis which has seen its economy shrink by around a quarter over the past few years, is on the mend. Its economy was only 0.2 percent smaller than it was the year before, the smallest rate of decline in nearly six years. Greece does not report quarterly figures.

THINK GLOBALLY: Since the eurozone and its population of around 330 million accounts for 17 percent of world GDP in dollar terms, its stuttering performance is a weight on the global economy. Europe lags the U.S., which grew 1.0 percent from the quarter before, according to the EU's statistics office Eurostat. It's safe to say this European performance isn't what U.S. automakers like General Motors and Ford wanted to see. However, the eurozone did better in the quarter than Japan, which shrank by a hefty quarterly rate of 1.7 percent after a new sales tax turned off consumers.

QE, TOO? The European Central Bank will likely hear more calls for it to roll out more monetary stimulus for the flagging economy. It could do that by buying large amounts of financial assets such as government bonds, using newly created money — something only a central bank can do. It's called quantitative easing, or QE. In theory, it could drive down longer term interest rates even more and pump new money into the financial system in hopes of seeing it appear as loans to companies and consumers. But it's tricky in a currency zone with 18 different members.

The ECB is watching another worrisome indicator. Inflation is too low at 0.4 percent and that is raising fears of a downward price spiral that kills growth by making consumers delay spending in hopes of cheaper bargains down the line.

The ECB has already cut its key interest rate to a record low of 0.15 percent and is offering cheap loans to banks. It says it's waiting to see how those steps work, and could do QE only if things take a serious turn for the worse.

ECB head Mario Draghi has pushed back on governments, saying they're the ones who have to make the tough changes.

Italy's troubles come from too much red tape, he said at his last news conference: "That has nothing to do with monetary policy."

Source: AP

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