Back around the turn of the century, when the common European currency was introduced, there was much hope and excitement about the future. It worked... for about 7 years. Unfortunately since 2007 things haven't gone according to plan and now the continent is paying for the drunken sailor debt sins of its member countries as it slowly and painfully tries to grow into a balance sheet that is massively overlevered. Unfortunately, the future is just as bleak, at least according to Socgen (which incidentally has been quite bullish on the world economy in general) who in its most recent report predicts that Europe is only half way through its lost decade of 2007-2018. As the GDP per capita chart below shows, any Europeans (presumably of the unemployed kind) hoping for a quick rebound from the moribund economy of the past five years has at least this much longer to wait. Oh and for Greeks looking at the chart below and wondering "what went wrong?"... the answer is pretty much everything.
Summer optimism on euro area recovery has faded to grey winter skies. Looking ahead we see continue weak growth in the region with a very gradual recovery only. For the 2007 to 2018, we expect GDP per capita to be essentially flat, marking a lost decade of growth for the region. We blame much of this weak performance on a slow policy response in tackling both the sovereign and banking crisis, and the still too slow pace of structural reform. The fear is now that the euro area is on the verge of deflation. The ECB toolbox is not empty, but in our central scenario of low inflation (and not outright deflation) we see an additional LTRO and extension of unlimited liquidity. The risk is that the euro will stay stronger for longer adding, to deflationary pressures.
Several headwinds remain for the euro area:
1. Private-sector deleveraging: Although progressing, private sector deleveraging remains a headwind for several member states, including Spain. Furthermore, as discussed in Box 10, Banking Union needs fast track politics, financial fragmentation has come with a high price tag for the periphery.
2. Softer, but still in austerity mode: The drag from fiscal policy has eased allowing exit from recession, but a long road of fiscal consolidation still lies ahead. The 22 November Eurogroup was clear: deficit/debt reduction and structural reform remain the prescribed policies. Italy and Spain, moreover, were noted by the Eurogroup as at “risk of noncompliance” on their 2014 deficit targets and have already promised that extra measures are in the pipeline. That these measures are in fact delivered is one of the key assumptions behind our below-consensus 2014 forecasts.
3. Still-high policy uncertainty: As discussed in Anchor Theme 3, policy uncertainty remains fairly high for the euro area and our baseline assumption is that this will be the case in much of 2014, easing only very gradually medium-term.
4. Slow progress on reform: Key to the medium-term outlook is continued progress on structural reform – at both the national and euro area levels. We assume that progress will continue, but only at a slow pace.
Of course, if BNP is right, and the ECB somehow manages to pull off a QE over the ever louder complaints of Germany, the matrix above will change: there will be a quick and brief boost some time in 2014, followed by an even quicker final tumble into the abyss.
Finally, it goes without saying that applying fundamentally-driven growth forecasts to a new centrally-planned normal will fail, and the final outcome in 5 or so years will be anything but. One thing we are certain of: that 216.1 indexed GDP per Capita forecast for China... we'll take the under any day, or else based on our simple calculations, China alone will have about 2-3 times more debt in 2018 than the rest of the world alone.