Two Charts On The European Growth Dilemma

As the Germans ponder the truthiness of Greece's planned austerity measures it will perhaps come as a shock to many that since the start of the Euro (Dec 1998), Greece (followed closely by Spain and Ireland) has experienced the highest nominal GDP growth rates (rebased to USD) among a sample of large global economies (ex-China). As Deutsche Bank's Jim Reid points out from this surprising fact, these three nations (and to a lesser extent Portugal) have been major beneficiaries of the Euro and have seen their economies improve their international wealth position at a faster rate than their developed market peers since 1999. Typically, over the medium- to long-term, Reid notes the relative size of economies will reflect international competitiveness and productivity - so have Greece, Spain, and Ireland been the most competitive and most productive Developed World economies over the last decade or so? In short, no.

The decade-long strength of the Euro (along with the constraints of being tied in to too high an exchange rate) as well as a ramping up of leverage makes these weaker countries look far wealthier internationally than they otherwise would be (and markets reflect this uncertainty). In the current environment, post the leverage super-cycle, this creates stress (as is all too obvious) and in the medium-term we would expect mean-reversion of this 'fake' wealth/growth.  

The dilemma is whether the peripheral nations see large and negative GDP growth to revert down or if Germany is willing to accept far higher growth and inflation (maybe 7% nominal) to adjust upwards to the seemingly unsustainable levels of the peripherals. Austerity versus Growth/Inflation. It seems from Ireland's suffering and Greece's slide that the former (peripheral deleveraging and austerity) is the path chosen for now though ongoing appetite (Papademos/Samaras aside) for this seems as unpalatable as German's accepting socialized losses via firewall and the specter of high inflation.


The problem - over-levered and exchange-rate anchored peripheral nations have experienced international wealth creation that is implicitly unreal and unsustainable...

...and the dilemma - needs to revert to more Euro-zone sustainable fiscally-compact levels (read Germany) which as we see above is being undertaken by Ireland in a dramatic (and painful) fashion and is occurring increasingly painfully in Greece.

Does Germany revert 'up' or peripherals revert 'down'? It seems neither side is in any way comfortable with the timing or fundamentals of what this means as should peripherals start to see more negative growth, then debt sustainability once again becomes questionable and the vicious circle begins.