Right and Wrong about Inflation

For more than a year the European economy has been in deflation territory. To reverse that trend the European Central Bank launched its Quantitative Easing program, aimed at flooding the euro zone with liquidity. According to crude monetary theory this will drive up prices in line with the so called quantity theory of money; few if any central bankers would admit that their take on money supply and inflation is this simple, but the only other explanation is so far-fetched that even the quantity theory of money makes sense.

The alternative theory says that the reason why businesses are not investing in Europe is that there is not enough cheap risk capital available in the economy. For this theory to work, though, the cost of borrowing that businesses face would have to have been exceptionally high during the recession. In fact, the exact opposite is true: since the Great Recession started the composite cost of borrowing for non-financial corporations in the euro zone has been in the 2-4 percent bracket. Right before the recession it topped out above ten percent.

In other words, the has been an abundance of liquidity available for anyone and everyone willing – and qualified – to borrow.

But if your business outlook says flat sales, at best, you are not going to take on new loans. And flat sales or worse has been the forecast story for European businesses for six years now.

What does this have to do with inflation? Well, low economic activity means low demand and low utilization of productive capacity. As a result, there is no upward pressure on prices and therefore no real-sector inflation in the economy. Whatever inflation may be looming in the near European future has a monetary origin.

Does this mean that the primitive quantity theory of money is correct? No, it does not. The quantity theory rests on a rigid structure of assumptions regarding the operation of a free market, both in terms of the flexibility of real-sector resources and of free-market prices. The most confounding part of the quantity theory of money is that the economy axiomatically always reverts back to full employment; then, and only then, can monetary inflation occur.

Europe is about to line up with several other countries proving that monetary inflation is just as possible – if not more possible – in a stagnant economy. In fact, when stagnation and low capacity utilization is combined with monetary inflation, there is a macroeconomic venom brewing. The worst response to this situation is one where key decision makers assume that the monetary inflation they see is actually real-sector inflation.

Somewhat surprisingly, that mistake is made by Ambrose Evans-Pritchard, who is without a doubt Europe’s best political commentator. But in his latest column in The Telegraph, Mr. Evans-Pritchard allows his otherwise astute analytical abilities to lead him astray:

Be thankful for small mercies. The world economy is no longer in a liquidity trap. The slide into deflation has, for now, run its course. The broad M3 money supply in the US has been soaring at an annual rate of 8.2pc over the past six months, harbinger of a reflationary boomlet by year’s end. Europe is catching up fast. A dynamic measure of eurozone M3 known as Divisia – tracked by the Bruegel Institute in Brussels – is back to growth levels last seen in 2007.

But GDP growth, business investments, employment and capacity utilization are far from 2007 levels. While inflation back then was a real-sector phenomenon, it is not founded in real-sector activity today.

And that should have us all worried. Evans-Pritchard included:

History may judge that the European Central Bank launched quantitative easing when the cycle was already turning, but Italy’s debt trajectory needs all the help it can get. The full force of monetary expansion – not to be confused with liquidity, which can move in the opposite direction – will kick in just as the one-off effects of cheap oil are washed out of the price data.

I know Mr. Evans-Pritchard is British, but that does not mean he has to entertain an erstwhile concept of liquidity. Just a small comment. Back to his column, where his discussion of inflation is taking a somewhat odd turn:

Inflation will soon be flirting with 2pc across the Atlantic world. Within a year, the global economic landscape will look entirely different, with an emphasis on the word “look”. In my view this will prove to be mini-cyclical in a world of “secular stagnation” and deficient demand, but mini-cycles can be powerful. Mr Stein said total loans in the US are now growing at a faster rate (six-month annualised) than during the five-year build-up to the Lehman crisis.

Again, all macroeconomic indicators point to a continuation of a ho-hum recovery here in the United States, the March GDP numbers notwithstanding. At the same time, practically nothing says that Europe will enjoy anything near a U.S. growth period any time soon. Therefore, it is wrong to compare the inflation rates in Europe and the United States as if they are apples and apples. They are not. Our inflation here in the United States is the result of a steady rise in economic activity, a tightening of available capacity in infrastructure and other capital stock and even a glimpse of labor shortage in some sectors.

In other words, traditional causes of inflation. Europe, on the other hand, still suffers from almost twice the unemployment rate, with GDP growth at half or less the rate of ours. To really drive home the point about Europe’s abundant, idling economic resources, let us once again repeat the point that the cost of borrowing for non-financial corporations is down to 2-4 percent (after topping 10 percent before the Great Recession).

There is in other words no demand-driven push on prices to rise in Europe. This means monetary inflation, and there is an abundance of evidence from the past century on just how destructive and unstable such inflation can be.

Mr. Evans-Pritchard does not see this. Instead, he is worried about monetary tightening in the United States and its possible global effects:

“The risk is that the Fed will have to raise rates much more quickly than the markets expect. This is what happened in 1994,” he said. That episode set off a bond rout. Yields on 10-year US Treasuries rose 260 basis points over 15 months, resetting the global price of money. It detonated Mexico’s Tequila crisis. Bonds are even more vulnerable to a reflation shock today. You need a very strong nerve to buy German 10-year Bunds at the current yield of 0.16pc, or French bonds at 0.43pc, at time when EMU money data no longer look remotely “Japanese”.

Just one second here… No longer remotely “Japanese”? GDP growth for 2014 in the euro zone (19 countries) was 0.89 percent, and 1.3 percent in the EU as a whole. How is that not “Japanese” data??

Yet on some points Mr. Evans-Pritchard does see the underlying real-sector dimension of the inflation issue:

[The U.S. labor market] is turning. The quit rate – a gauge of willingness to look for a better job – is nearing 2pc, the level when employers must build pay-moats to keep workers. It is true that the US economy gave a good imitation of hitting a brick wall in the first quarter. Retail sales have fallen for three months, the worst drop since 2009. The Atlanta Fed’s snap indicator – GDPNow – suggests that growth dropped to stall speed in March. The rise in non-farm payrolls slumped 126,000 in March, half expectations. Yet economies do not fall out of sky. The US has already survived the biggest fiscal squeeze since demobilisation after the Korean War without falling into recession.

And again, some sectors and states are already in tight labor supply. Try hire a Hooters waitress for less than $15/hr in North Dakota. Some trucking companies are pushing annual driver compensation north of $70,000.

But perhaps the problem, at the end of the day, is that analysts and commentators focus on too many variables at the same time. You can certainly look at the economy from an almost infinite number of angles and get different stories out of each one of them, but in reality some angles only show symptoms while others capture the causes. Mr. Evans-Pritchard stretches his analysis a bit thin, going into asset prices and a roster of secondary data, elevating those numbers to the same prominence as – actually higher prominence than – real-sector growth data.

In reality, asset prices depend on real-sector growth data; tainted by speculative expectations, they only give an imperfect image of where the economy is really heading.

When we look at the European and American economies from the angle of real-sector activity, we do again see the gaping difference between a growth, moderately healthy United States and a stagnant, industrially poor Europe. The former has a sound form of inflation on its way; the latter is experiencing the beginning of a dangerous episode of monetary inflation.

That said, I still recommend you all to keep reading Ambrose Evans-Pritchard. He is intelligent and thorough and he has no problem presenting unpopular views if he believes they are merited.

A Glimmer of Hope in Greece

Greece just made its IMF payment due last week, indicating that the socialist government still does not think it has strong enough support among the Greek general public to secede from the euro zone. It is unlikely that any other arguments will keep them from reintroducing the drachma; high inflation – an inevitable consequence of a drachma resurrection – does not discourage socialists in other countries, such as Venezuela, from pursuing reckless domestic policies. Syriza, whose leader Tsipras is a dyed-in-the-wool Chavista socialist, wants to be the first to bring the warped ideology of Hugo Chavez to Europe, and he is not going to let his plans be spoiled by petty things like currency turbulence or 50-percent inflation like they have in Venezuela.

However, if the population generally is against a currency secession, he runs the risk of a parliamentary challenge long before the next election. His majority is very slim, and depends critically on the participation of a small nationalist party that could be peeled away by a determined opposition. In other words, Tsipras is walking a thin line to get Greece to where he wants her to be.

One of the problems with this thin line is that it does not allow for any sound economic policies. Nothing that could actually revive the chronically depressed Greek economy is permitted in under the Tsipras government’s low ideological ceiling. Therefore, the following report from Euractiv should come as no surprise:

Greek Finance Minister Yanis Varoufakis said on Thursday (9 April) that the government was restarting its privatisation programme and was committed to avoiding going into a primary deficit again. Prime Minister Alexis Tsipras’ government has been opposed to some asset sales but has promised not to cancel completed privatisations, and only review some tenders as part of the terms of a four-month extension of its February bailout program me. “We are restarting the privatisation process as a programme making rational use of existing public assets,” said Varoufakis, speaking in Paris.

This is how they are going to balance the budget: by means of one-time sales of assets. It is like selling the living room couch to pay your mortgage. What are you going to sell next month?

The previous Greek government did the same thing, obviously to no avail. In fairness, though, the Greek government has very few options. Despite some weak signs of a fledgling recovery earlier this winter, there is no clear rebound in the Greek economy.

Figure 1


Private consumption, measured as four-quarter moving averages and adjusted for inflation, has stabilized a bit under €30bn per quarter. This is a substantial loss from the €37bn per quarter recorded right before the Great Recession, and it means that the Greeks have basically been sent back to 2001 in terms of standard of living.

Since private consumption is the driving force of the economy, its decline and stagnation since 2008 is the most vivid expression of the deep suffering that the Greek people has had to live through. That said, they have also asked for more by electing a socialist for prime minister whose comprehension of economics is weak, to say the least.

Tsipras, like all socialists, sees government as the indispensable economic agent; everything else is either debatable or out of the question.

With all that in mind, there is actually a flickering light in the tunnel. When Greece’s private consumption is measured per employed person, it actually looks like there is a small rebound in there:

Figure 2

GREECE cons pr emp

With consumption again measured by quarter, with four-quarter moving average adjusted for inflation, and then divided by employee, it looks like the Greeks are able to work their way up a little bit in terms of purchasing power. In the first quarter of 2011 per-employee consumption was €8,004; for the last quarter on record, Q3 of 2014 it was €8,178.

This does not look like much of an increase, but the underlying trend is weakly positive. This means that while only 54 percent of the Greek population 20-64 actually have a job, those who do are slowly beginning to establish a “new normal” of consumption. It is a normal that is characterized by stagnation, with almost no outlook toward reasonable gains in the standard of living – it is in essence life under industrial poverty – but at the very least this little rebound is an indicator that things are not going to get worse.

Ceteris Paribus, of course… And as one of my favorite economics professors from back in college loved to point out: ceteris is not always paribus. Things change. And not always for the better. Especially when you have a prime minister dedicated to the mission of bringing Chavista socialism to Europe. Come Scylla or Charybdis.

U.S. Worried about EU Stagnation

For the people who live in the European Union, daily life offers challenges in the form of zero growth, high unemployment, lack of opportunity and a gloomy outlook on the future. For a macroeconomist, however, the EU is a formidable experiment that must not be left undocumented. The union was constructed based on the European tradition of welfare statism, right when the welfare state as a socio-economic construct was beginning to show clear signs of macroeconomic ailment. For unknown reasons – though probably ideological preferences played a good part – the architects of the EU misinterpreted the symptoms of macroeconomic ailment such as persistent budget deficits. They saw them as expressions of irresponsible budget policies and therefore institutionalized budget-balancing guidelines for member-state fiscal policies. Those guidelines became the EU’s own constitutional balanced-budget requirement, also known as the Stability and Growth Pact.

The Stability and Growth Pact was created essentially to secure the fiscal sustainability of the European welfare state. The problem is that the welfare state in itself is not fiscally sustainable. A wealth of literature (which I am currently working my way through as part of my next book project) and a plethora of compelling data together convincingly show that the welfare state is in fact the fiscal venom that causes governments to go into structural deficits. So far, though, the political leaders of the European Union have not understood that their practice of the Stability and Growth Pact – known as statist austerity – has driven the European economy into a permanent recession. Their governments, consuming up to half of GDP, are subjected to spending cuts and in turn subject the private sector to higher taxes, which in turn causes the private sector to contract its activity or at the very least keep it constant.

As statist austerity causes GDP to stagnate, the welfare state’s budget problems are exacerbated. More people request assistance from its entitlement programs, while fewer people pay taxes. The budget problems that statist austerity was aimed at solving – again in order to make the welfare state look fiscally sustainable – actually cause a new round of budget problems. In response, austerity-minded governments tighten the fiscal belt yet another notch.

All in order to make the welfare state more affordable to a shrinking economy. In other words, saving the welfare state is the prime directive of European fiscal policy.

American fiscal policy has a different purpose. It aims to help the economy grow and lower unemployment. Granted, far from everything that comes out of U.S. fiscal policy is helpful in that respect, but at least the basic course of direction is right. Therefore, when representatives of the United States Treasury look at Europe and try to figure out what on Earth is going on over there, it is hardly surprising that some eyebrows go up and some foreheads are wrinkled.

From the unrelenting German quality news outlet Euractiv:

The United States warned Europe on Thursday (9 April) against relying too much on exports for growth, and urged officials to make more use of fiscal policy, saying stronger demand was essential. In its semiannual report on foreign-exchanges policies to Congress, the US Treasury Department gave a preview of the positions it will press on foreign policymakers during next week’s International Monetary Fund meetings in Washington. The world cannot rely on the United States to be the “only engine of demand,” the report insisted. It urged nations to use all tools available to accelerate growth and not rely only on their central banks to boost recovery.

Before we get to the accolades, a technical comment. Exports is also “demand”, though from foreign buyers. The Treasury economists should know better and use the term “domestic demand”.

Now for the accolades. It is refreshing and reassuring to see that the Obama administration’s Treasury understands how the economy works. This is not a sarcastic comment – this is a genuine word of appreciation. Europe, by contrast, is filled to the brim with economists and other fiscal-policy decision makers whose actions and decisions prove that they have basically no comprehension of macroeconomics whatsoever. An economy is driven by its demand side: household spending and business investments from the private side, and government spending. Since consumer spending is 65-75 percent of a well-functioning economy, the confidence and prosperity of the general population is quintessential to the survival, growth and prosperity of any nation.

Furthermore, businesses invest because they ultimately will sell something to the general public. Therefore, confident households create confident businesses. A strong, forward-looking economy spends 15-20 percent of GDP on business investments.

Without growth in these two private-sector spending categories, there will be no growth in the economy as a whole. The economists of the U.S. Treasury know this, and they operate based on this basic, common-sense macroeconomic knowledge. Their criticism of Europe’s governments for not understanding the same thing is highly valid and echoes, in fact, what I have been saying on this blog for three years.

But there is one more aspect to this that the Treasury economists have not brought up – at least not as quoted by Euractiv. Let’s get back to their story:

The report singled out Europe’s biggest economy, saying “stronger demand growth in Germany is absolutely essential, as it has been persistently weak.” The US Treasury argues that policy makers in the euro area need to use fiscal policies to complement the monetary stimulus that the European Central Bank is providing. … While growth in Europe has shown some recent signs of picking up, the region remains the sick man of the global economy.

The problem for the Europeans is that they cannot do this. They cannot use fiscal policy to stimulate aggregate demand, because if they do they have to abandon statist austerity. Welfare states would again be allowed to go into deficits.

There are many reasons why the Europeans cannot let that happen. The first and most immediate reason is called “Greece”. The EU is in a very tense showdown with the socialist Greek government over repayments of loans – loans that in turn were given as part of EU-enforced statist austerity. If the EU now abandoned its austerity policies, the Greeks would rightly ask “what about us??” and the 25-percent drop in GDP that followed the harsh implementation of statist austerity in the country.

Another reason for the EU to stick to its austerity guns is the long-term concern for the welfare state’s fiscal sustainability. The Europeans are almost unanimously behind their welfare states and they are willing to sacrifice enormously for their ideologically driven big government. They have convinced themselves that the welfare state is not, has not been, and will not be the cause of their macroeconomic ailment. Therefore, they will try as best they can to defend the indefensible, namely the fiscal sustainability of the welfare state; that defense will take priority over any measures to help the private sector grow and thrive.

For these reasons, and others, there is no hope for a growth-oriented fiscal policy in Europe.

Apparently, the realization that something is structurally wrong is beginning to set in on some key policy makers. Euractiv again:

Speaking ahead of next week’s meetings, IMF managing director Christine Lagarde also warned that global recovery remained ‘moderate and uneven’ with too many parts of the world not doing enough to enact reforms even as risks to financial stability are rising. Mediocre economic growth could become the “new reality,” leaving millions stuck without jobs and increasing the risks to global financial stability, she insisted.

Ms. Lagarde and others interested in the systemic roots of this growth crisis are more than welcome to read my book Industrial Poverty about the structural problems in the European economy.

Again, it is encouraging to see American government officials notice and basically correctly analyze the differences between Europe and the United States. What is needed now is that those officials speak up about why the Europeans are ailing, and what the consequences will be for them and the world economy if they insist on protecting their welfare states at all cost.

Perhaps a President Rand Paul can take it up a notch…

QE and Structural Deficits

When a welfare state runs out of taxpayers’ money they run a so called structural budget deficit. That is a deficit that does not go away with strong growth but remains in the government budget, theoretically forever, in practice over a period of time longer than at least one business cycle.

A structural deficit forces government to borrow continuously, i.e., to make borrowing a permanent revenue source on par with taxation. As I explained recently, of 14 member states in the European Union ten suffer from structural deficits when GDP growth is measured in current prices. When inflation is removed from the growth data, all 14 countries run significant structural deficits.

Since this deficit analysis was limited by the availability of consistent data (only 14 states) it is not possible to firmly conclude anything about the EU as a whole. However, if 14 states, selected merely because of data availability, run structural deficits, then the likelihood is pretty high that the remaining 14 EU member states have similar problems with structural deficits.

Structural deficits create a major problem for the countries whose governments have to borrow the money. The ongoing borrowing need depresses market demand for their bonds, eventually driving some countries with extreme deficits – think Greece of Spain – to have to pay massive interest premiums on their treasury bonds in order to attract buyers. To fix this, the European Central Bank came up with its own version of the American Quantitative Easing program: the central bank buys the bonds that the free market does not like.

Quantitative Easing was a bad idea in the United States, as it allowed the federal government to continue spending money without reining in its increasingly uncontrollable welfare state. In Europe, the idea is even worse: the European welfare state is more “mature” than the American, making its structural deficit problems even more serious. Therefore, the QE program will feed a government that is even farther away from being able to pay for its ongoing expenses than the U.S. government is.

Against this background, it is astounding to read the following article at EUBusiness.com:

The European Central Bank said Thursday it is increasingly confident that its controversial bond purchase programme is helping boost the eurozone’s economic recovery, even as a top official expressed doubts about its effectiveness. In the minutes of the governing council’s meeting on March 4 and 5 released on Thursday, the ECB said that “members generally shared the assessment that significant positive effects … could already be seen” from the new bond purchase programme known as quantitative easing (QE).

First of all, the QE policy is not even a quarter of a year old yet. It would not be possible to identify causalities even if we tried with an economic microscope. Secondly, even if there are visible effects, they would be limited to lower interest rates. While it is true that the ECB has entered negative interest territory and decided to stay there for a while, it is important to remember that the negative interest rate became reality long before the QE program did. Furthermore, ultra-low interest rates do not fix Europe’s macroeconomic problems anymore than they have fixed Japan’s decades-long problems.

According to EUBusiness.com there is no shortage of critics of the QE program:

[Some] prominent ECB members — notably the head of the German central bank or Bundesbank Jens Weidmann and ECB executive board member Sabine Lautenschlaeger — have repeatedly expressed doubts about the need and impact of such a programme. Lautenschlaeger told a German magazine on Thursday that she had “doubts whether the economic effects of the purchase programme will reach the desired magnitude.” And she warned that the current very low level of interest rates could lead to the formation of asset price bubbles. Before joining the ECB’s executive board, Lautenschlaeger was vice president of the German central bank and she shares the same scepticism as Weidmann.

But the monetary Eurocrats seem to be dead set on finding something positive to report. EUBusiness.com again:

Nevertheless, at the governing council’s last policy meeting in Nicosia, Cyprus, in March, there appeared to be agreement that QE was indeed helping to ease financial market conditions and the cost of external finance for companies, the minutes showed. Coupled with recent positive economic data and signs of a turnaround in inflation, “this provided grounds for ‘prudent optimism’ regarding the scenario of a gradual recovery and a return of inflation rates to levels closer to 2.0 percent,” the minutes stated.

This is actually disingenuous. Corporate borrowing costs have been declining since the Great Recession started. They started falling because banks still wanted to lend to non-financial corporations, but the non-financial corporations refused to take on more debt. They were simply far too pessimistic about the future of the European economy.

In short: low corporate borrowing costs have absolutely nothing to do with QE.

All in all, it sounds like the ECB is desperately trying to grab for positive news. this makes them prone to overlook the risks associated with QE, one of them being that governments simply decide not to do much more about their notorious deficits. This means, simply, letting the structural deficits remain as they are, whereupon the underlying problem in the European economy – an over-bloated welfare state – remains unsolved.

Greece Preparing to Leave Euro

When the Chavista socialists in Syriza won the Greek election many forecasters raised the concern that Greece might leave the euro. However, most of them quickly subsided and joined the ranks of the non-confrontation opinion. The prevailing view over the past couple of months seems to have been that the Greek government will eventually cave in, stick to agreed austerity programs and honor its debt payments to the IMF.

I have refused to join the choir of consensus. On February 9 I explained (emphasis added):

There have been many attempts at predicting which way Greece is going to go under the new socialist government. Most of the voices heard thus far seem to agree that Prime Minister Tsipras will not seek a confrontational course against the EU. That is, however, a mistake. This is a man who considers now-defunct Venezuelan president Hugo Chavez a political hero. Tsipras is also a former communist (though being a former communist and at the same time a fan of now-defunct Hugo Chavez is a matter of political semantics) whose training in politics and – to the extent it exists – in economics is fully governed by those ideological roots. It is only logical that he continues to raise the volume vs. Brussels.

This ideological foundation for the Greek attitude toward the EU and the IMF has continued to elude international analysts. One reason is that most of those analysts have a business background or are otherwise trained in strictly quantitative methods such as econometrics; another reason is that most analysts are American, and Americans in general have a shallow – even non-existent – understanding of what role political ideologies play in European politics.

Related to this, it is important to keep in mind that Syriza is governing with coalition support from a small nationalist party whose feelings for the EU are perhaps even more unfriendly than those in Syriza.

Since my February 9 prediction I have steadfastly said that while the Greek future in the euro zone is more uncertain than most economic and political events, it is more likely that they leave the euro than that they stay in.

Today, The Telegraph reports:

Greece is drawing up drastic plans to nationalise the country’s banking system and introduce a parallel currency to pay bills unless the eurozone takes steps to defuse the simmering crisis and soften its demands. Sources close to the ruling Syriza party said the government is determined to keep public services running and pay pensions as funds run critically low. It may be forced to take the unprecedented step of missing a payment to the International Monetary Fund next week.

This is not the place to re-hash all the reasons why Greece is in this situation in the first place. Suffice it to mention one point, though, namely that ever since the end of the military government in 1974 democratically elected governments have emphasized welfare-state spending over a sound, working economy. Slowly but inevitably this has eaten away at the private sector. Eventually, the Greek economy collapsed into a deep recession, government tried to fix its enormous budget problems with austerity patches, the result was an even deeper recession – and here we are.

In other words, the origin of this fiscal crisis is in the welfare state. Now Greece has a government that by ideological conviction stands by, and wants to restore and even grow, that same welfare state. The only way they can do this – they believe – is if they leave the euro zone. While most Greeks have been against a currency secession, the Syriza government has now manipulated the circumstances to exactly where they need them to be, namely where they look like they care more about the Greek people while the evil global capitalist IMF does not.

Prime Minister Tsipras will be considered a national hero for as long as the drachma has some value vs. the euro. Which will probably be 3-6 months. Then the global market will have deemed the drachma worth little more than Monopoly money and Tsipras will have to resort to the kind of currency trickery they use in Venezuela (his vision of Greece’s future). Of course, with such reckless exchange-rate manipulation and money printing comes 40-50 percent inflation.

That is literally where Greece could be in two years, maybe less, if they leave the euro zone.

The Telegraph again:

Greece no longer has enough money to pay the IMF €458m on April 9 and also to cover payments for salaries and social security on April 14, unless the eurozone agrees to disburse the next tranche of its interim bail-out deal in time. “We are a Left-wing government. If we have to choose between a default to the IMF or a default to our own people, it is a no-brainer,” said a senior official.

Again, the circumstances that fit the Syriza agenda for euro secession. And, as the Telegraph emphasizes, one has to look at this from a political, ideological perspective more than strict macroeconomics:

The view in Athens is that the EU creditor powers have yet to grasp that the political landscape has changed dramatically since the election of Syriza in January and that they will have to make real concessions if they wish to prevent a disastrous rupture of monetary union, an outcome they have ruled out repeatedly as unthinkable. “They want to put us through the ritual of humiliation and force us into sequestration. They are trying to put us in a position where we either have to default to our own people or sign up to a deal that is politically toxic for us. If that is their objective, they will have to do it without us,” [a Greek government] source said. … Syriza sources say are they fully aware that a tough line with creditors risks setting off an unstoppable chain-reaction. They insist that they are willing to contemplate the worst rather than abandon their electoral pledges to the Greek people.

Prior to the election of the French socialists to both the presidency and the parliamentary majority in 2012 there was not a single government within the euro zone that even grumbled about the tough austerity measures imposed by the EU-ECB-IMF troika. President Hollande wanted to part with some of the measures that the troika thought would bring France into compliance with the EU’s Stability and Growth Pact. (This is the EU’s constitutional budget balancing measure.)

France is still not in compliance with the Pact, and the alternative policies that the socialists imposed on the French people have not made any notable difference in terms of growth and job creation. But their balking at compliance with EU-imposed austerity measures sparked a movement of dissent through much of the European left. The idea of simply telling the troika that “we care more about our people than about you” eventually brought Syriza to power in Greece – and will now bring Greece out of the euro zone.

In fact, as the Telegraph explains, the Greek government has already drawn up the plans for it:

An emergency fall-back plan is already in the works. “We will shut down the banks and nationalise them, and then issue IOUs if we have to, and we all know what this means. What we will not do is become a protectorate of the EU,” said one source. It is well understood in Athens such action is tantamount to a return to the drachma, even though Syriza would rather reach an amicable accord within EMU.

The effects for the Greek economy would be devastating. For starters, their Treasury bonds, which are denominated in euros, would become even more toxic than they already are. The only way they could continue to honor their payments on those bonds is if they would peg the drachma to the euro. But that would hold up if and only if they locked the borders and prevented people from taking their money out of Greece.

Which is why they propose a nationalization of the banks. Thereby they can lock in people’s money and force them to keep it in the country. But such draconian measures would of course be tantamount to declaring war on the global financial markets. Not that a Chavista socialist government would care, but it would force them to take counter-measures to prevent a complete meltdown of the currency within the first few months.

One such measure is a double-currency system, which is in operation both in China and in Venezuela. That shields the “real” currency from massive depreciation, but it also creates liquidity problems in the economy. The Chinese government escaped those problems thanks to many years of massive trade surpluses that – by means of currency sterilization – flooded he economy with liquidity and cheap credit. (They are now paying the price for that exchange-rate policy.) The Venezuelan government has simply taken to the monetary printing presses to do away with their liquidity problems. One of the many effects is 40-50 percent inflation.

A Greek secession will have serious consequences for the euro zone. Keep a close eye on Spain this year, then France in 2016 and 2017. More than likely the euro zone will be dead by the end of 2018.

Europe’s Structural Deficit Problem

In my book Industrial Poverty I diagnose the European economic crisis as being a permanent state of economic stagnation, caused by a fiscally unsustainable welfare state. The deficits that plague the continent’s welfare states are caused by a structural imbalance between tax revenue growth and growth in government spending. In other words, the deficits that the EU-IMF-ECB troika and member-state governments have been fighting so hard over the past 5-6 years are actually in large part structural.

As I explain in this paper, you cannot fight structural deficits with business-cycle policy measures. That is what the Europeans have tried to do for half a decade now, to no avail. In fact, their problems have only gotten worse, with no recovery in sight.

Today I am happy to report on yet another depressing angle of the crisis. A structural budget deficit is a deficit that a government cannot pay for over a long period of time. While there is no set-in-stone definition of a structural deficit, the conventional definition has been that it is the deficit that remains when the economy is operating at full employment. However, the definition of full employment changes over time; what was considered serious unemployment in the 1980s is now acceptable as full employment in many countries. With that change, obviously the definition of the structural deficit would change as well, even though government has done nothing to reduce the deficit.

A better definition of a structural deficit is one that still rises above the regular business cycle but at the same time is independent of the level of employment. In the aforementioned paper I suggested a definition based on, at minimum, ten years of economic performance: a ten-year long trend in government spending (or a specific share thereof) is compared to a ten-year long trend in tax-base growth. If spending outgrows the tax base, then the government is having to deal with a structural deficit; if the tax base grows faster than spending, then there is a structural surplus in the government budget.

To get a good idea of whether or not Europe has a structural-deficit problem, I pulled the following numbers from the Eurostat database:

Government spending defined as welfare-state spending: housing and community development; health; culture, religion and recreation; education; and social protection; and

Current-price and inflation-adjusted growth in GDP.

Not all member states report these numbers down to the level needed for a ten-year trend study; in addition to 13 EU member states I also pulled data for Norway, which turned out to be interesting.

The results are as follows (time period 2004-2013). A ratio of 100 means a perfect growth balance where welfare-state spending is growing on par with the tax base; an index number below 100 is a structural deficit while an index number higher than 100 represents a structural surplus. For current-price GDP, four of the 14 countries actually run a surplus:

Poland 120.5
Norway 116.2
Sweden 108.3
Czech Republic 100.3
Austria 97.5
Estonia 90.8
Luxembourg 82.8
Belgium 72.9
Cyprus 72.5
France 70.3
Netherlands 63.4
Finland 61.3
Italy 53.5
Portugal 53.0

While the Polish government’s broadest possible tax base is growing by 120.5 euros per 100 euros of welfare-state spending, the Portuguese tax base only grows by 53 cents per euro of growth in welfare-state spending.

This indicates structural deficits in ten of these 14 countries. It does not mean that there is an actual deficit of this magnitude, but it means that the economy of these ten countries is unable to sustain the spending that goes out through their entitlement programs.

But that aside, it looks kind of good, doesn’t it, to have such a prominent welfare state as Sweden in the structural surplus category. Does that not mean that the welfare state can be paid for?

Let us answer that question with a look at the same spending numbers, but now compared to inflation-adjusted GDP:

Poland 61.8
Sweden 47.9
Austria 44.5
Czech Republic 39.1
Luxembourg 35.4
Estonia 33.6
France 29.8
Belgium 29.2
Netherlands 29.2
Cyprus 25.9
Norway 25.4
Finland 23.1
Portugal -2.4
Italy -9.6

All of a sudden, Poland can only pay for 61.8 cents of every euro they spend on welfare-state programs. Sweden cannot pay for half of its welfare state. But worst of all: welfare-state spending in Portugal and Italy is so structurally under-funded that it outgrows the tax base by more than a euro, per euro in increased spending!

This means, in a nutshell, that the Portuguese and Italian governments draw taxes from a shrinking tax base to pay for what is undoubtedly an out-of-control welfare state.

Even if the actual growth of their tax revenues does not track the growth of GDP at all times, the GDP growth rate provides the most comprehensive picture of what the economy – and thereby taxpayers – could afford in terms of welfare-state spending. The bottom line for today, therefore, is that governments of welfare states from all corners of Europe are lucky if they see their tax revenues grow half as fast as their spending. And that is regardless of where the business cycle is: again, these numbers cover the period from 2004 through 2013.

Errors in Global Debt Analysis

Government debt is a problem. It pushes the cost of today’s government entitlement programs onto the shoulders of tomorrow’s taxpayers. The debt problems are made worse by the fact that the welfare states of Europe and North America all seem to suffer from a structural deficit: over a period of time longer than a business cycle they increase spending faster than their tax base increases. These deficits in turn are caused by entitlement programs that are purposely designed to increase in cost independently of the private sector’s ability to pay for them.

Over time, governments have raised taxes to keep funding their welfare states – and when tax increases have been politically unpalatable they have resorted to spending cuts. The net effect has been a more stingy welfare state at a higher cost to taxpayers.

Herein lies the core of the reason why the Western World has an endemic debt problem. As a share of GDP taxes have increased in every European welfare state over the past half century – in some cases the tax-to-GDP ratio has more than doubled. (See my book Industrial Poverty, pp. 75-77.)

In other words, the welfare state creates a permanent spending problem, the funding of which creates a permanent slow-growth problem which in turn creates a permanent deficit problem.

This is a systemic failure for the Western World of epic proportions. Unfortunately, the “big picture” is still a mystery to many people. Let me offer two examples. The first is from The Telegraph:

The eurozone is “untenable” in its current form and cannot survive unless countries are prepared to cede sovereignty and become a “United States of Europe”, the manager of the world’s biggest bond fund has warned. The Pacific Investment Management Company (PIMCO) said that while the bloc was likely to stay together in the medium term, with Greece remaining in the eurozone, the single currency could not survive if countries did not move closer together.

What this means in a nutshell is that the member states of the EU, or at the very least the euro zone, would have to give up their individual iterations of the welfare state and hand over taxation and spending authority to a union-wide authority. That would be either the EU if it incorporated all 28 states, or some “core” European government if it was confined to the euro zone.

The idea behind this is to bring fiscal and monetary policy into some kind of jurisdictional harmony. But this will not solve anything. It is a change in form, not content. The same welfare state will cause the same problems, and the policies put in place to reduce or eliminate government deficits while preserving the welfare state will have the same negative effects as they now have at the national level.

The Telegraph again, more to the point:

PIMCO used the example of the Latin and Scandinavian unions in the 19th century, which lasted an average of 50 years before breaking up, to illustrate how monetary unions were incompatible with sovereignty. “You need to reach some sort of political agreement about how to share fiscal resources around the zone. We’re a long, long, long way from designing that and getting the political backing for it,” … “So while you’re waiting for that and you’ve got low growth, and high unemployment, you run the risk of letting these anti-euro parties to the forefront.”

Those anti-EU parties would break up the currency union – in fact, that will happen as soon as Marine Le Pen moves into the Elysee Palace in Paris – but they will not alter Europe’s fundamental socio-economic structure. They will try to defend the welfare state, too, and will eventually encounter the exact same problems that have troubled Europe’s welfare states incrementally since the late 1970s.

But let us not forget that the government debt problem is not confined to the “advanced” welfare states shoring the North Atlantic. In fact, as if to underscore the social and economic disease that the welfare state represents, The Guardian reports:

Greek ministers are spending this weekend, almost five grinding years since Athens was first bailed out, wrangling over the details of the spending cuts and economic reforms they have drawn up to appease their creditors. As the recriminations fly between Europe’s capitals, campaigners are warning that the global community has failed to learn the lessons of the Greek debt crisis – or even of Argentina’s default in 2001, the consequences of which are still being contested furiously in courts on both sides of the Atlantic.

Or, for that matter, the Danish and Swedish lessons from, respectively, the 1980s and 1990s. I discuss the Danish crisis and analyze carefully the Swedish case in my book Industrial Poverty; for those proficient in Swedish, see an abbreviated analysis in the next issue of Magasinet Neo, out next week.

Back to The Guardian:

As Janet Yellen’s Federal Reserve prepares to raise interest rates, boosting the value of the dollar, while the plunging price of crude puts intense pressure on the finances of oil-exporting countries, there are growing fears of a new debt crisis in the making.

An example. The Alaska state government gets more than 90 percent of its General Fund revenue from oil. With the oil price at a third of what it was two years ago the state government is now on the verge of fiscal panic.

Ann Pettifor of Prime Economics, who foreshadowed the credit crunch in her 2003 book The Coming First World Debt Crisis, says: “We’re going to have another financial crisis. Brazil’s already in great trouble with the strength of the dollar; I dread to think what’s happening in South Africa; then there’s Malaysia. We’re back to where we were, and that for me is really frightening.”

I have written several articles about South Africa, where I have pointed to the main problem of the country. It is not debt – that is merely a symptom of what is really wrong. The systemic error in the South African equation is the massive entitlement system that the ANC government has tried to build and fund since taking over power 20 years ago. Trained as they were by Swedish socialists, the ANC leadership that defined the course of South Africa after the fall of Apartheid had only one thing in mind: to build their own version of the Scandinavian welfare state.

The result is high inflation, low growth, very high unemployment, social instability and a tax system that punitively keeps employers from creating jobs.

Without the welfare state there would be no debt problem in South Africa.

The Telegraph again:

Since the aftershocks of the global financial crisis of 2008 died away, … next to nothing has been done about the question of what to do about countries that can’t repay their debts, or how to stop them getting into trouble in the first place.

Don’t build a welfare state. Don’t create spending programs that the private sector cannot afford. This is a particularly bad idea in developing countries where the private sector is in poor shape in the first place.

Unfortunately, this is not the direction that the global debate is moving. It is taking a different route, namely toward welfare states being given a chance to default on their debt with impunity. The Telegraph explains:

Developing countries are using the UN to demand a change in the way sovereign defaults are dealt with. Led by Bolivian ambassador to the UN Sacha Sergio Llorenti, they are calling for a bankruptcy process akin to the Chapter 11 procedure for companies to be applied to governments. Unctad, the UN’s Geneva-based trade and investment arm, has been working for several years to draw up a “roadmap” for sovereign debt resolution. It recommends a series of principles, including a moratorium on repayments while a solution is negotiated; the imposition of currency controls to prevent capital fleeing the troubled country; and continued lending by the IMF to prevent the kind of existential financial threat that roils world markets and causes severe economic hardship. If a new set of rules could be established, Unctad believes, “they should help prevent financial meltdown in countries facing difficulties servicing their external obligations, which often results in a loss of market confidence, currency collapse and drastic interest rates hikes, inflicting serious damage on public and private balance sheets and leading to large losses in output and employment and a sharp increase in poverty”.

Once this measure is in place, what are the chances anyone would buy Treasury bonds from any country that is perceived to have some debt problems? What countries would be allowed this measure? It would have to be all UN member states, or else the rules for the Chapter-11 style mechanism would be ad hoc.

The next question is what would happen if Greece used this way out of its debt problems. All of a sudden we are talking about a euro-zone member state, a European welfare state, a country that is not too different from, say, Spain or Italy. What would happen if Spain or Italy did a “Chapter 11″, countries that are not too different from, say, France?

This is a Pandora’s Box of defaults that would have catastrophic effects on the financial system. It would turn now-safe Treasury bonds – or at least from those countries that still have good credit – into almost toxic assets. Who would want to buy any welfare-state Treasury bonds if that government can choose to file for bankruptcy if they consider the payments too burdensome?

Surely, there would be rules for filing for bankruptcy. But who would be writing those rules? The same welfare states that want to be able to borrow frivolously to keep their entitlement programs going.

The systemic problem with the welfare state still eludes the world’s political leaders. Ann Pettifor may very well be right in that there is another debt crisis coming, but a more accurate way of describing it would be that the same debt crisis – the ongoing, daily borrowing by unsustainable big governments – that has been cooled off for a while will erupt again.

And it will continue to do so until our political leaders get their act together and terminate the welfare state.

Growth and Deficits in Europe

As the Germans, the Greeks and the European Union leadership try to hash out a reasonable plan for Greece to secede from the currency union, the underlying question remains: has Europe managed to deal with the structural problems that brought many of its member states to their fiscal knees?

More specifically: are the problems that have sent Greece into a depression and possibly out of the euro zone unique to Greece – or are they just more concentrated there than elsewhere in Europe?

The answer to this question, presented in my book Industrial Poverty, is that the Greek crisis is merely a concentrate of an endemic European problem: a welfare state that is structurally and permanently too costly for the private sector to pay for. So long as the Europeans keep their welfare state they will continue to dwell in economic stagnation, with chronic problems of growth and budget deficits.

Over the past year countless forecasts of a strong recovery – or even a moderate recovery – in the European economy have been proven wrong. There are two reasons for this: economists normally rely on econometrics when they make their forecasts, a methodology that is not well tuned for large institutional and structural problems in the economy; and the focus on – obsession with – econometrics leads economists to ignore long-term structural trends in the economy.

Europe’s crisis is a structural one, caused by a long trend of weakening growth and increasingly persistent budget deficits. The over-arching problem, again, is the structure of entitlements imposed on the economy by the welfare state, a fact that is visible in the following, rather compelling data.

Figure 1 reports data on GDP growth and government deficits as share of GDP. The data is from 12 European welfare states, selected first and foremost based on data availability. The 12 states are then observed over a period of 48 quarters, fourth quarter of 2002 through third quarter of 2014, for annual, inflation-adjusted GDP growth and the deficit-GDP ratio. The result is a clearly visible correlation between the deficit ratio and GDP growth:



The better the deficit-to-GDP ratio, the stronger is GDP growth.

Now, let’s not rush to conclusions here. The immediate reaction among crude Austrians and crude Keynesians would be, respectively:

  • “Yes, this proves that austerity is king!”
  • “No, this can’t be – everybody knows that deficit spending is king!”

Truth is, neither side is correct. The reason why budget surpluses, or small deficits, correlate with high growth and deficits with slow or no growth, is as simple as it is independent of political-economic theory. Put simply, modern, mature welfare states are so big and difficult to pay for that a budget deficit is the normal state of affairs. Since the welfare state also depresses growth, by means of high taxes and sloth-inducing entitlements, it creates a combination of deficits and low growth.

Under unusual circumstances, high growth combines with surpluses not because government spending is low, but because GDP growth is high. In other words, observations of surpluses in Figure 1 are due entirely to a fortunate period of strong growth.

To further reinforce the point that growth is the only way to a reduced deficit in modern welfare states, consider Figure 2:


Note how the deficit-to-GDP ratio improves from 2005-2006. The reason is an improvement in GDP growth that started already in 2003. Next, note how GDP growth stagnates and starts declining in 2007 and how the deficit ratio follows downward in 2008. The upturn in the deficit ratio does not come until 2010, a year after GDP started improving.

In a nutshell: it is growth, not austerity, that fixes European budgets. (The same holds true, obviously, for the United States as well.) In absence of growth the budget deficits overwhelm their host economies and pile up more and more unsustainable debt.

Berlin vs. Athens: Who Blinks First?

It looks like Greek Prime Minister Tsipras is finally getting the country to where he was heading all the time: out of the euro. After winning an extension in February of current bailout conditions, the Syriza-led government has made practically no progress toward accommodating the demands from its creditors. On the contrary, it is increasingly obvious that Tsipras is trying to manipulate the circumstances to where he has no choice but to declare a Greek euro exit.

Yesterday the Greek blog MacroPolis explained:

The Greek government faces a dire financial situation in the coming weeks, especially as lenders are unlikely to relent on the conditions of last month’s loan extension. In fact, Tsipras’ insistence on of pushing for a “political deal” is going nowhere: German Chancellor Angela Merkel, who he will meet in Berlin next Monday, 23 March, is unlikely to deviate from her preference for technical, rule-based solutions. Therefore, the risk of an internal default due to the inability to pay salaries and pensions is not negligible.

Tsipras knows that he has no leverage. If he wanted to keep Greece in the euro zone he would never have run the negotiations to this point. But he has, which strongly suggests that I was correct when I wrote on March 1:

Prime minister Tsipras wants Greece to secede from the euro zone so he can pursue his Chavista socialist agenda on his own. He cannot do that without a national currency, but so long as a large majority of Greeks want to keep the euro he cannot outright declare currency independence. He needs to build momentum and create the right kind of political circumstances. This extension of status quo gives him four more months to do so.

It is very likely that the Germans have called Syriza’s game. As a counter-strategy they refuse to concede anything more, but are instead doubling down on their demands and conditions for a bailout. Reports the Telegraph:

Greece’s hard-Left government has been told to redouble its reform efforts in a bid to begin rebuilding the trust of its eurozone partners after a marathon four-hour meeting of European leaders in the early hours of Friday morning. With the clock ticking on securing the country’s future in the eurozone, Athens was urged to speed up its commitment to raising revenues and overhauling its economy by Germany’s chancellor.

Apparently, Chancellor Merkel has decided to play the chicken race that Alex Tsipras has been begging for ever since he was elected. According to the EU Observer, Merkel’s allies in the EU leadership have de facto made Tsipras an ultimatum:

Give us a list of reforms, and you might get the money you need, Alexis Tsipras was told at a three-hour meeting with select EU leaders on Thursday (19 March). The Greek prime minister met with German chancellor Angela Merkel and French president Francois Hollande. The heads of the EU Council and European Commission, Donald Tusk and Jean-Claude Juncker were also present, as well as European Central Bank chief Mario Draghi and Eurogroup chairman Jeroen Dijsselbloem. Tsipras was reminded that his government must stick to the Eurogroup’s previous, 20 February agreement. He was also told his partners are waiting for precise figures about the state of Greece’s finances and for a set of detailed reform proposals.

Merkel would not push Prime Minister Tsipras for the sake of saving him. She could not care less for a political half-wit from a broke-and-beaten Mediterranean outlier. No, her motives are at a much higher level. She has realized that the days are numbered for the common currency project. Greece is tugging away at its corner of the European currency; a party similar to Syriza is rapidly rising in Spanish politics, opening the possibility for Spain to eventually follow Greece toward currency secession; and then there is the constantly present threat of a President Le Pen in France whose first executive order would be to revive the franc.

On top of this Chancellor Merkel is looking at the exceptional depreciation of the euro over the past year. While this is good for exports, it has had no visible effect on domestic economic activity in the EU, especially not in the euro zone. The ECB has emptied out all its conventional monetary-policy measures and even resorted to unconventional stupidities like negative interest rates on bank overnight deposits. Yet none of this has helped get the European economy out of its state of stagnation.

Whichever way the chancellor looks, the euro is a lost cause. The remaining question then is: who is going to write the script for the end of the common currency? Is it going to be the rogues in Athens (and Madrid) or is it going to be the Germans? By being at least as principled as Tsipras, Angela Merkel is taking charge of the euro dissolution process. Her goal is to guarantee an orderly return to national currencies – and when that return will happen.

Prime Minister Tsipras can look wobbly and indecisive next to Merkel, but nobody should make the mistake of believing that the Syriza-led government eventually wants to stay in the euro. As Euractiv reports, the secessionist attitudes that characterize Syriza are not limited to economic issues:

The Syriza-led government will be against an Energy Union that undermines Greece’s national interests, including in its relations with Russia, said Greek energy minister Panagiotis Lafazanis, who also ruled out any privatisation schemes for the country’s energy sector.

So there you have it. The journey toward “Grexit” continues. The only question is who will blink first – i.e., who is going to be the first to give up on the Greek euro membership? Will Merkel say “I’m firing you” or will Tsipras say “You can’t fire me, I quit”?

Euro-Dollar Parity, Part 2

Earlier this week I summed up some recent observations of macroeconomic differences between the United States and Europe. Those differences, which explain why the euro has plunged from $1.39 in May last year to its current $1.06, are not going to go away any time soon. I recently did an overview of the fundamentals that constitute the strength of the U.S. economy (see part 1, part 2, part 3 and part 4); today’s article takes a closer look at the European economy.*

As the latest national-accounts data from Eurostat reports, the European economy remains in a state of de facto stagnation. According to inflation-adjusted numbers, GDP growth for 2014 stood at 1.3 percent; while much better than 0.04 percent for 2013, a closer examination shows that it is neither impressive nor sustainable.

Unlike the growth in the U.S. economy, which originates in sustained growth of domestic, private-sector activity, Europe’s increase in growth is driven primarily by exports. In 2013 exports from the European Union grew by 2.16 percent in inflation-adjusted numbers, a number that increased to 3.53 percent in 2014.

There is a sharp contrast between these growth numbers and those for private consumption: -0.1 percent in 2013 turned into growth of 1.29 percent in 2014, hardly an impressive number.

To further emphasize the role of exports for Europe, consider the strong correlation between exports and business investments, vs. the apparent absence of consumption-investment correlation:


Since private consumption barely moves, businesses have no reason to invest for the domestic market. They therefore tailor their business expansions – to the extent such expansions take place – to fluctuations in foreign markets.

The dependency on exports is even more apparent at the member-state level. Over the past two years, exports has been the leading absorption variable in 17 of the 26 countries included here (Ireland and Luxembourg have not yet reported fourth-quarter data). In five of the countries exports was the only absorption category that shows any growth; in Spain private consumption barely squeezed into positive territory:

Consumption Investm. Govt cons. Exports GDP avg
Greece -0.31% -3.45% -3.61% 5.37% -1.59%
Croatia -0.94% -2.55% -0.67% 4.86% -0.68%
Netherlands -0.74% -0.76% -0.15% 2.99% 0.03%
Italy -1.24% -4.58% -0.60% 1.57% -1.06%
Cyprus -2.80% -18.00% -6.54% 0.39% -3.81%
Spain 0.09% -0.21% -1.41% 4.24% 0.07%

The long-term trend of growing dependency on exports is visible across the board in the EU. From 2011 to 2014 (4th quarters), exports share of GDP increased in 23 of the 26 member states included here.

While there is nothing wrong inherently with growing exports, there is a problem when an economy almost entirely depends on exports. Contrary to prevailing wisdom among, primarily, European economists there is no lasting positive “multiplier” effect from exports to the rest of the economy – except, as mentioned, the business investments that relate specifically to exports.

The lack of positive multiplier effects from exports to, e.g., private consumption is reinforced by the fact that government spending is the strongest or second-strongest growth variable in 15 of the 26 countries. This is remarkable: for all of EU-28 government absorption grew at an annual rate of 0.6 percent per year over the 2013-2014 eight quarters. The fact that this was enough to finish second speaks volumes to the overall weakness of the European economy.

So long as this weakness remains, there will be no reversal of the long-term decline of EU economy.

*) Eurostat, 2005 chain-linked national accounts data.