A month ago I reported that the global economy is heading for a recession:
- On the one hand, this presents America with a great opportunity to lead the world toward new heights of prosperity – provided of course we have a president who is interested in doing that;
- on the other hand there are disturbing signs that too many of the world’s leading politicians are adding insult to injury, such as with the new Basel III bank regulations that will probably aggravate a global recession.
Today the Singapore-based Straits Times reports on yet another sign that the global economy is heading in the wrong direction. Activity in the already hard-hit European economy is taking a turn for the worse:
Euro zone private sector activity suffered its worst monthly slide in nearly three years in May, according to results of a closely-watched survey released on Thursday. The flash Purchasing Managers Index (PMI) compiled by the London-based research firm Markit fell to 45.9 points in May, down from 46.7 in April in what amounted to the fastest rate of decline since June 2009.
Germany is now experiencing a slowdown. Since Germany is one of the world’s largest manufacturing economies, with a very large export industry, this is a clear indicator of a global recession. The Straits Times again:
In number two economy France, Markit said, the rate of decline accelerated to the fastest since April 2009. Chief economist Chris Williamson said the results were ‘broadly consistent with gross domestic product falling by at least 0.5 per cent across the region in the second quarter’ of the year, adding that ‘even Germany is at risk of GDP falling slightly.’
In addition to indicating a downturn globally, a German recession is also bad news for Europe, which is already under heavy austerity pressure. To make matters even worse, the only policy alternatives offered on the European scene come from the ultra-statist new French president who wants to tax the rich out of the country, and from totalitarian Euro-secessionists in Greece.
To underline the seriousness of the situation, the Financial Times adds that:
Separately, the Munich-based Ifo institute said its German business confidence index had tumbled from 109.9 in April to 106.9 in May, the lowest since November. The index saw a larger monthly drop last August, but otherwise the fall was the biggest since late 2008 when the global economy was reeling from the collapse of Lehman Brothers investment bank. Gilles Moec, European economist at Deutsche Bank, said optimism about eurozone prospects earlier this year had been thrown into reverse, and warned heightened financial market tension created by uncertainy over Greece “is likely to weigh further on consumer confidence, firms’ investment decisions and crucially on banks’ lending intentions”. Eurozone gross domestic product in the first three months of the year was flat, thanks largely to a strong German performance which meant the 17-country region has so far escaped a “technical” recession, defined as two quarters of contraction. But the latest PMI data are consistent with GDP contracting 0.5 per cent in the second quarter, according to Markit, which publishes the survey.
In other words, the only counterweight to the Europe-wide austerity policies has been a relatively strong German economy. The Teutonic powerhouse has created a demand for the euro even as the turmoil around primarily Greece and Spain has thrown investors into doubt about the common European currency. Now, though, with the German economy losing steam the outlook is unequivocally bad for the euro:
The euro had been showing resilience, despite the eurozone turmoil, but fell suddenly this month. It has lost 5% in the past three weeks, after barely moving against the US dollar for much of the year, to hit a 22-month low at $1.2514 on Thursday, the Financial Times reports. Citigroup has warned the euro could fall close to parity in the event of a disorderly exit.
A weaker euro means higher borrowing costs for governments in countries where politicians stubbornly refuse to give up their big governments. Germany still enjoys good credit. With pan-European, euro-denominated bonds, countries like France, Greece, Spain, Portugal, Italy and even the Netherlands will automatically get the Germans to co-sign on their loans. Spendoholic governments in Europe believe that this will lower their borrowing costs, not realizing that international credit rating institutes will rate the common euro bond based on the weakest link in the chain, not the strongest.
The debate about pan-European bonds is not a significant factor behind the weakening of the euro, but it does contribute indirectly. The desire among, e.g., French politicians to create such bonds indicates that they are not willing to change course when it comes to spending. On the contrary, they are still in denial about what has really caused Europe’s fiscal problems, and what has brought the euro to the point of a Greek secession. International financial investors realize what this means: the debt problem in Greece is not a one-timer for the euro zone. Other countries will do everything they can to spend more, which means issuing more national government bonds. Since these are denominated in euros, there is only one conclusion: the common currency is becoming an ever riskier asset.
Fortunately, it looks like the Germans have decided that they do not want to write a blank check to France. EU Business reports that most Germans…
…reject eurobonds, a hotly-debated proposed tool for pooling eurozone debt to help fight the crisis, and are against Greece remaining in the euro, according to a poll published Friday. The survey for ZDF public television showed that 79 percent of those asked said they opposed the introduction of eurobonds, in line with the position of Chancellor Angela Merkel’s government.
With a weakening of the German economy, the euro will become a less attractive currency. As a direct consequence, the cost of deficit spending will continue to rise all across Europe. This will accelerate the trouble in Greece, put Spain even more on the spot and raise serious question marks for Italy, France and the Netherlands.
It remains to be seen what the long-term consequences will be for the euro. What we do know is that with Germany going into a recession, with Greece heading for a secession and the rest of Europe tilting in the direction of spend-tax-and-borrow, there is absolutely no chance that Europe will help pull America – or the world – out of the recession. If we want to return to a path of prosperity and full employment, we need to do it on our own.
By shrinking government, cutting taxes and structurally reforming away the welfare state, we can set a good example for the rest of the world. If on the other hand we follow the Obama path and export his policies to others, we are guaranteed to get stuck in a global recession for a long time to come.