The unexpected news from France and Germany of resumed growth (albeit very small) seemed, on the face of it, incomprehensible. From this you can see that Ambrose Evans-Pritchard has much the same reaction. But one thing is clear and that is that the euro will be under greater strain than ever if the bloc starts to show strong divergencies between north and south.
Christina
TELEGRAPH
14.8.09
Keynes rescues France and Germany; Club Med lost
New geographical divide on the cards as twin motors of Euroland crawl out of recession but southern states remain in the wreckage.
By Ambrose Evans-Pritchard
Crass Keynesianism has done its job. A blast of fiscal stimulus and "cash-for-clunker" schemes have lifted France and Germany from the depths of recession.
The twin motors of Europe each eked out 0.3pc growth in the second quarter, much to the consternation of their own governments and the International Monetary Fund. The eurozone as a whole shrank 0.1pc. Christine Lagarde, the French finance minister, interrupted her holiday to announce that "France was finally coming out of the red". Her country has been cushioned by its big state sector and well-regulated banks. Growth may have been lifted by a bumper crop of Airbus jets, meeting old orders, so caution is in order. Airbus will trim its A320 lines in October. "It is too early to declare victory," said Marc Touati, from Global Equities.
The Teutonic comeback is true to character. Germany is highly geared to the global cycle. It plunged harder than any other rich country bar Japan as the crisis hit, largely because demand for the "big ticket" machinery that drives its export industry imploded. It is now rebounding with similar vigour. Germany's superb companies are the first to benefit as China and the Middle East return to life.
The question is whether this adds up to much more than a restocking rally for a couple of quarters after the waterfall collapse over the winter – as occurred in Japan's Lost Decade, or in the 1930s. Within a few months the "sugar rush" of fiscal stimulus in Europe, the US, China, and Japan will be wearing off.
Charles Dumas from Lombard Street Research said Germany has relied on more crass Keynesianism than it lets on. "They have had a budget stimulus, car subsidies, and they're paying people without jobs [Kurzarbeit]. This is all to the good, but it doesn't in any way create the foundations for a new growth story."
The DIW Institute in Berlin expects unemployment to rise by another million to 4.5m next year as job subsidies expire and companies are forced to slash labour – as they must, since over-capacity is at a post-war high. Mass lay-offs will deliver a fresh hammer blow to retail demand.
While any sign of recovery is welcome, there is a sting in the tail of yesterday's data. The eurozone's "Club Med" remains mired in slump and likely to slip further behind if recovery gathers steam. Italy shrank 0.5pc, and has now suffered seven quarters of contraction. Spain shrank by 0.9pc.
David Marsh, author of The Euro: The Politics of the New Global Currency, said this North-South chasm will test the European Central Bank's ability to manage a one-size-fits-all policy for Euroland.
"The moment of truth will come when German recovery leads to a rise in interest rates, and that may come sooner than people think," he said. "Germany will emerge from this crisis more competitive. It has used recession to make its companies fitter, while the South has been losing competitiveness steadily. I would be particularly worried about the situation in Italy, where lack of leadership is frightening."
Italy is moving disturbingly close to a debt compound trap as tax revenues slide. The Italian treasury has revised the country's expected debt in 2010 from 101pc of GDP to 120pc since the crisis began.
Julian Callow, from Barclays Capital, said unit labour costs have risen 28pc in Italy and 27pc in Spain compared to Germany since the launch of the euro.
It will be a Sisyphean task for the Club Med states to claw back parity unless Germany is willing to ease the adjustment by tolerating some degree of inflation. There are no signs of that. German prices have fallen 0.7pc over the last year. "Italy and Spain are really in a trap here," he said.
Spain's crisis is more immediate. Unemployment has reached 18.1pc. Deflation is setting in after a 1.4pc fall in prices over the last year, raising the risk of debt suffocation.
For the eurozone as a whole, it is far from clear whether the banking crisis has been resolved. Credit to households and businesses has contracted since February: the M3 "broad" money supply has been flat.
M3 stagnation can be an early warning of trouble to come a few months later, though in this case the ECB thinks the data had been distorted by emergency policies. Not all experts agree. Professor Tim Congdon, from International Monetary Research, described the money figures as "horrifying".
The Federal Association of German Banks says there is a "real danger" of a fresh credit crunch over the next 18 months as default rates creep up and corporate downgrades force lenders to set aside greater reserves.
US and UK banks took much of their punishment early because they were heavily exposed to debt securities that collapsed almost instantly when the storm hit. European banks are likely to suffer later in the cycle. Their style of lending usually means that losses are not crystallised until defaults occur. The ECB says eurozone lenders may have to write down a further €203bn (£175bn) in bad debts by late 2010.
Berlin has refused to conduct an open stress test on its banks, raising suspicions that it is brushing problems under the carpet until the elections in September. We will find out soon enough if that is true.
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