Recession yet again

What’s new? Italy and Spain are yet again in recession (if they did ever come out of the first one) and last week the UK announced that it too returned to a recession. Hello Mr Reality and goodbye Mr Dreamland. It does not take much to predict such scenarios and nor is it prophetic to predict that Europe will remain in a crisis for at least the next five years. There will obviously be times when this prediction will look completely wrong, but with statistics the devil is in the detail and unfortunately (for the eurozone members) there exists no magic wand to resolve the current European crisis.

Unfortunately it seems like growth is going to be the sacrificial lamb- Karl Micallef

This crisis did not emerge due to a recent wave of flawed decision making but is the result of a completely warped methodology of administering a nation’s finances, practiced over multiple decades. Put simply, the unaffordable does not become affordable by borrowing money. If we look at some 2012 GDP forecasts for some countries we may see some surprises; China – plus 8.4 per cent, US – plus 1.8 per cent, Germany – plus 0.5 per cent, France – plus 0.1 per cent, Italy & Spain – minus 1.4 per cent and UK – plus 0.4 per cent. If we combine these forecasts with the inflation forecasts for the same countries we may be even more surprised; in a nutshell only China will be experiencing real growth in 2012 (around five per cent) while Germany and France will both be experiencing negative real GDP growth at -1.5 per cent and -2.4 per cent respectively.

This dire situation in Europe is sparking changes in how multinational corporations operate, altering everything from manufacturing strategies to marketing and financial manoeuvres. Both sides of the Atlantic are important to each other and any weakness on one side will be of concern to the other. US multinationals have a tremendous need for a healthy and prosperous Europe, mainly because more than half of US global foreign direct investment has gone to Europe over the last decade. The European Union is the largest economy in the world and hence its problems are everyone else’s worries – Europe does matter.

So why aren’t the problems being fixed? An easy question with a complicated answer. Firstly, are the problems fixable – clearly the eurozone members are not suffering the current pains equally, at least prima facie. Germany is not growing as quickly as its recent track record but has avoided a double-dip recession (for now) while the peripheral eurozone countries are in a mess and France is a border case. But if we were to stop and think a counter argument may be put forward – Germany is suffering as much as the peripheral countries because it could actually be better off, if it hadn’t sacrificed growth to help the weak.

Austerity plans seem to be the only tools being used to address this crisis when in actual fact what is really needed is expenditure/investment and some inflation – demand-pull inflation. It is at this junction that one starts to picture the size of this “Perfect Storm”. The eurozone is already experiencing an inflation rate (approximately 2.5 per cent this year) which is above the comfort level of two per cent and this is mainly a result of cost-push inflation. Even if this were not a limiting factor, how would the weaker eurozone members finance their new “investments” when their debt levels have been hitting the rev-limiter for so long? At some point something must give and unfortunately it seems like growth is going to be the sacrificial lamb.

At this point there is one more concern and this relates to a fact referred to earlier – the FDI coming into Europe from the US. As I see it, unless the eurozone crisis is grabbed by its horns and seriously addressed, this level of US FDI will only diminish. Even though the European Union represents approximately 30 per cent of global consumption, multinationals will be looking at ways of increasing their exposure to emerging markets and insulating themselves from the challenges facing Europe. The silver lining in this scenario is that circumstances are forcing us to become more efficient and productive which should lead to a more prosperous European continent – personally however I would still have preferred living in the 1980s.

Mr Micallef is an executive director at Curmi and Partners Ltd.