It would seem to be only a matter of time before the euro zone experiences another round of the sovereign-debt crisis — this time centered on France and Italy.
And another sovereign-debt crisis could be on its way.
S o much for the hopes of the euro’s founders that the single currency would allow Europe to compete more effectively with the United States. According to IMF data, since 2008, in dollar terms the euro zone economy grew by around 6 percent as against the more than 80 percent for the United States. As a result, while in 2008 the two economies in dollar terms were about equal in size, today the gap between those two economies is some 80 percent in favor of the United States. According to the European Center for International Political Economy, today the average European Union country is poorer per head than every U.S. state except Idaho and Mississippi.
Unfortunately for Europe, there is little prospect that its economic gap with the United States will narrow anytime soon. Germany’s manufacturing and export-based economy has been hit hard first by a Russian-induced energy shock and then by the marked economic slowdown in China, which is one of its main export markets. It has also been hobbled by the impact of climate policies adding to electricity costs and by increased Chinese electrical-vehicle competition. According to the IMF, the German economy will stagnate this year after having been in a recession last year.
Meanwhile both France and Italy, the euro zone’s second- and third-largest economies, have higher public debt-to-GDP ratios today than they did during the 2010 euro zone sovereign-debt crisis. France is now running a budget deficit equal to 6 percent of GDP, which will be difficult to reduce given its current political instability. The country’s troubling budget prospects have prompted Moody’s to issue a negative outlook on the French government’s debt.
Further clouding the euro zone’s economic outlook is the prospectively unfavorable world trade environment, especially should Donald Trump win a second term in office. A central plank of Trump’s economic program is the imposition of a 60 percent tariff on Chinese goods and, in the absence of reciprocity agreements, a 10 to 20 percent tariff on goods from the rest of America’s trade partners.
In a recent report on the euro zone’s economic malaise, Mario Draghi, the former head of the European Central Bank, underlined that the euro zone needed major structural reforms if it had any hope of competing with the United States and China. In his view, the main obstacles to greater euro zone economic growth were its aging population, over-regulation, declining innovation in key sectors, and insufficient investment in technology and infrastructure.
Among Draghi’s recommendations for reinvigorating the euro zone’s economy were the creation of a European Sovereign Fund dedicated to financing the green and digital transitions, especially for large-scale infrastructure projects. He also recommended adjusting the EU’s Stability and Growth Pact to allow for greater flexibility in financing green investments and increased investment in research and innovation to ensure Europe’s global leadership in clean technologies.
Especially at a time when France and Italy have unsustainable public debt positions, had he not been the former head of the European Central Bank and the euro’s savior in 2012, Draghi might have mentioned that the euro itself casts a dark cloud over the euro zone’s economic growth prospects. It does so today in much the same way as it did during the euro zone sovereign-debt crisis. Stuck within a euro straitjacket, France and Italy cannot resort to easy money and currency depreciation to offset the contractionary effect of budget belt-tightening. This means that should they be forced to engage in the fiscal austerity needed to restore order to their public finances, they would risk inviting a recession.
All of this does not bode well for Europe’s prospects of reducing its economic gap with the United States. Its political divisions make it highly improbable that Draghi’s calls for much-needed reform will be heeded. At the same time, it would seem to be only a matter of time before the euro zone experiences another round of the sovereign-debt crisis — this time centered on France and Italy, both of which have economies many times the size of Greece’s.