The euro zone is hurtling back into recession, economists declared after official figures this week portrayed a shrinking economy. But by some measures the downturn has been under way for years.
Photo: Ken Sciciuna | Getty Images
E.U. Flags
With the exception of Germany, none of Europe’s biggest economies have returned to the level of economic output they had at the beginning of 2008, before the subprime mortgage crisis in the United States spread across the Atlantic, according to calculations by two U.S. economists, Peter Rupert and Thomas F. Cooley.
The figures suggest that Europe is already well into what could become a lost decade — a period of pernicious stagnation and wasted potential that could have lasting effects on ordinary citizens.
Economic growth not realized represents investments in education that were never made, research that was never financed, businesses that failed and careers that ended too early or never got off the ground.
“There are larger implications that people don’t think about,” said Mr. Rupert, a professor of economics at the University of California, Santa Barbara. “There is a huge decline in human capital.”
Just what marks the beginning and end of a recession is not always easy to define. One common definition is two consecutive quarters of falling output. By that standard, the euro zone is technically not yet in a recession.
Most economists agree, though, that a recession is also defined by other indicators like unemployment, industrial production and investment. The closest thing Europe has to an arbiter on the question is a committee of prominent economists convened by the Center for Economic Policy Research, a research organization in London.
By the committee’s reckoning, the euro zone’s last recession ended after the second quarter of 2009, the point at which the region hit bottom and began to grow again. The economists’ panel, known as the Euro Area Business Cycle Dating Committee, has not yet begun to consider whether the euro zone is in recession again. But few people would argue that Europe, stricken by a self-inflicted debt crisis that began in 2010, has basked in prosperity recently.
“This is more than just a regular business cycle,” said Carl B. Weinberg, chief economist at High Frequency Economics in Valhalla, New York. “I can’t think of a time in the postwar period in any major industrial countries where we have had a downturn resume before the previous cycle was over.”
Only Germany is wealthier than it was in the first quarter of 2008, when economic activity peaked. France is close, according to Mr. Rupert and Mr. Cooley, a professor at the Leonard N. Stern School of Business at New York University. (The two publish a blog that tracks the business cycle, at european snapshot.com.)
Spain and Italy are both effectively back where they were in the darkest days of 2009, after the collapse of Lehman Brothers set off a financial crisis that undermined the world economy.
Both countries resumed growing in 2009, but stalled in the middle of last year. Since then Spain has had three quarters in a row of declining gross domestic product, while the Italian economy has been shrinking for a year. There is little doubt they are deep in recession. Some economists predict that France and even Germany could follow.
In contrast, the United States regained all the ground lost since 2008 at the end of 2011. But it took twice as long to do so than had been the case for any other recession since World War II, according to Mr. Cooley and Mr. Rupert. They estimate that, had the United States continued growing at the same average pace as it has since 1950, the country would be more than $1.5 trillion wealthier today.
While economists already knew that euro zone GDP. was still catching up with 2008, experts like Mr. Cooley and Mr. Rupert have been parsing the sometimes inconsistent statistics issued by European countries to show how broadly the downturn has affected Europe’s largest economies in the form of rising unemployment, declining consumer spending and falling investment.
Mr. Weinberg and others warn that the euro zone is on the same path as Japan was in the 1990s, when failure to deal with weak banks led to a decade of stagnation.
“There are some really good analogies,” Mr. Weinberg said. “The Japanese never fixed their banks. There is a lesson to Europe in this.”
When banks do not have adequate capital reserves, as is now the case with many, they hoard cash and are unwilling or unable to lend. The European Central Bank has gone to extraordinary lengths to supply banks with cash, offering three-year loans on easy terms. But the ECB cannot compel those banks to issue loans to businesses, which would fuel expansion. Nor can it make them give credit to consumers to buy homes and cars.
In fact, ECB surveys as well as money supply data show that banks remain reluctant to lend.
Attempts to fix this dysfunctional system have so far fallen short. The European Union has allocated €100 billion, or nearly $124 billion, to recapitalize ailing Spanish banks, but the money has not yet been spent, because the mechanisms to do so are not yet in place. The European Banking Authority has pressed weaker banks to rebuild their reserves, but many analysts say the agency’s requirements are not strict enough to restore confidence in banks’ health.
The social effects of so many years of poor economic performance are “very worrisome,” said Lucrezia Reichlin, a professor of economics at London Business School. “We know that societies lose their cohesion when growth is very subdued.”
Comparisons to Japan’s lost decade may not go far enough, she said, noting that young Europeans have been particularly hard hit by poor growth. In Spain, more than half of people aged 16 to 24 are jobless.
“That would be a lost generation more than a lost decade,” said Ms. Reichlin, who is also a member of the committee at the Center for European Policy Research that attempts to determine when recessions begin and end.
Under the best of circumstances, it would be a year or two before the euro zone economy could be expected to recover. And that will happen only if European leaders make the right decisions — a questionable assumption — and demand from Asia and the United States strengthens.
Leaders in Brussels and European capitals have pledged to improve budgetary discipline, remove government obstacles to growth and strengthen the banking system by establishing a common regulator at the ECB.
But progress toward these goals has been slow, held up by reluctance by countries like Italy to make changes and by countries like Germany to provide financing. Implementation of the European rescue fund, the European Stability Mechanism, has been held up by a lawsuit brought by a German citizens’ group that will not be resolved until the country’s Constitutional Court rules on Sept. 12.
And German voters remain opposed to measures economists say are needed to hold down borrowing costs for weaker countries like Spain, including some form of common debt.
Forecasts of euro zone growth are even trickier than usual because the economic pattern is unlike anything Europe has experienced in the past.
For example, Europe typically tracks the U.S. economy with a slight time delay, but now seems to have decoupled. In addition, the wealthier member states of the European Union used to move more or less in unison. But now Italy is doing much worse than France, not to mention Germany.
Under more pessimistic forecasts, the decline could last for years.
Mr. Weinberg of High Frequency Economics warns that even depression cannot be ruled out, if poor policy leads to a string of bank failures.
A breakup of the euro currency bloc, which many economists consider a serious risk, would have incalculable consequences.
“In the euro area, the main uncertainty is over if and how the current debt crisis can be resolved and whether a breakup of the euro can be avoided,” Joachim Fels and Manoj Pradhan, economists at Morgan Stanley, wrote in a note to clients.
Some of the decline in euro zone economic output reflects lower government spending, as political leaders struggle to cut national deficits. In countries like Italy and Greece, where governments have a reputation for being wasteful, spending cuts could theoretically benefit the economy in a few years by eliminating bureaucracy that gets in the way of entrepreneurs.
Recessions can even be beneficial, in a way. They punish inefficient business practices and imprudent lending. But that is true only up to a point.
“When people talk about the cleansing effect of recessions,” Mr. Rupert of the University of California said, “those aren’t five-year recessions.”