Is the Eurozone in Crisis?

Chris Bailey, European Strategist, Raymond James Euro Equities*

“There cannot be a crisis next week. My schedule is already full” Henry Kissinger

The Eurozone has been in a troubled mode during 2018. The sight of German Chancellor Angela Merkel – Europe’s longest serving and most important elected politician – struggling to not only put together but also to keep together a workable coalition has encouraged more commentators to write the political and economic obituary of the Eurozone.

Certainly international investors have voted with their feet in the past six months, with outflows at levels not seen since the days following the UK’s European Union referendum in June 2016. Merkel’s political scrambling has been accompanied by the surprise formation of a populist tinged government in Italy, a change of leadership in Spain after a long-running corruption scandal and underwhelming economic data.

So, has the hope of 2017 – following the election of an energetic new French President committed to reform and change – gone forever? Despite all the above, there has been some positive change and most of this has been centred upon the efforts of Emmanuel Macron. The French President has broadly lived up to his promise to introduce much needed economic, labour market, taxation and entrepreneurial reforms plus rebuild national confidence. And Macron’s energy has not been the only encouraging regional positive: Greece is finally on the cusp of exiting its economic support programme, meanwhile the European Central Bank has set a date at which it intends to stop adding to its quantitative easing stimulus – although interest rates are set to remain in negative territory for at least another year.

In short, the hopes that a revitalised Franco-German leadership could push an attractive Europe 2.0 vision that could excite the pan-European electorate, has been unsettled by shorter-term political, economic and social considerations led – especially in Italy and Germany – by issues such as immigration and inequality. However, the history of the Eurozone has been that the most difficult and sometimes contentious decisions have generally been taken when political backs are against the wall. And there is the scope for 2018 to still be one of those years.

June’s much-anticipated Summit of European leaders was ultimately hijacked by some of the shorter-term considerations noted above but, it is to the Eurozone’s credit, that some progress was made and agreements reached. The new EU budget, stretching deep into the 2020s, deepens the Eurozone’s regional redistribution capabilities – absolutely essential for the effective working of a single currency zone (as the United States would attest). More regional distributions towards southern Europe offers the scope of ‘cash for reforms’ style deals, but at the moment it is still just a hope, with further details to be worked out by the end of the year.

Economic realities at two levels will be critical influences over the balance of the year. The first is whether the Eurozone economy can start to surprise again after a first quarter badly hit by unhelpfully poor weather and tough comparisons. Regional economic growth rates remain below medium-term aspirations but an economic recovery is still taking place, which includes the best rate of bank lending growth since before the global financial crisis. Given, as aforementioned, interest rates for the Eurozone are still currently at negative levels, this should be no huge surprise, but more jobs and some wage growth can only be a positive at-the-margin for the whole region.

The second economic reality rests with the region’s third largest economy: Italy. As the coalition government is fast learning, it is easier to talk than govern, and further signs that the country is embracing change and reform as a committed member of the Eurozone, can only help confidence towards the whole region. High debts and a still strained banking system – as the Greeks would agree – is best managed with the help of the Eurozone authorities. A pragmatic Germany and an energetic France could still yet find a workable formula for a future Eurozone that remains troubled but not, by any means, on its deathbed. For investors today there remains more opportunity than threat.

Source: European Central Bank

You can read more articles from Chris Bailey and the Raymond James Investment Strategy Committee in the July edition of Investment Strategy Quarterly

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