MacroScope

Brussels looks warily at German surplus

Barring a last minute change of heart, the European Commission will launch an investigation into whether Germany’s giant trade surplus is fuelling economic imbalances, a charge laid squarely by the U.S. Treasury but vehemently rejected by Berlin.

This complaint has long been levelled at Germany (and China) at a G20 level and now within the euro zone too. Italian Prime Minister Enrico Letta urged Berlin this week to do more to boost growth.

Stronger German demand for goods and services elsewhere in the euro zone would surely help recovery gain traction. The counter argument is that in the long-run, only by improving their own competitiveness can the likes of Spain, Italy and France hope to thrive in a globalised economy.

Berlin says it has more than halved its current account surplus with the euro zone as a share of gross domestic product since 2007. But its global current account surplus is the biggest in the world as a percentage of GDP. It totalled 6.9 percent of GDP last year, higher than the 6 percent threshold that the Commission considers excessive.

One thing is sure; German policymakers will be furious at a time when they are still trying to construct a coalition under Angela Merkel.
As we’ve reported in recent days, the signs are that the next government in Berlin is already heading away from further surrenders of sovereignty. If an in-depth review concluded that the surplus is causing imbalances to Germany’s and Europe’s economy and Germany does not take the recommended steps to fix the problem, the final result can be a fine of 0.1 percent of GDP – which would enrage more than hurt.

French travails

The Bank of France’s monthly report forecasts growth of 0.4 percent in the last three months of the year, up from an anaemic 0.1 percent in the third quarter. That still makes for a fairly doleful 2013 as a whole.

France is zooming up the euro zone’s worry list, largely because of its timid approach to labour and pension reforms. Spain has been much more aggressive and is seeing the benefits in terms of rising exports (and, admittedly, sky-high unemployment). So too has Portugal.

Tellingly, both the Iberian countries have had the outlook on their credit ratings raised to stable in recent days while S&P cut France’s rating to AA from AA+. It remains at a far stronger level but the differing directions of travel are clear.

United on banking union?

Reuters reported over the weekend that Angela Merkel’s Conservatives and the centre-left SPD had agreed that a body attached to European finance ministers, not the European Commission, to decide when to close failing banks.

At the risk of blowing trumpets this will make the euro zone weather in the week to come and could open the way for agreement on long, long-awaited banking union by the year-end.

Up to now, Berlin has chafed against the European Commission’s proposal that it should be in charge of winding up banks and the path to a body to act on a cross-border basis looked strewn with obstacles.

Moments difficiles

Breaking news is S&P’s downgrade of France’s credit rating to AA from AA+ putting it two notches below Germany. Finance Minister Pierre Moscovici has rushed out to declare French debt is among the safest and most liquid in the euro zone, which is true.

What is also pretty unarguable is S&P’s assessment that France’s economic reform programme is falling short and the high unemployment is weakening support for further measures. There’s also Francois Hollande’s dismal poll ratings to throw into the mix.

As a result, medium-term growth prospects are lacklustre. Euro zone GDP figures for the third quarter are out next week and France is expected to lag with growth of just 0.1 percent.

Take-off has been delayed

Euro zone services PMIs and German industry orders data will offer the latest snapshot of the currency bloc’s economy which the European Commission now forecasts will contract by 0.4 percent this year and grow just 1.1 percent in 2014 – hardly escape velocity, in fact barely taxiing along the runway.

We know from flash readings for the euro zone and Germany that service activity expanded but at a slower rate last month. France’s reading crept back into expansionary territory for the first time since early 2012. Any revisions to those figures will be marginal leaving the focus more on Italy and Spain for which we get no preliminary release.

Italy’s service sector has been growing of late, according to the PMIs, while Spain’s has still been shrinking though at a slower pace. German industry orders posted a surprise 0.3 percent drop in August and are forecast to have grown by 0.5 percent in September.

What’s happened to euro inflation?

New European Commission macro forecasts for the euro zone and the EU have been given added significance by an alarming drop in inflation to 0.7 percent which has heaped pressure on the European Central Bank to ward off any threat of deflation.

There are myriad other questions – Will the Commission predict that Italy will miss its deficit target? What will it say to those countries in bailout programmes – particularly Greece, where the troika returns for a bailout review today, and Portugal? And what about France’s sluggish economy? PMI surveys on Monday showed it is acting as a drag on the euro zone recovery.

Against that backdrop, European Commission President Jose Manuel Barroso will speak at Frankfurt’s St. Paul’s Church, the seat of the first democratically elected parliament in Germany. He is expected to outline the political priorities of the European Union in the months to come and spell out his expectations of a new German government.

A question of liquidity

The Federal Reserve’s decision to keep printing dollars at an unchanged rate, mirrored by the Bank of Japan sticking with its massive stimulus programme, should have surprised nobody.

But markets seem marginally discomfited, interpreting the Fed’s statement as sounding a little less alarmed about the state of the U.S. recovery than some had expected and maybe hastening Taper Day. European stocks are expected to pull back from a five-year high but this is really the financial equivalent of “How many angels can dance on the head of a pin”. The Fed’s message was little changed bar removing a reference to tighter financing conditions.

However, the top central banks have sent a signal that they think all is not yet well with the world – the Fed, BOJ, European Central Bank, Bank of England, Bank of Canada and Swiss National Bank have just announced they will make permanent their array of currency swap arrangements to provide a “prudent liquidity backstop” indefinitely.

Italy versus Spain

Italy will auction up to 6 billion euros of five- and 10-year bonds after two earlier sales this week saw two-year and six-month yields drop to the lowest level in six months. Don’t be lulled into thinking all is well.

After Silvio Berlusconi’s failure to pull down the government, Prime Minister Enrico Letta has some time to push through economic reforms, cut taxes and spending. But already the politics look difficult and the central bank said yesterday that government forecasts for 1.1 percent growth next year and falling borrowing costs were overly optimistic.

Bank of Italy Governor Ignazio Visco and Economy Minister Fabrizio Saccomanni will speak during the day.

UK recovery, can you feel it?

Third quarter UK GDP data are likely to show robust growth – 0.8 percent or more, following 0.7 percent in Q2 – more kudos to a resurgent finance minister George Osborne who only a year ago was buried in brickbats.

We can argue about the austerity versus growth debate ‘til the cows come home – there is still a strong case that if the government hadn’t cut so sharply, growth would have returned earlier and debt would have fallen faster. But the fact that the economy is ticking along nicely 18 months before the next election means Osborne has won the argument politically.

And yet, and yet. The opposition Labour party has been nimble in switching its criticism from the government’s debt-cutting strategy to the fact that the economy might be recovering but the vast majority of Britons aren’t feeling it.

Humdrum summit

A two-day EU summit kicks off in Brussels hamstrung by the lack of a German government.

Officials in Berlin say they want to reach a common position on a mechanism for restructuring or winding up failing banks by the end of the year but with an entire policy slate to be thrashed out and the centre-left SPD saying the aim is to form a new German administration with Angela Merkel’s CDU by Christmas, time is very tight.

On banking union, a senior German official said Berlin had no plans to present an alternative plan for how a resolution fund might work at the  summit and reiterated Berlin’s stance that national budget autonomy for winding up banks could not be outsourced.