With Greek Bailout 2, Europe has run out of options for supporting its failing states and, in doing so, has run out of room for its economies to grow. Domestic savings are stagnant; and given already hefty fiscal spending bills and rising tax burdens, availability of private capital will be a major problem for investment in the medium term.
Take a look at some numbers – courtesy of the unseasonally optimistic IMF. Between 2011 and 2014, the IMF earlier predicted the troubled euro zone economies would grow cumulatively by between 1.7 per cent for Greece, Italy and Portugal, to 4.8 per cent for Spain and 5.7 for Ireland.
However, in recent months the IMF has been scaling back its forecasts so rapidly and so dramatically that growth by this April is expected to be -0.1 per cent for Greece, 5 for Ireland, 1.6 for Italy, 1.5 for Portugal and 3.3 per cent for Spain. Not a single Euro area member state, save for Greece, is expected to see more than a two-percentage-point increase in gross national savings. Coupled with planned fiscal consolidations, this implies negative growth in private savings as a share of GDP in every euro zone country.
Over the same period, general government revenues as a share of the overall economy will increase on average across the dozen older euro area member states that joined before 2004. The much-hoped-for salvation from external trade surpluses is an unlikely source for growth: Between 2011 and 2014, cumulative current account balances are likely to be deeply negative in France (-7.4 per cent of GDP), Greece (-16.9 per cent), Italy (-7.5 per cent), Portugal (-15.5 per cent), Spain (-8.2 per cent) and only mildly positive in Ireland (+4.9 per cent). The average cumulative 2012-2014 current account deficit for the PIIGS is forecast to be in the region of -8.7 per cent of GDP and for the Big 4 states -1.6 per cent.
This lacklustre performance comes on top of the continuing and accelerating bank deleveraging that will further choke off credit supply to the real economy. Hence, broad money supply across the common currency area is declining. Leaving aside European Central Bank deposits, commercial banks' balance sheets shrank some $660-billion (U.S.) in the fourth quarter of 2011 alone, roughly offsetting the effect of the ECB's second LTRO (Long-term refinancing operation). You can bet your house the real retail cost of investment is going to continue rising through 2012 and into 2013, exerting a massive drag on growth. Thereafter, unwinding of LTROs will lead to a spike in the benchmark 'risk-free' sovereign rates, once again supporting inflation in the cost of business investment.
With all of this, the PIIGS are going to be squeezed on all sides – fiscal, monetary, credit and the real economy – both in the short run and in the medium term. Spain is the case in point, with the latest EU spat over widening deficits. The EU decision to back down on its own targets for Spanish deficits does not bode well for the bloc's credibility when it comes to fiscal discipline. But it signals even worse news for those still holding their breath for Europe to show signs of an economic recovery.
If anything, the latest developments reinforce the predictions I made some months ago – Europe's governments are incapable of sticking to the austerity targets they set for themselves, and are unable to spur any growth momentum to substitute for austerity. In other words, Europe is now firmly stuck between half-hearted dreaming of Keynesianism by default and fully pledged monetarism by design. As the 'Third Way' – this combination of policies is the fastest path to economic hell.
Constantin Gurdgiev is head of research with fund management firm St. Columbanus IA and lecturer in finance at Trinity College, Dublin.