By Sergei Manukov
The most difficult economic situation ever has arisen in the eurozone in the quarter of a century of the existence of the single European currency.
The high discount rate of the ECB (4.25%) and the impending reduction in government spending do not allow the eurozone economy to grow and is dragging it into recession. The effects of a rate hike that began last year will be painfully felt in 2024, leading to a 3.8% decline in GDP, according to Bloomberg economists. Moreover, this is still an optimistic forecast. The pessimistic one is possible with high energy prices and the cessation of government support and will lead to a decline in the region of 5%.
“The danger is that the strength of the economy leads to inaction and complacency (of EU authorities), - quotes Bloomberg Jamie Rush, co-author of the study. “The consequences of a rate hike come late and from this they have an even stronger effect. By the time they arrive, it is more difficult for governments to stabilize activity.”
Fed economists hope for a soft landing for the US economy and predict difficult times for the eurozone economy. Perhaps the situation will be even more serious than about a decade and a half ago, after the financial crisis. Now the leadership of the ECB and the finance ministers of the eurozone members are trying to answer the question whether the economy of the single European currency zone will be able to withstand a double blow? Of course, at any moment it will be possible to start cutting the rate, but the main European bank, which was criticized last year for tightening monetary policy too late, is now showing in every possible way that it does not intend to weaken it yet.
So far, the European economy has been holding back from the effects of rate hikes and the phasing out of support measures introduced at the height of last year's energy crisis. The eurozone slipped into recession in the winter, but got out of it in the second quarter, although not without losses: stagnation in Germany and a recession in Italy.
The ECB chief Christine Lagarde acknowledged in July, announcing a possible pause in rate hikes, that the economic environment was deteriorating. The peak of deterioration should obviously be expected by the beginning of 2024 - in January next year, the first ECB rate hike will be a year and a half, and a year and a half is the optimal time, many economists believe, for the most severe consequences to appear.
January 2024 also marks the end of a four-year suspension of the fiscal rule that limits the size of debts and budget deficits of eurozone members and introduced to combat the pandemic and the energy crisis. Negotiations are currently underway in Brussels on a new agreement, which should replace the old rule that limited the budget deficit of the eurozone countries to 3%. In July, finance ministers came to the conclusion that a new mechanism is required that will take into account the real situation.
“For the next 12 months, we will have to live with the maximum impact of tightening both monetary and fiscal policy,” says Gregory Clays of the Brueghel think tank. “To be honest, this prospect worries me a little.”
The main question of the current discussions is how flexible can the policies of European countries now be in order to protect the eurozone economy? On this issue there are big differences between the south and the north of the continent: a group of "southerners" led by France advocate a flexible approach, and the "northerners", led by Germany, insist on the adoption of automatic limits and other restrictions.
“It makes no sense to adopt rules that depend on politics and which in the end always turn out to be useless,” the German Finance Minister Christian Lindner said back in February. “There should be no exceptions and concessions for anyone.”
If the downturn in the economy turns out to be serious, the ECB will become the object of pressure from politicians from all sides. Here we should also remember the complication in the form of elections to be held in June 2024. The ECB is formally, of course, independent, but this does not prevent politicians from trying to put pressure on its leadership in order to make decisions that are beneficial to them.
“It will become increasingly difficult to keep the rate high,” said ADA Economics Ltd. chief economist. Raffaella Tenconi.- If there is no change, next year will be very difficult.
The situation is complicated by the uncertainty about how the increase in the discount rate will affect the economy? A growing number of both economists and policy makers believe that over time, the negative effects will increase as the problems intensify.
“If you raise the rate when everything is in order, then it is easier to digest the increase,” Germain Simone, head of the financial committee of the French business association CPME, is sure. “Now the increase is felt differently.”
Jamie Rush believes that the best scenario for 2024 would be a soft landing for the eurozone economy, but the chances of that happening are slim.
“The main danger is that a high rate will hit the economy very hard over time, as predicted by computer models,” he explains. already used to it."
This article orginally appeared in Russian at expert.ru