Will the Markets Tolerate an End to Austerity in Europe?
“We’re witnessing the end of the dogma of austerity… We’ve been pleading for a growth policy for a year. Austerity on its own impedes growth.”
Pierre Moscovici delivered this statement on Europe 1 radio on Sunday, and the sentiment has quickly become a mantra among those concerned with the economic situation in Europe. According to the final reading of the Markit Eurozone Composite Output Index, the region’s downturn expanded in April. Overall economic output, as measured against the headline Purchasing Managers’ Index, clocked in at 46.9, slightly above March’s reading of 46.5 but still stuck in negative growth territory.
The report was highlighted by the fact that Germany’s output index fell to a five-month low of 49.2, indicating that the region’s largest economy has joined Italy, France, and Spain in contracting in the second quarter of the year. Chris Williamson, chief economist at Markit, commented that “the eurozone’s economic downturn is likely to have gathered momentum again in the second quarter,” and that April’s PMI is “is broadly consistent with GDP falling at a quarterly rate of 0.4-0.5″ percent.
This news, reported on Monday alongside underwhelming retail sales volume data, is just the latest in a series of economic reports that paint a picture of a European economy still mired in recession. Unemployment hit a record high of 12.1 percent across the euro area, and economists such as Williamson fear that the rate could edge even higher in April.
All of these economic woes finally forced the hand of the European Central Bank last week. The ECB announced that it will lower the interest rate on both the marginal lending facility and main refinancing operations within the Eurosystem. Effective May 8, the rate on the marginal lending facility will be decreased by 50 basis points to 1.0 percent, and the rate on main refinancing operations will be decreased by 25 basis points to 0.50 percent. The interest rate on the deposit facility will remain unchanged at 0.0 percent.
In many ways, this decision marks a change in attitude among European finance ministers that harmonizes with Moscovici’s decree. For years, fiscal austerity — championed by major economies such as Germany — has been the primary tool of debt and deficit reduction. Countries on the receiving end of bailouts or other forms of economic aid were tasked with slashing government spending, a move that removed a huge amount of fuel from national economies.
As Olli Rehn, the European Commissioner for Economic and Monetary Affairs, put it: “In the early phase of the crisis, it was essential to restore the credibility of fiscal policy in Europe, because that was fundamentally questioned by market forces… There was no choice. Decisive action was taken.”
Hindsight is 20-20, and looking back on the austerity measures forced on peripheral economies or voluntarily assumed by larger nations has revealed that what seemed like a good idea at the time may have caused more economic harm than expected.
There’s no hiding the fact that in many cases, some level of austerity was necessary. Governments need to spend money in a responsible way, and in several nations that was simply not the case. Deficits had grown to 3 percent or more of GDP in major economies such as France, and reducing this figure took priority over pro-growth policies.
The European Commission has set a deficit ceiling target of 3 percent of GDP by 2014, although many countries have petitioned this timeline. Several countries have already won more time to hit the target as they shift to a position of growth, which requires more government spending.
Critics of austerity argue that the markets would be fine with — and perhaps even prefer — a few more years with relatively high deficits if it means job creation and higher economic output.
Here’s how the 3 major indices finished trading Monday:
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