Prelude to new tensions?

The European Commission’s economic Autumn Forecast could give rise to new political tensions. Under the surface of a gradual but rather anemic recovery, hide several test cases to prove that the Eurozone’s new rules really bite. Yesterday, the European Commission published its so-called Autumn forecasts. These forecasts are broadly in line with our own predictions of a gradual but rather anemic recovery of the Eurozone in the coming two years. According to the Commission, economic growth should return in all Eurozone countries next year, except for Cyprus and Slovenia. However, the fact that even in 2015, the Commission still forecasts an output gap of 1.4% of potential GDP for the entire Eurozone, illustrates that the afterpains of the crisis will stay for a long while. A day ahead of the next ECB meeting, the European Commission also presented the first 2015 inflation forecasts of any international institution. The expected 1.4% should in our view not be enough to make the ECB afraid of deflation. At least not already this week. The most important elements of European Commission forecasts are probably not the growth and inflation figures but the forecasts for public finances and current account balances. Let’s not forget that the Commission forecasts form an essential basis for the tightened fiscal and macro-economic surveillance procedures in the Eurozone. In this regard, it was noteworthy that for the Eurozone as a whole the fiscal deficit forecast worsened for this year but was revised upwards for next year. Looking at the individual countries shows that the discussion about growth vs austerity is far from being over. France, for example, which has promised to get its fiscal deficit below the 3% GDP threshold in 2015, is now forecast to miss this target, with the Commission expecting a deficit of 3.7%. Moreover, Spain, which over the last years has been granted already two postponements to bring the deficit below 3% GDP, is now projected to reach a deficit of 5.9% in 2014 and 6.6% in 2015. An additional problem for both Spain and France is that the structural fiscal deficit (the so-called cyclically-adjusted deficit) is forecast to worsen instead of improving in 2014. Playing it according to the rules would now mean for the European Commission that it would have to demand additional austerity measures. Against the background of the recent IMF and US criticism of German current account surpluses, the European Commission forecasts received additional attention. According to the Commission, Germany’s current account surplus should diminish only somewhat, dropping from 7% of GDP in 2013 to 6.4% of GDP in 2014 and 2015. Interestingly, German import growth next year is forecast to be the strongest of all Eurozone countries. Next to Germany, there is another country recording high current account surpluses: the Netherlands, with an expected surplus of 11% in 2015. According to the so-called macro-economic imbalance procedure, a current account surplus of more than 6% of GDP for a period of three years is one of the criteria to eventually start an official procedure. All in all, yesterday’s European Commission forecasts reflect the sad truth about the Eurozone recovery. It is a very slow, fragile and anemic recovery. The still high fiscal deficits in many peripheral countries, plus France, and the high current account surpluses in several core countries offer many test cases for the European Commission to prove that the new fiscal and macro-economic surveillance rules and frameworks really bite.