Beneath the headline-grabbing numbers showing on Thursday
that the euro zone has fallen into recession, there lies a more
positive and probably more important story: the growth
trajectories of the currency blocs four largest economies
have moved considerably closer together.
The convergence of Italy and Spain, the two economic
weaklings of the quartet, with the strongman Germany, and
France, which had recently been caught somewhere in the middle,
eases the risks posed by the biggest design flaw of the euro
zone. This is the fact that, because of the absence of a true
fiscal union, it is only as strong as the weakest of its most
powerful constituent parts.
The bad news of the day was that the euro zone has entered
its second recession since 2009, after gross domestic product
(GDP) declined by 0.1 percent from July to September, on a
quarter-over-quarter basis. This marked the second straight
quarter of falling output the most common definition of
a recession. As a result, the euro zone economy is now 0.6
percent smaller than it was a year ago.
However, this mild third-quarter decline
was both less steep than forecast and even less pronounced than
in the second quarter, when GDP fell by a fairly gentle 0.2
There was, moreover, a rather benign devil in the details.
Output in Italy, until Thursday the weakest economy among the
euro zones four leading nations, shrank by only 0.2
percent in the third quarter a considerable easing from
0.7 percent for April to June, and a nadir of 0.8 percent in
the first quarter. Spains decline in output also eased
slightly, to 0.3 percent. In both countries the speed of the
fall has slowed to its gentlest pace in a year. France
confounded skeptics who cavil at its inclusion in the
core of inherently healthy euro zone economies, by
growing for the first time since the fall of 2011. Its
better-than-expected performance was thanks partly to strong
By contrast, some other economies which are more
consistently placed by analysts in the core performed worse
than before. Growth in Germany eased by 0.1 percentage points
to 0.2 percent, with Austria and the Netherlands tipping from
growth into decline.
The euro zone sovereign debt crisis, which has continually
dominated international financial markets for more than a year,
would, naturally, be much nearer its end if the euro zone was
experiencing overall output growth rather than decline.
However, Thursdays figures suggest that the nature of the
decline is far less poisonous than in the second quarter, when
both Italy and Spain were shrinking faster than now.
Since the euro zone crisis began, the currency union as a
whole has managed to find the resources to bail out the bond
markets of economic minnows such as Greece which
account for only a small fraction of the blocs overall
output. However, institutional investors greatest fear
has been that a national bond market not big enough to swallow,
such as Italys or Spains, would sink into
potentially terminal decline because of a spiraling economy.
Thursdays numbers indicate that this is less likely.
A detailed breakdown of the Italian figures is not due until
December. However, Axel Lang, European economist at Credit
Suisse in London, credited their sharp improvement to
stabilization in financial market conditions
following action by the European Central Bank (ECB) to support
troubled euro zone peripheral states, and to a marginal
easing in fiscal tightening by the Italian government. He
predicted that the Italian economy would stop contracting
altogether in 2013.
A flurry of measures taken this year by ECB president Mario
Draghi to ease the euro zone debt crisis, including attempts to
strengthen the euro zone framework for collective aid, have
pushed the yields on Italian 10-year bonds down from above 7 to
under 5 percent puncturing a sense of panic among
Italians about their countrys future, which had stifled
investment by businesses and spending by households. Responding
to Thursdays figures, the yield on Italian 10-years fell
by another 5 basis points to 4.91 percent,
Many analysts think the distribution of output within the
euro zone matters as much as overall total output, given the
unbalanced nature of the euro zones economic union.
Institutional investors in German, French or Finnish bonds, to
take three euro zone examples, would be relaxed about abysmally
low Italian output if these markets were not incorporated
within the currency union, since a slump-induced default by
Italy would in such a case have no effect on the currency in
which German, French or Finnish bonds were priced. On the other
hand, the same investors would also be relatively calm about
poor Italian output if there were a full fiscal union with
smoothly oiled working parts, which transferred revenue from
each country according to its ability to each country according
to its need. This because in such a system, each countrys
output the origin of its tax revenue would be
less relevant to its fiscal position than overall output in the
euro zone as a whole.
The euro zone is, however, stuck with a currency union and
without a fiscal union. This leaves it exposed to economic
catastrophe in a single member state, but with only limited
ability to solve it. Draghi has made valiant efforts to
compensate for the absence of fiscal union by creating a more
effective financial fire department for member states, but
institutional investors have no real idea about several of the
nascent systems characteristics. These include how long
it would take before a fire truck was dispatched to put out the
conflagration in a member state, whether the truck would be
sent back to its station because a member state failed to make
enough effort on its own to extinguish the fire, or how much
water would be in the hose.
In the absence of these guarantees, Thursdays figures
provide a reassuring sense that some of the heat has been taken
out of the Italian and Spanish recessions.