Crisis goes beyond eurozone

This is my latest comment from Fund Strategy.

Last week the International Monetary Fund (IMF) correctly identified the turmoil in the eurozone as a destabilising force in the global economy.

In the update to the World Economic Outlook it said that eurozone policies to rebuild confidence and stability were central to a recovery. It also noted that a stalling eurozone could hit Asia through a combination of trade and financial channels.

The IMF’s update to the Global Financial Stability Report went into more detail on the financial aspects of the eurozone crisis. It noted that cross-border bank exposures provided a channel for the spill-over of sovereign risks to banks. This in turn could lead to problems for banking systems in Europe and beyond.

Eurozone volatility is hitting investors’ risk appe­tites, which means that capital flows to emerging economies are falling. The issuance of emerging market debt and equities has also stalled since May.

Among the more general discussion on the eurozone the most interesting contribution perhaps was a paper by Christopher Smallwood for Capital Economics. He argued that, contrary to the received wisdom, the break-up of the eurozone would be a boon to economic growth. It would make it easier for the weaker eurozone economies to grow but would also help Germany to increase demand. Overall the break- up of the eurozone would, Smallwood argues, remove the region’s deflationary bias.

Capital Economics’ contribution is welcome as it recognises the existence of structural imbalances within the eurozone. As my cover story of June 21 argued, the region is split between a relatively strong core and a weak periphery. The existence of the eurozone, with all its in-built regulations, gives countries less flexibility in dealing with economic challenges.

But key commentators are missing the point that the eurozone’s problems are essentially a more extreme form of the difficulties facing the entire developed world. The lack of a strong dynamic to growth and the consequent burgeoning of fiscal deficits afflicts America, Britain and Japan, among others.

The only reason the eurozone is more immediately vulnerable is because of its rigid structure. But that does not mean other countries cannot suffer similar problems in future.

Indeed, the present round of financial difficulties started in America and only spread to Europe later. That leaves the emerging nations as the key drivers of the global economy. But although such growth helps raise living standards for billions of ­people, it cannot solve the challenges facing the world on its own.

Restructuring the advanced economies, not just the eurozone, should be a priority.