Eurozone crisis rooted in low growth

This is my latest comment from Fund Strategy.

The eurozone crisis is generally seen as the result of an imbalance between its dynamic core, notably Germany, and the sluggish economies of southern Europe. That is a misleading way of understanding it.

According to the current orthodoxy, the German economy is powering ahead while Greece, Ireland, Portugal and Spain are laggards. From this perspective, last week’s rate rise by the European Central Bank made sense as it was necessary to slow the region’s largest economy. The smaller countries will have to suffer for their previous laxness.

There are several reasons to question this version of events. For a start, many analysts over-estimate Germany’s economic dynamism.

Although it has enjoyed strong recent performance in economic growth and exports, its longer-term record is unimpressive. Germany has a strong export sector but its domestic economy has performed poorly in the two decades since reunification.

A related problem is that in effect Germany has subsidised purchases of goods by the weaker countries. Low interest rates made it cheaper for peripheral nations to buy German exports, while the existence of the eurozone helped them to tap the capital markets.

In effect, there was a vendor financing relationship between the core of the eurozone and much of its periphery (Ireland was different from the others).

Although there is clearly an imbalance within the economic bloc it should not be seen as the fundamental cause of the crisis. At the root of the problem were the difficulties that the whole region was suffering, to a greater or lesser extent, in generating new rounds of growth.

The eurozone provided a complicating factor in the overall pattern. It created a framework which, through the extension of credit, allowed growth to continue for longer than otherwise possible. But it also meant that when problems eventually came to a head they were harder to resolve.

At the root of the crisis is the region’s weakness in achieving dynamic growth.