No one should be surprised that the economy of the eurozone is once more going in reverse. This is an entirely predictable outcome of the misguided policies that European leaders stubbornly insist on pursuing, despite all evidence that they are exactly the wrong medicine.
The acute phase of the financial crisis in Greece, Spain, Ireland and other European countries ended months ago. But the European Union’s insistence, led by Germany, that governments reduce their deficits by cutting spending and raising taxes has continued to impede further recovery. In addition, the European Central Bank has been slow and timid in lowering interest rates and buying bonds, both of which would help. And Europe has allowed problems in its banking sector to fester — witness the emergency bailout of one of Portugal’s biggest banks.
The numbers tell the story. In the second quarter of the year, the 18-country euro area registered no growth, down from a 0.2 percent increase in output in the first three months of the year. The economies of Germany and Italy contracted 0.2 percent, while France registered no growth for the second quarter in a row. Other data released in recent days provide little reason for hope that conditions will get better soon. The inflation rate in the eurozone fell to 0.4 percent in July, down from 1.6 percent in the same month a year earlier. Industrial production fell 0.3 percent in June.
Big changes are plainly needed. As other central banks around the world have done, the European Central Bank should be buying government and other bonds to drive down interest rates and encourage banks to lend more to businesses and consumers. The bank’s president, Mario Draghi, has argued that governments must adopt more pro-growth policies. He’s right, but he cannot ignore his own responsibility. There is little to no risk that more aggressive central bank policies would cause runaway inflation, given that prices are increasing at a far slower pace than the central bank’s target of just below 2 percent.
It’s true, of course, that monetary policy alone will not be sufficient to revive the eurozone economy. Fiscal policy must also be rethought and reworked. The E.U. (encouraged, again, by Germany) has demanded that nations like France and Italy reduce their budget deficits, while at the same time undertaking “structural reforms” that, for instance, make it easier for entrepreneurs to start businesses and for companies to fire workers.
But it is politically difficult, not to mention counterproductive, for governments to do both of those things at a time when the eurozone unemployment rate (11.5 percent in June) is so high. Governments need more flexibility. If anything, they should be taking advantage of low bond yields — Germany can borrow money for 10 years at an interest rate of about 1 percent, and France can borrow at 1.4 percent — to increase spending to kick-start their economies. Once the laggards get going again, their leaders can more easily make the case to their legislatures and citizens for tough economic reforms. But far greater patience is needed, as well as a big change in attitude in Germany and among the E.U.’s senior leadership.