Growth figures across many countries still remain vulnerable, including the UK, where growth lies at only 0.5%. Despite some countries starting to grow more rapidly, the numbers still remain close to 0. The eurozone area is a particularly interesting case, as there are so many individual countries that are all interdependent. So, despite growth in the eurozone area increasing to 0.8% in the first three months of 2011, which is higher than that for the UK, this doesn’t explain the full story in the area. Germany has grown by 1.5% and it is this figure which has largely contributed to the 0.8% figure. It was also helped by growth of 1% in France and incredibly of 0.8% in Greece, despite its huge debts. The growth in Greece is allegedly down to a better export market.
Why then wasn’t the figure higher? Whilst countries like Germany showed an acceleration in demand, growth remained sluggish in Spain and Italy at only 0.1% and 0.3% respectively and Portugal faced the second consecutive quarter of negative growth and so has officially gone back into recession. This situation may get even worse as the austerity measures put in place by the EU and IMF take effect. One of the key arguments against joining the eurozone is that the policies implemented are never going to be in the best interests of any one country. With some countries beginning to grow more quickly and others remaining sluggish, what should happen to macroeconomic policy? Should interest rates remain low in a bid to boost aggregate demand or should they rise as other countries see accelerating growth?
An interesting question here is why do countries, such as Italy, Spain and Portugal struggle, whilst France and Germany begin their recovery? One obvious explanation is that Germany and France are at the heart of the eurozone, where as Spain, Portugal and Italy remain on the periphery. Ken Wattret at BNP Paribas said:
“The periphery are getting the worst of both worlds. The core countries like Germany are doing really well and that’s keeping the euro strong, and it’s making the ECB [European Central Bank] more inclined to tighten policy.”
If the ECB do go ahead with a tightening of monetary policy, it could spell further trouble for those countries on the periphery of the Euro area that would benefit from interest rates remaining low and a weaker Euro. The following articles look at the conflicts within the 2-speed Eurozone.
Articles
Sterling lags euro on growth outlook; trails dollar Reuters (13/5/11)
Eurozone’s growth surprises as UK lags behind Telegraph, Emma Rowley (13/5/11)
Eurozone’s economic growth accelerates BBC News (13/5/11)
Solid finances help drive German economic revival Financial Times, Ralph Atkins (13/5/11)
UK’s economy in the slow lane as eurozone surges Scotsman, Scott Reid (14/5/11)
Euro growth eclipses rivals despite north-south divergences AFP, Roddy Thomson (13/5/11)
Eurozone economic growth data prompts political clash BBC News (13/5/11)
Fresh fears for UK economy as Germany and France power ahead Guardian, Larry Elliott (13/5/11)
Portugal’s GDP is set to shrink this year and next Wall Street Journal, Alex Macdonald and Patricia Kowsmann (14/5/11)
Data
UK GDP Growth National Statistics
Eurozone growth rates ECB
EU countries’ Growth rates of GDP in volume Eurostat News Release (13/5/11)
Real GDP growth rate for EU countries and applicant countries, EEA countries and USA and Japan Eurostat
Questions
- What has contributed to the German, French and Greek economies surging ahead?
- Why is there such a north-south divergence in growth within the eurozone?
- What is the most suitable monetary policy for those countries growing more strongly?
- What is the best direction for interest rates and hence the value of the euro for countries, such as Spain, Italy and Portugal?
- ’The UK economy would be in a worse position if it were a member of the eurozone’. What are the arguments (a) for and (b) against this statement?
- What is the relationship between interest rates, the exchange rate and growth?
The Greek economy is suffering. In April 2010, a €45 billion bailout package was agreed between Greece and the IMF and the EU. This was increased to €110 billion in May 2011. (The bailout loans expire in 2013.) In return for the loans, Greece agreed to tough austerity measures, involving tax increases, clamping down on tax evasion and government expenditure cuts. These measures have succeeded in cutting the deficit by 5 percentage points, but it still stood at 10.5% of GDP in 2010. Public-sector debt rose from 127% of GDP in 2009 to 143% in 2010. The market cost of borrowing on two-year government bonds currently stands at 23% per annum – a sign of a serious lack of confidence by investors in Greece’s ability to repay the loans.
The austerity measures have brought great hardship. Unemployment has soared. In February 2011, it reached 15.9%; in February last year it was 12.1%. According to the IMF’s World Economic Outlook (Table A2), Greek real GDP fell by 2.0% in 2009, by 4.5% in 2010 and is forecast to fall by 3.0% in 2011. But with GDP falling, this brings automatic fiscal stabilisers into play: lower incomes mean lower income tax revenues; lower expenditure means lower VAT revenue; higher unemployment means that more people claim unemployment-related benefits. This all makes it harder to meet the deficit reduction targets through discretionary tax rises and government expenditure cuts and makes it even more important to cut down on tax evasion. But, of course, the more taxes rise and the more government expenditure is cut, the more this suppresses aggregate demand. The austerity measures have thus worsened the recession.
On May 9, the ratings agency Standard & Poor’s downgraded Greece’s rating to B (15 points below the top rating of AAA and 6 points into ‘junk’ territory). It now has the lowest rating in Europe along with Belarus.
Worries have been growing that Greece might be forced to default on some its debt, or choose to do so. This would probably mean an extension of repayment periods. In other words, bondholders would be paid back in full but at a later date. This has been referred to as ‘debt re-profiling’. This could cause a renewed loss of confidence, not only in the Greek economy, but also in banks that are major lenders to Greece and which would be exposed in the case of default or restructuring.
The IMF and the ECB have been quick to stress that Greece can continue to manage its debt and that, if necessary, another loan might be negotiated. Anticipations are that Greece could indeed ask for a further bailout. But is this the answer? Or would it be better if Greece sought a restructuring of its debt? The following webcasts and podcasts consider the issue.
Webcasts and podcasts
Greece may need second financial bail-out BBC News, Stephanie Flanders (11/5/11)
Greece needs revised bail-out Financial Times Global Economy Webcasts, Luke Templeman and Vincent Boland (9/5/11)
Why Greece must stick to the plan Financial Times Global Economy Webcasts, Ralph Atkins, Frankfurt Bureau Chief, talks to Jurgen Stark (11/5/11)
Will Greece need more money? BBC News, Matina Stevis (9/5/11)
Economists debate Greek crisis BBC News, Thomas Mayer and David McWilliam (9/5/11)
Greece at ‘a very difficult stage’ BBC Today Programme, Stephanie Flanders and Vassilis Xenakis (11/5/11)
The Business podcast: PPI scandal and Greece’s debt crisis Guardian Podcast, Aditya Chakrabortty (11/5/11) (listen to last part of podcast, from 19:20)
Greece: Eurozone ministers discuss terms of second bailout BBC News, Nigel Cassidy (16/5/11)
Greece dominates eurozone talks in Brussels BBC News, Matthew Price (17/5/11)
Articles
S&P moves to cut Greek credit rating Financial Times, Richard Milne, Tracy Alloway and Ralph Atkins (9/5/11)
One Year After the Bailout, Greece is Still Hurting Time Magazine, Joanna Kakissis (12/5/11)
What price a Greek haircut? BBC News blogs: Peston’s Picks, Robert Peston (10/5/11)
What is debt ‘reprofiling’? BBC News, Laurence Knight (17/5/11)
Reprofiling: Greece’s restructuring-lite Channel 4 News, Faisal Islam (17/5/11)
Questions
- What are the arguments for and against tough austerity measures for Greece and other eurozone countries with high deficits, such as Portugal and Ireland?
- Should Greece seek a restructuring of its debts?
- What is a ‘haircut’ and is this a suitable form of restructuring?
- What are the arguments for and against a default, or partical default, by the Greek government on its debt?
- Is it in the intesests of European banks to offer a further bailout to Greece?
- What should be the role of the IMF in the current situation in Greece?
Anyone investing in commodities over the past few weeks will have been in for a bumpy ride. During the first part of 2011, commodity prices have soared (see A perfect storm brewing?). This has fuelled inflation and has caused the Bank of England to revise upwards its forecast for inflation (see Busy doing nothing see also Prospects for Inflation).
But then in the first week of May, commodity prices plumetted. On the 5 May, oil prices fell by 7.9% – their largest daily amount since January 2009. Between 28 April and 6 May silver prices fell from $48.35 per ounce to just over $33.60 per ounce – a fall of over 30%. And it was the same with many other commodities – metals, minerals, agricultural raw materials and foodstuffs.
Many financial institutions, companies and individuals speculate in commodities, hoping to make money buy buying at a low price and selling at a high price. When successful, speculators can make large percentage gains in a short period of time. But they can also lose by getting their predictions wrong. In uncertain times, speculation can be destabilising, exaggerating price rises and falls as speculators ‘jump on the bandwagon’, seeing price changes as signifying a trend. In more stable times, speculation can even out price changes as speculators buy when prices are temporarily low and sell when they are temporarily high.
Times are uncertain at present. Confidence fluctuates over the strength of the world recovery. On days of good economic news, demand for commodities rises as people believe that a growing world economy will drive up the demand for commodities and hence their prices. On days of bad economic news, the price of commodities can fall. The point is that when undertainty is great, commodity prices can fluctuates wildly.
Articles
Commodities plunge: Blip or turning point? BBC News, Laurence Knight (6/5/11)
Commodity hedge fund loses $400m in oil slide Financial Times, Sam Jones (8/5/11)
Commodities: ‘epic rout’ or the new normal? BBC News blogs: Stephanomics, Stephanie Flanders (6/5/11)
Commodities Still a Bubble – But Prices May Continue to Rise Seeking Alpha, ChartProphet (9/5/11)
When a sell-off is good news The Economist, Buttonwood (6/5/11)
Gilt-edged argument The Economist, Buttonwood (28/4/11)
Commodities: What volatility means for your portfolio Reuters blogs: Prism Money (9/5/11)
Gold, silver rise again on debt, inflation concerns Reuters, Frank Tang (10/5/11)
Commodities After The Crash, No Way But Up The Market Oracle, Andrew McKillop (9/5/11)
Outlook 2011:Three Dominant Factors Will Impact Precious Metals in 2011 GoldSeek (9/5/11)
Energy bills set to rise sharply next winter, Centrica warn Guardian, Graeme Wearden (9/5/11)
Dollar triggered commodities ‘flash crash’, not Bin Laden The Telegraph, Garry White, and Rowena Mason (9/5/11)
The outlook for commodity prices Live Mint@The Wall Steet Journal, Manas Chakravarty (11/5/11)
Three ways to play the next commodities bubble Market Watch, Keith Fitz-Gerald (11/5/11)
Data
Commodity Prices Index Mundi
Commodities Financial Times
Commodities BBC Market Data
Questions
- Why did commodity prices fall so dramatically in early May, only to rise again rapidly afterwards?
- Why do commodity prices fluctuate more than house prices?
- What is the relevance of price elasticity of demand and supply in explaining the volatility of commodity prices?
- Under what circumstances is speculation likely to be (a) stabilising; (b) destabilising?
- To what extent are rising commodity prices (a) the cause of and (b) the effect of world inflation?
- If commodity prices go on rising every year, will inflation go on rising? Explain.
The latest mortgage approval numbers from the Bank of England are another demonstration of the fragility of the UK housing market. March 2011 saw 47,577 mortgages approved for house purchase. This is roughly in line with levels seen since the turn of the year and, more generally, over the past year. In other words, activity in the housing market might be described as ‘flat-lining’.
Over the past year, the number of monthly mortgage approvals for house purchase has averaged 47,355. This number is almost half the 10-year monthly average of 89,258. There is little momentum in either direction in the number of mortgage approvals. Given the negative influences on both the supply of credit and on households’ demand for credit, it would be a major surprise if the monthly average for mortgage approvals was to rise much above the ‘50k-mark’ any time soon.
But, why the subdued mortgage data? Well, on the supply-side, mortgage lenders are maintaining tight lending criteria. On the demand side, households remain understandably cautious. Unless circumstances dictate a need to move, households are unlikely to be rushing in any great numbers to their local estate agent.
In conclusion, it appears that the current weak activity levels have become the new norm for the UK housing market post-credit crunch. Furthermore, the current flat-lining is likely to persist.
Articles
Mortgage approvals highest in five months Financial Times, Norma Cohen (4/5/11)
UK March mortgage approvals slightly lower than forecast Reuters (4/5/11)
Mortgage lending plummets by 60% Belfast Telegraph (5/5/11)
UK mortgage approvals little changed in March, BOE says Bloomberg, Jennifer Ryan (4/5/11)
Rise in mortgage approvals does not indicate recovery, say economists Guardian, Jill Insley (27/4/11) )
Mortgage lending from UK banks still subdued BBC News (27/4/11)
Data
Mortgage approval numbers and other lending data are available from the Bank of England’s statistics publication, Monetary and Financial Statistics (Bankstats) (See Table A5.4.)
Questions
- Why do you think housing market activity might be ‘flat-lining’?
- Compile a list those variables that you think affect the demand for mortgages. Which of these do you think are particularly important at the moment?
- Compile a list of those variables that you think affect the supply of mortgages by lenders. Which of these do you think are particularly important at the moment?
- If you were advising an estate agent about future activity levels in the housing market, what would you be telling them?
- What do recent mortgage approvals numbers imply for the strength of housing demand?
Despite better economic growth in the first quarter of 2011, confidence remains low and according to Halifax, this has contributed to a decline in house prices from March to April by 1.4% to give their lowest average price since July 2009. Halifax has blamed this steady decline on a lack of confidence and the uncertain economic climate. However, despite this latest decline, Halifax have suggested that the trend may be coming to an end. Martin Ellis, from Halifax had this to say:
“Signs of a modest tightening in housing market conditions, a relatively low burden of servicing mortgage debt and an increase in the number of people in employment are all likely to be providing support for house prices, curbing the pace of decline. There are signs that house sales are stabilising, albeit at a level lower than the historical average.”
There are many factors that contribute towards house prices: the number of properties on the market, the number of buyers, the availability of mortgages and finance, interest rates and the future economic climate. How these factors change will have a crucial influence on the future house price trend. The following articles consider the causes and likely consequences of this latest housing market data.
House prices fall at fastest rate in 18 months Telegraph (9/5/11)
House prices ‘fell by 1.4% in April’ the Halifax says BBC News (9/5/11)
House prices post biggest fall in 1-1 ½ years Reuters, Fiona Shaikh (9/5/11)
House prices dive to a two-year low Independent, Nicky Burridge (9/5/11)
UK housing market remains weak Wall Street Journal, Jason Douglas (9/5/11)
U.K April house prices fall most in seven months, Halifax says Bloomberg, Svenja O’Donnell (9/5/11)
Questions
- What are the main causes behind this decline in house prices?
- The articles talk about the volatility of house prices over recent months. What is the explanation for this?
- If interest rates are increased by the MPC, is it more or less likely to cause house prices to decline further? Explain your answer.
- Why dies Martin Ellis, of Halifax, believe that the decline in house prices might reverse this year?
- How does the housing market affect the wider UK economy? Is these latest data likely to jeopardise the fragile recovery?