The recovery of the Eurozone in the endemic era

The recovery of the Eurozone in the endemic era

Last week’s Global Macro Views began a series on the global recovery from COVID. US GDP is almost back to its pre-pandemic trend, an outlier compared to the rest of the G10 and relative to history, with a much faster rebound than after the global financial crisis.

“We also flagged a weaker recovery in the Euro zone, where the picture for consumption and investment looks less compelling,” say analysts from the IIF.

Nowhere in the Euro zone has private consumption recovered as much as in the US. Consumption levels remain especially depressed in Italy and Spain.

Investment looks better than aggregate data suggest, because swings in Irish investment carry such a disproportionate weight. Excluding Ireland, Euro zone gross fixed capital formation is back to end-2019 levels, although it is worth noting that those levels were depressed in international comparison and relative to history.

There are tentative signs of rebounding investment in Italy and Greece, though – again – this is happening from very low levels.

Key feature

A key feature of the recovery from the global financial crisis is that the Euro zone fell behind the US, with trend growth halving after 2008.

There are signs that history may be repeating itself. US GDP is within one percentage point of its pre-COVID trend, which is for annual growth of 2.2 percent based on data from 2010 to 2019.

The Euro zone is still 2.5 percent below its pre-pandemic trend, even though that is weaker at only 1.2 percent (Exhibit 1).

“Part of the weaker Euro zone recovery may simply be due to tough COVID restrictions around the turn of the year, but a closer look at the data give reason for pause.

“Last week, we flagged an investment slump in the Euro zone, with gross fixed capital formation well below 2019 levels. That picture was skewed by volatile Irish data, without which investment is back to pre-COVID levels. But those levels are depressed in international comparison and relative to Euro zone history (Exhibit 2).”

U.S. outperformer

“We examine real private consumption and gross fixed capital formation across Euro zone countries. Both variables are indexed at 100 in Q4 2019, to highlight their evolution in the run-up to and after COVID. The US, France and Spain have data through end-2021.

“All other countries have data through the third quarter. The US is a clear outperformer on consumption (Exhibit 3), with no Euro zone country coming close even remotely. Italy and Spain look especially depressed (Exhibit 4).”

The investment picture for the Euro zone looks better, with the US much less of an outlier relative to the currency union (Exhibit 5).

Indeed, there are signs of a genuine investment pick-up in Greece and Italy (Exhibit 6), though it is critical to remember that this recovery comes from depressed levels, both in international comparison and relative to history.

As a result, NGEU comes at an important time and will play an important role in preventing the kind of prolonged activity slump that played out in the decade after the global financial crisis.