How the Ukrainian war plays out will influence the economies of the EU member states, which are already under pressure by the threat of a Greek exit from the euro and the uncertainty surrounding the new monetary policy of the ECB. A worst-case scenario is a “triple-dip” recession even worse than 2012 or 2008.
Ukrainian lawmakers applaud after ratifying an agreement to deepen economic and political ties with the European Union in Kiev on September 16, 2014. Photo: AP
Only a month and a half old, 2015 is shaping up to be a rough year for the European Union (EU) economically. Nowhere is this more apparent than in the Eurozone, the grouping of nineteen (as of January 1st) countries using the European common currency. Facing low growth, too high spending, and little prospect for change, the Eurozone is being increasingly buffeted by both political strife from Greece and from the European Central Bank’s (ECB) own destructive policies. The fate of the European economy this year hinges on how these two factors play out, but the reality is that the continent seems to be heading for another annus horribilis.
The election of the extreme left-wing Syriza in Greece has brought the Eurozone exactly what it does not need at this moment: uncertainty. The new government in Greece, having been swept into power in late January during a snap parliamentary election, is threatening a repeat of the very conditions that led to Greece’s crisis in the first place.
Syriza, campaigning on an explicit anti-austerity platform, is now looking to put these promises into place, but vacillates daily between threats to confront Greece’s international creditors (most of all Germany) and more conciliatory tones. This continued uncertainty in Athens also means that the threat of a “Grexit,” or Greek exit of the euro, has once again reared its head.
At no point, however, has Syriza repudiated its radical leftist agenda, and thus the markets are left to hope for only a “less bad” outcome that doesn’t sink the entire Greek economy (and take Europe with it). Indeed, the people bearing the brunt of Syriza’s economic policies are the Greeks themselves, who saw massive capital flight and a collapse in the stock market in the immediate aftermath of the election.
With Syriza already cancelling plans to privatize the government’s stakes in the Piraeus Port Authority and the Public Power Corporation, and looking set to restore more bloat to Greece’s public sector, worst-case scenarios for Greece may be justified. And it is difficult to see how Greece turning into a “Mediterranean Argentina” can possibly help the economic prospects of the EU.
More under the control of European policymakers, but perhaps just as dangerous to the region’s economy, is the new monetary policy that the ECB has embarked upon. Taking a page out of the U.S. Federal Reserve’s “crisis management” playbook, the ECB has embarked upon its own version of “quantitative easing,” or, to put it more bluntly, money generation.
Starting from March and running through September 2016, the ECB plans to purchase €60 billion ($68 billion) of assets a month with newly printed money, a total of €1.1 trillion over the entire period. Ironically, while the ECB protests that it is working hard to stave off the purely theoretical deleterious effects of deflation, it is inducing its own deflation of the euro.
After all, exchange rates are prices as well, and the ECB seems to be less concerned about crashing the price of the currency. But while exchange rate movements may be more evanescent, the prospect of unleashing inflation and/or creating asset bubbles in Europe is potentially more destructive.
A further difficulty with the ECB taking up the Fed’s strategy is that there is little upside for the European economy, where the real issues are structural. One glance at the U.S. shows that the successive waves of quantitative easing (“QE”) did not actually work in creating value out of thin air: the U.S. growth rate has behaved erratically for years, labor force participation is at all-time lows, and the continued binge of taxing and spending under U.S. President Barack Obama has dampened any long-term private investment in the economy.
Indeed, the Fed’s actions did nothing more than merely re-inflate an asset bubble in the U.S., seen in the U.S. stock market, which is now also starting to correct itself. The ECB’s attempt to inject new money into the Eurozone economy faces the danger of repeating these same mistakes.
Finally, a wild card on the table for Europe’s economic health remains the sanctions against Russia amidst the continuing conflict in Ukraine. The EU voted to extend sanctions against Russia last week (but not impose any new ones) until September, a move that signals continued displeasure with Russia’s role in Eastern Ukraine but not much else other than inertia. In truth, the EU has been affected much less than Russia economically due to the conflict, and the new Ukrainian government’s reform program only operates to the benefit of Europe.
However, the potential for destabilization always remains during a war, and Europe can ill-afford to have a failed state on its borders in the current economic climate. How the Ukrainian war plays out will thus also influence the economies of the EU member states, in particular those frontier nations such as Poland and Estonia (who have been driving growth within the broader EU).
In sum, this year is starting to resemble 2012 in many ways, least of all with the increased possibility of a “Grexit” from the euro and continuing with the machinations of the ECB to artificially boost prices. The risk is real for a “triple-dip” recession, where the fragile growth seen in the Eurozone since 2013 evaporates under the burden of increased spending, growing inflationary pressures, and ever-present uncertainty. Given the events of January, and unless there is a volte face in its economic policies, Europe’s economic malaise may only be just beginning.
The opinion of the author may not necessarily reflect the position of Russia Direct or its staff.