Data for European economic growth, available later today, may just show the euro area has finally come out of 6 straight quarters of a recession. A Bloomberg survey of the median of 41 forecasts says the 17-nation region expanded 0.2% in the June quarter, largely due to Germany growing at 0.75% versus the 0.6% projected earlier. If the data does show this—the European Commission has been of the view that growth would stabilise slowly in the first half of the year—is it time to bring out the champagne?
Probably not, as Princeton University professor Paul Krugman points out, citing extensively from a study by Kevin O’Rourke and Alan Taylor in the latest Journal of Economic Perspectives. For one, the data put out by the duo show that, apart from Greece, there is virtually no wage adjustment in crisis countries like Ireland, Portugal and Spain—in the last two, wages have gone up relative to 2008. In other words, it’s difficult to see how an adjustment can take place since, with a common euro in place, internal devaluation can really take place only through wage adjustments. There is the related problem of the European Central Bank not comfortable with higher inflation, critical for internal devaluation. Last, while loans to crisis countries do play the role, after a fashion, of fiscal transfers from richer areas to poorer ones, the larger problem is of making this more permanent, and finding ways to deal with the huge debt overhang that will ensure a lost decade for large swathes of Europe. At some point, perhaps when Germany is finally convinced the PIIGS aren’t quite feeding at the trough, Europe will have to move faster on common banking supervision and even a full-fledged banking union. Without that, the lost decade could get longer.