Money Moves Markets

Current Eurozone triple-dip recession worries are reminiscent of a similar scare in the UK in early 2013*. Monetary trends and other evidence suggest that they are equally groundless.

Both scares were triggered partly by weak but distorted economic data. UK GDP fell by 0.3% in the fourth quarter of 2012 but this followed a large third-quarter boost from the Olympics. Current Eurozone worries were fanned by a shock 4.0% drop in German industrial output in August but the number was distorted by holiday timing effects; production returned to its May / June level in September.

The IMF slashed its UK growth forecast in April 2013 while stating that the government was “playing with fire” by continuing to pursue fiscal consolidation. It now claims that there is a 40% chance of a Eurozone recession by mid-2015. The IMF’s forecasting record is poor and it is often an excellent contrarian indicator.

UK business surveys and labour market indicators were stable in late 2012 / early 2013, signalling that companies did not expect an economic downturn and were not beginning to retrench. The EU Commission’s Eurozone “economic sentiment indicator” – a composite survey measure – rose in October and is slightly above its long-run average. Eurozone unemployment is stable and lower than a year ago. German job openings reached a record last month.

UK fiscal consolidation was slowing in 2013. According to the Office for Budget Responsibility, cyclically-adjusted net borrowing fell by 3.0% of GDP between 2009-10 and 2011-12 but by only 0.9% of GDP between 2011-12 and 2013-14. According to the IMF, the Eurozone structural budget deficit – a similar concept – was cut by 2.5% of GDP between 2011 and 2013 but will decline by only 0.3% of GDP between 2013 and 2015.

Most importantly, the UK recession scare was completely at odds with monetary trends: six-month growth of real narrow money M1 rose strongly during 2012 and was running at about 4% (not annualised) by early 2013. The build-up of cash in current accounts signalled that spending intentions were firming. Recent ECB easing has contributed to an increase in Eurozone six-month real M1 growth, to 3.2% in September – see previous post. By contrast, real M1 contracted before the 2008-09 and 2011-12 Eurozone recessions.

UK GDP growth rose to 2.4% annualised during the first half of 2013 and 3.1% over the subsequent five quarters. A similar Eurozone pick-up is not in prospect: monetary trends are less strong than in the UK in early 2013, while potential economic expansion is lower. GDP growth, nevertheless, could recover from 0.5% annualised during the second and third quarters of 2014 to 1-2% in 2015, assuming no monetary relapse or external shocks. A further upgrade may be warranted if real money expansion continues to firm.

*The UK was thought to have suffered a minor double-dip recession in late 2011 / early 2012, based on official data at the time. This was disputed in posts here and the GDP decline has since been revised away.