Germany to the rescue?

Tuesday, May 21

In its Spring Economic Forecast last month, the European Commission revised downwards its previous projections. Economic growth is now set "to ease significantly over the forecast horizon" in the euro-area, with outcomes of 1.7% real GDP growth in 2008 and 1.5% in 2009. This is a half a percentage point lower than the Commission's relatively optimistic December 2007 estimates.

The revisions are understandable. Nevertheless, the stress on external factors such as energy and raw materials inflation and the continuing turbulence on international financial markets may be diverting attention away from the underperformance of the euro-area compared with other regions.

The Commission rightly takes some comfort from the fact that unemployment continues to fall, that the euro-area looks like avoiding a full-blown recession this year and next. Encouragingly, external balances have not been too severely dented by increased import bills:

• The euro-area had a slight trade deficit in March of 2.3 billion euros (3.6 billion dollars) after a small surplus in February, according to first estimates.
• The figures would have been considerably worse if the external value of the euro had not appreciated against other major currencies, notably the dollar.
• Further comfort can be derived from the resilience of export order books which remain significantly above levels for the first quarter of 2008. The strong performance of German investment goods exports demonstrates the relative inelasticity of demand for Europe's high-tech engineering products.

Yet it may be that Germany's cyclical recovery and export success are masking frailties in other euro-area economies. Germany accounts for roughly one-third of all euro-area exports. Meanwhile, Spain, Greece, Portugal and France ran sizeable deficits last year.