Wolfgang Munchau Has It (More or Less) Right

by Edward Hugh

Well, having just posted a lengthy study of the German economy on this blog, I started to lazily browse my way around today’s economic news headlines, and Lo & Behold, what did I find over at the FT, a contrarian voice. That of Wolfgang Munchau. In his comment column he berates the Euro Area for its lack of product market and labour market mobility – in the sense that there are large differentials in both price and wage levels, yet few seems motivated to either shop or work around in the search for a better deal. Few seem motivated to follow Germany’s earlier example of a real devaluation, with consequences which are, unfortunately, only too predictable.

Taken together, this means the intra-eurozone imbalances will not only persist, but probably increase. This will make the economic adjustment for Spain, Portugal or Greece even more difficult than it already is. Those persistent imbalances, much more than the build-up of debt, are my deep cause of concern about the long-term health of the eurozone.

But from a German perspective, this strategy boosts growth in the short term. It is, of course, a beggar-thy-neighbour strategy. The improvement in Germany’s economic growth is driven not by productivity gains but by real devaluation.

So while I expect the German economy to perform better than the eurozone average, it is important to keep some perspective and not draw false inferences from the 9 per cent annualised growth rate during the second quarter. If you look at the period since the beginning of the financial crisis, Germany’s economic performance has been dismal. If you compare levels of gross domestic product between Germany and the US since the crisis, you find the US significantly outperformed Germany during that period. That situation may still be reversed if the US were to go into a double-dip recession. But the best judgment we can make now is that of Christine Lagarde, the French finance minister, in her recent interview in the Financial Times: Germany is recovering faster this year because it contracted faster last year, when GDP fell by 5 per cent. So far, this looks like classic dead-cat bounce.

Given its export-dependence, the performance of the German economy will ultimately depend on the global economy. As the US is heading for another downturn, it is hard to see how Germany can maintain its recent rates of growth. To do so would require a sudden increase in domestic demand. But I cannot see where that would come from.