Eurozone Economic Recovery & Pressure on the ECB

The flash estimate of second quarter GDP, published by Eurostat, showed that the Eurozone economy was flat in the second quarter after growing by a mere 0.2% in the first quarter. While many of the peripheral countries recorded faster growth there was weakness was in the core of Europe, Germany and France. The French economy stagnated for a second consecutive quarter while the most disappointing news was the German economy contracting by -0.2%, combined with a big drop in the Zew Indicator of Economic Sentiment for August. The survey noted that “The decline in economic sentiment is likely connected to the ongoing geopolitical tensions that have affected the German economy by now.”

Everyone and their grandmother is now calling for the European Central Bank (ECB) to do more, namely follow the other major central banks down the QE path of bond purchases. However, while financial markets have clearly benefited, the effectiveness of these massive bond purchase programs in the US, UK and Japan on bringing about a sustainable recovery in the real economy is still up for debate. Also, the long term side effects may have yet to show themselves. Central banks have become the dominant player in bond markets, raising liquidity concerns. Then there are the risks associated with fiscal dominance which is when “the central bank finances government deficits through the printing press”, as put bluntly by Bundesbank President Jens Weidmann in a 2013 speech.

Either way, the ECB are unlikely to make any new move in the near term as their targeted long term refinancing operations (TLTRO’s), announced in June, only come into effect in September. The first step on the QE path will be via an ABS bond purchase program which is still in the early design stage. Fixing the banking channel in Europe is more of a pressing concern than simply playing to the market’s tune for buying government bonds. Ultimately though, the ECB’s efforts are all pointless without real structural reform at a country level.