A Bipolar Europe Unfolding As German Growth Powers Ahead: Part Two

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(Continued from Part One.)

Meanwhile, German industrial companies are boosting investment in plant and equipment to ease capacity constraints driven by overflowing order books. Capacity utilization in a number of industrial areas, from chemicals to electronic equipment and cars, has reversed from a dramatic low to peak levels within only one year. According to an FT article, last year Germany’s gross investment into plant and equipment increased by 9.4 percent to €167.4 billion ($228.5 billion) in real terms, reaching growth levels seen in 2006 and 2007 and following a drop by a fifth in the year before. Analysts expect absolute investment numbers this year could reach the record level of €201.6 billion seen in 2008 as major automotive and engineering firms roll out multi-billion dollar investment programs.

So what are you worried about, I hear you say — surely this is great news for Europe, and what’s good for Germany is good for Europe, right? Well, yes, up to a point; the problem is the two-speed Europe is set to become even more decoupled. A rising Germany lifts all boats, as can be seen by the improving fortunes in France and the Benelux countries, but the peripheral economies of the Club Med and Ireland are not going to benefit to the same extent. Worse, the economic agenda for the single currency will soon have to be set by Jean Claude Trichet and the ECB to manage the central majority rather than the peripheral minority. On the back of this sharp return to growth, unemployment in Germany is dropping from 7.7 percent last year to a projected 7.0 percent in 2011: compare that to Spain’s 20+ percent or, worse, the 42.9 percent reported in a NY Times article for the 16-24 year age group.

Coupled with and as a result of the improving financial position in Germany, the country’s public sector deficit looks set to fall below the EU’s 3 percent ceiling, one year ahead of schedule, further strengthening Germany’s financial credentials.  This improving economic position is encouraging some of Angela Merkel’s coalition partners to start rattling the pot for tax reductions. Mr Brüderle, a leading Free Democrat, said unexpectedly speedy deficit reduction meant “room for maneuver on unburdening our citizens and gave him confidence that “tax cuts will come before the end of this parliament in autumn 2013.

In part Germany has benefited from the ultra-low interest rates that have prevailed across Europe since the financial crisis, but falling unemployment, surging demand, reducing personal tax rates and high rates of investment coupled with a low interest rate environment add up to rising inflation, a cocktail the German dominated ECB is only too well aware of. In a recent statement, Jean-Claude Trichet, president of the ECB, warned that inflation pressures in the Eurozone must be watched closely. Ominously he added that he would not let Greek and Irish economic weakness delay interest rate increases if they were needed. The ECB has shown itself to be extremely hawkish on inflation, not hesitating to raise rates even on the eve of the financial meltdown in 2008. The prospects for the peripheral eurozone economies are dire if rates are raised early and significantly, and yet with the major economies growing strongly, rate rises are inevitable. Europe is looking increasingly like a bipolar situation with each side’s priorities irreconcilable with the others.

–Stuart Burns

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