Hamish McRae: Euro crisis: three (major)
new developments to worry about

Our Chief Economics Commentator argues that the sunlit uplands of robust growth are as far away as ever


On it grinds. The seemingly endless rounds of emergency meetings, confident assertions by politicians, dire predictions by economists, calls for support by bank chiefs – the histrionics of the euro crisis – have been in full cry over the past few days. Indeed, there has been so much drama that it is hard to distinguish what is really new and different and what is a rehash of what was known already. But there do seem to be at least three significant new elements.

The first is that there has been a sharp loss of confidence in southern European banks, with a flood of money being taken out of Spanish banks in particular. The weak response of the Spanish government to this crisis, first by downplaying it and now seeking European funds for the banks, has made matters worse.

As a result, the European Central Bank will probably have to pump more liquidity into the banking system. It may announce that this week, together perhaps with a cut in eurozone interest rates. That will not, however, do more than buy a little time, because the problem of many European banks is not liquidity but solvency. They need more capital.

That leads to the second new element. There will be some kind of central financing to support European banks, many of which need more capital. This will have to go along with centralised supervision, because you can't commit the taxpayers of one country to bail out the banks of another without some sort of control over what those banks do with the cash. Quite how this will be done is very hazy and the funds available may be inadequate, but views on this have moved in the past few days.

And third, the whole idea that European countries, or rather eurozone countries, will have to follow strict fiscal rules has also moved forward. Now, many people feel that a Europe where Germans tell Italians or Spaniards how much they can spend, and the Italians and Spaniards actually agree, is out of the question. But at least the issue has become clearer than it was even a couple of weeks ago. Suddenly and belatedly, European political leaders are coming to appreciate the scale of the task ahead.

And that is about it. There are other small things happening: there will be some sort of "growth agenda" agreed at the next EU summit, but this will be tiny. There will be a deal of hand-wringing at the forthcoming G20 meeting. If the world economy seems about to take another lurch downwards – and while the data coming through in the past few days has not been all bad, there is a clear danger of that – then the G20 leaders may go beyond hand-wringing and produce more substantial measures to try to boost growth. But there is a huge problem, reflected in the recent falls in share prices just about everywhere and the fall in the bond yields in those countries perceived to be "safe havens", including, somewhat surprisingly, the UK.

The problem is that several things have come together to undermine the confidence of the business community worldwide. Of course, there is the future of the eurozone, but that is only one issue. Another is US fiscal policy, for under present legislation a set of tax cuts in the US will be reversed, leading to a sharp tightening of fiscal policy. Still another is the evident slowdown in China. The only silver lining to these clouds has been the prospect of lower energy prices, with the oil price already falling back to below $100 a barrel and the general perception in the market being that some further decline is likely. That will help consumers everywhere, including, of course, in the UK.

But the sunlit uplands of faster growth that seemed to be in sight a few months ago have disappeared again. The world economy, as a whole, is still growing. But Europe is not, and the business community at least recognises that part of the blame for that lies in the rigidities created by the single currency.

UK takes a working holiday

It may have been a great party, but we have to get back to work some time. But did we ever stop working?

Conventional economics assumes that output falls on a bank holiday. The Queen's coronation was delayed by more than a year because Winston Churchill felt that the country could not afford the loss. But is that still the case?

If you shut a factory because of an extra holiday, you lose the output of that day. In 1952, manufacturing was some 30 per cent of output, so the loss would indeed have been notable. But now manufacturing is a much smaller proportion of output, and much of the service industries are 24-hour-a-day, seven-days-a-week operations. Shops did not shut, fuel stations stayed open, airports probably saw more passengers, not fewer.

Further, many factories run seven-day-a-week operations, too. Add to this the fact that the Jubilee created some jobs that were not there before, and it is plausible that there was no loss of output at all.


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