Eurozone crisis: Fear returns

Anti-austerity protest by Greek construction workers in Athens, 4 Apr 12 The Greek bailout bought some time - but there is still anger on the streets

Just a few weeks ago the head of the IMF, Christine Lagarde, looked at Greece and declared "economic spring is in the air".

Others were equally optimistic. The French President, Nicolas Sarkozy, said "I want to tell the French people that the page of the financial crisis is turning. Today the problem is solved."

The President of the European Council, Herman Van Rompuy, was equally upbeat when he said "the turning point in the crisis has been reached". The EU's Economics Commissioner Olli Rehn chimed in with "the risk of explosion is behind us".

Such bursts of optimism now seem foolishly premature. The eurozone is once again rattling financial markets. The main reason is Spain. Its borrowing costs have shot up to close to 6% - levels not seen since January.

The EU had set Spain the target of reducing its deficit to 4.4% this year. The new government in Spain said such a reduction could not be achieved. It suggested 5.8%. After some arm-twisting from Brussels the figure of 5.3% was settled on.

But the word was out there - the Spanish government doubted the targets could be achieved this year, let alone the more ambitious target of 3% by 2013.

For the second time in three years Spain is in a recession.

The economy is expected to shrink by 1.7% this year, although others think the fall might be more severe.

Unemployment is close to 24% and rising. There are 1.6 million households without a wage earner. Against this background the government has announced savings of 27bn euros (£22bn; $35bn). It has fuelled anxiety that Spain is at risk of falling into a downward spiral.

Even at the best of times cutting spending in the teeth of a recession would be difficult enough, but Spain is still nursing a dangerous hangover from its property crash. The banks hold around 180bn euros of troubled property assets. They are desperately trying to offload property, but house prices which have fallen by nearly 25% are still going down.

And then there are the semi-autonomous regions. They are responsible for two-thirds of the problems with the budget. It is not yet clear how they will be coerced into cutting spending on health and education, although the government in Madrid has made a start.

There are some green shoots. Exports are rising. Some labour reforms are in place. But the big question that haunts the markets is whether Spain will be able to survive the year without a bailout either of the government or of the banking sector. It helps, however, that Spain has already financed half of its borrowing for this year.

Greek uncertainty

And then there are other causes of anxiety. Later today a Greek election will be announced; the most likely date is 6 May. The fear is that the winners will not be the two parties that signed up to the terms of the latest bailout deal, but an array of fringe parties who no longer believe that austerity is working.

Not only could Greece become politically unstable but there could be a majority in parliament opposed to the further spending cuts that Brussels insisted on as a condition for the second bailout.

Such is the concern that the German finance minister even suggested that Greece postpone the elections. That produced the withering response from a senior economist: "you don't control our destiny".

And even a casual observer will have detected that Greece is edging towards instability.

The tragic and public suicide of a pensioner; the bombing of two buildings in central Athens; the attack by a crowd on a policeman; the injuring of photographers by police officers in a riot; dock workers, at a key moment in the tourist season, are on strike.

The eurozone is, too, watching the French elections. The first round will be on 22 April, with the run-off on 6 May. President Sarkozy has edged in front for round one, but all the polls suggest that the Socialist candidate Francois Hollande will win in round two.

Mr Hollande wants to renegotiate the pact that enforces much greater budgetary discipline in the eurozone. The pact was championed by Germany's Angela Merkel, who sees it as the foundation stone to long-term stability.

Most importantly Francois Hollande believes that the emphasis must shift away from austerity to growth. With an Hollande victory the French and Germans could have fundamentally different views on how to solve Europe's crisis at a critical moment.

Expect the eurozone crisis to feature strongly in the Sarkozy campaign. Already his team are warning that an Hollande victory would be "a one-way ticket to Greece".

And then there is Italy. It, too, has seen its borrowing costs edge back up and its stock market fall steeply. The honeymoon period for Prime Minister Mario Monti is well and truly over. Key reforms to shake up the labour market to make it easier to hire and fire have been watered down. They are a step forward, but they do not convince. And Italy too is heading for recession.

And that brings us back to the fear that stalked Europe for so much of last year. If Spain and Italy get into trouble how will they be bailed out? The main rescue fund - the so-called firewall - has been strengthened, but it is not big enough to rescue such big economies as Italy and Spain.

That is why investors are on edge again.

Gavin Hewitt, Europe editor Article written by Gavin Hewitt Gavin Hewitt Europe editor

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  • rate this

    Comment number 1.

    "Key reforms to shake up the labour market to make it easier to hire and fire have been watered down"

    Myths and reality: Even before the current reform the OCSE "strictness of employment protection index", where 0 is maximum job flexibility, showed Italy at 1,77, the OCSE average at 2,11 and Germany at 3.0. The "watering down" is owing to a Contitution that still forbids slave trade

  • rate this

    Comment number 2.

    The crisis is far from over and the 'word' is that the Spanish situation is worse than authorities are letting on. This problem will never be resolved by continuing with the current Euro zone and brave political decisions are needed to avoid a protracted endless death spiral. The Greeks will vote for one of the big two parties but it will not have a full mandate so more paralysis on the way.

  • rate this

    Comment number 3.

    "fringe parties who no longer believe that austerity is working."

    Nobody has ever believed that austerity is working in Greece. Where has any evidence been presented? It is all spin from the powers that be. No dissent allowed in MSM.

    The only solution remains a painful and real default. This may well be coming anyway as the mostly ignored English law bonds are about to become very public.

  • rate this

    Comment number 4.

    Welcome to the real world. Whens a debt not a debt, when its a deficit. The problem is that you cant just keep on wiping out peoples debts for the lenders will no longer play ball. The markets are already moving away from sovereign debt within the EZ leaving the ECB to make up the short fall. This is OK in the short term but that time has now passed and the PONZI scheme is becoming exposed.

  • rate this

    Comment number 5.

    How inconvenient for M.Sarkozy and his election that once again the basic problem that austerity is ultimately self - defeating and growth and slash and burn of the state budgets are mutually exclusive. Quick action will be needed but will not be forthcoming by the EZ to prevent the debt circus from pitching its tent in the likes of Portugal and Ireland who have a referendum on austerity soon.

  • rate this

    Comment number 6.

    You forgot the head of the ECB, Mtr Draghi claiming "the worst is over for the Euro and Europe" barely two weeks ago. Oh and Portugal! The Euro zone political leadership at National and Brussels level have been proven wrong so many times on so many aspects of dealing with this crisis and yet are seemingly oblivious to not being believed any more. None of them have a shred of credibility left

  • rate this

    Comment number 7.

    As I pointed out in an earlier blog the only known Spanish deficit is the 8%+ of 2011 everything else including the 5.8% are forecasts or even speculation for 2012. The probable out turn will be somewhere between the official forecast and the actual for 2011 & closer to 8% if the cuts are added to or even if they are implemented. Europe has become deficit obsessed - gold standard of 21st century

  • rate this

    Comment number 8.

    No matter how long they prevaricate, the leaders of the Eurozone countries will eventually have to face up to reality - it will not work without closer political union. When this can no longer be concealed from the electorate, the proverbial is really going to hit the fan.

    It's the price politicians must pay for being out of touch with their countrymen.

  • rate this

    Comment number 9.

    7. watriler
    "Europe has become deficit obsessed - gold standard of 21st century"

    Deficit obsessions are very easily developed when your country is in constant doubt if the next bond auction will have a good outcome or not. Which only in part depends on the real solvency of the country, as it's mostly about volatile perceptions by the markets

  • rate this

    Comment number 10.

    You can't just pretend debt isn't there... it'll catch up with you eventually.

  • rate this

    Comment number 11.

    7 watriler
    You could try looking at Edward Hugh's blog Spain Economy Watch if you want a detailed insight into the issues in Spain Its erudite, compelling, often amusing (which must be a first for an economist) but in the end devastating in its conclusions both for Spain, its people and to some extent the rest of southern Europe. Too many people telling half the story but he shows what they hide.

  • rate this

    Comment number 12.

    The problem is solved when

    1 The rules are changed so countries with -ve balance of trade no longer accumulate debt
    2 There is sufficient growth for those with debt to pay it off

    There seems no plan for or prospect of 1 or 2 being satisfied. Rather, we are digging ourselves into a bigger debt hole.

    For now, we must be content with the dreams and lies of politicians and fastbuck financiers.

  • rate this

    Comment number 13.

    Fear never went away - fear is pervasive. My and Mrs W companies are open about poor prospects and efficiency actions (i.e. redundancies) so what is our rational decision - to avoid large expenditure commitments and reign back a bit on spending, just in case. Growth is stymied as a result - this is Europe today. Fear of unemployment = recession.

  • rate this

    Comment number 14.

    Who do "believe that austerity is working"?

    Some austerity is needed, obviously, and it could work. No profligacy of the Greeks, Spaniards, etc., should be tolerated, and the discipline of the Germans should prevail. But now it is pushing to the limits. There is no reason to postpone any elections. No austerity has ever been a good cause in avoiding political instability.

  • rate this

    Comment number 15.

    It is hard to see "green shoots" in todays Spanish industrial production figures.

    "The interannual variation of the Industrial Production Index for the month of February is -3.0%,......the underlying durable goods index is at 50.9 where 2005 is the base of 100. The overall index reading of 81 suddenly does not look quite so bad!"

  • rate this

    Comment number 16.

    The majority of Spaniards understand the problem in that they voted for a government which understands that the state requires trimming - looks like the regions are the hardest nut to crack. Labour market reforms (to give talent a chance) in Italy are stalling though - understand that it was tried twice before - the initiators are no longer with us. The state is the problem, not the solution.

  • rate this

    Comment number 17.

    # 10.Tommy


    Italy s DEBT is almost unchanged since 1993 between 100 to 120% of GDP.So why the markets are panicing NOW isnt clear.
    Or they have a different agenda.Maybe the GREECE situation settled too quickly.The need some turbulence ( they call it volatility )
    It s better for the profits

  • rate this

    Comment number 18.

    Of course one suspects Brussels , Paris , Berlin , must know the truth .
    The EU is hemmed in by debt , lies and a probable inabilty to take the step forward to a single federal state . Could it be done without asking the people ? I think not , the people may vote against it . A single federal state will bring a transfer economy , where Germany , Sweden , Holland , Denmark , pay for the rest .

  • rate this

    Comment number 19.

    And it´s of course Germany that is to blame for the Greek crisis like Gavin Hewitt recently said:
    "Mutterings are growing:Germany with their economic strength are said to shape Europe to their own image... Back to 1945... Growing fears in Europe..."

    All the evil can be projected on one country.

    This is not serious, but tabloid journalism in style of the very thoughtful the "Sun"...

  • rate this

    Comment number 20.

    Basic problenm is one of arithmetic which all seem to not reconginse the sums do not add up.
    Germany too low a exchange rate, greece et al far too high, if they leave the germany becomes very uncompetitive as euro rises , so Germany and the rest are in a death spiral


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