Eurozone Watch

In our second part of "Predicting 2007: How well did we do?" we review our predictions on Eurozone politics in 2007. It complements the analysis of our economics forecast posted here.

As far as the politics of the Eurozone are concerned, we were less optimistic for the year 2007 than for the economics outlook which we rightly saw as more positive than the mainstream. Regarding the governance of the Eurozone, we were convinced that the recent suggestions and political disputes over EMU issues would lead to little or no evolution of the real governance set up. We will review the different elements we discussed in early 2007 below.

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Almost a year ago, in the first days of the then young year 2007, we posted two contributions on Eurozone Watch making five predictions each on the economics and politics of the Eurozone for this. Before we will present our predictions for 2008 in the first days of the next years, it is time to look back and see how we did in 2007.

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In the discussion about the origins of the US subprime crisis, the overhelming number of explanations contain one predominant element: According to most economists (be it academic or from the financial sector), the crisis it at least partly the US Fed’s fault. Since the US central bank has kept interest too low for too long a period, banks were forced to invest in more risky assets in order to at least get a return a little above the meagre return on treasuries, according to this interpretation. As a consequence, the banks extended loans to people who in fact where not able to pay back there mortgage. Had the Fed increased interest rates earlier, returns on Treasury bonds would have increased and the bank’s would not have been forced into risky lendings.

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The past week or so has brought a mixed bag of indicators for the euro-zone with both sceptics and optimists finding bits of their likings. Among the most important positive (and surprising) developments were:

• Business climate actually recovered somewhat in November. Both the German ifo index as well as the French INSEE index recorded increases in November. Manufacturing PMIs for the Eurozone also recorded some slight gains, moving for the whole of the area further away from the 50-points-mark a fall below which would mean an outright contraction of the sector. Companies were even reporting renewed growth momentum in export orders.

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If you read the press these days (see for instance the daily press review on Eurointelligence), the common and right impression is that the Eurozone is suffering a crisis which may deepen further in the coming months. Inflation has risen to 3% in November, the highest level since 2001. Growth in the Eurozone may slow down to 2.2% of GDP next year, according to the latest Commission forecast. Germany and France, the two largest Eurozone economies, both see their growth outlook deteriorate.

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