Europe has no escape from stagnation

Policymakers, at least, are increasingly alarmed by the situation. Ursula von der Leyen and Christine Lagarde, head of the European Commission and European Central Bank respectively, together wrote recently that faster growth was needed to protect the quality of life of Europeans, and their security. The intent was to jolt politicians and the public into action.

But where is growth supposed to come from? Europe’s ageing population is not as innovative as it once was, dampening productivity. The global economy will no longer support Europe’s export-led approach. Investment requires confidence in the future. Consumers are fearful, with many choosing to keep money in the bank. The ECB remains busy fighting inflation and governments are avoiding difficult reforms for fear of a populist backlash. Small wonder, then, that even optimistic growth forecasts for this year barely go beyond 1%.

One idea is that, as inflation subsides, the ECB can return to stimulating the economy with lower interest rates. ECB policymakers have already cut their main rate from 4% in June to 2.75%. Markets expect them to reach 2% by the year’s end, as wage growth cools, which would, in turn, cut cost pressures for firms. Yet the problem is that prices are still rising by 2.5% a year. Those for services are particularly hot, increasing at 4% a year. Thus hope of much looser policy will probably prove forlorn.

Analysts had thought consumers might spur the economy once their real wages started to rise. Now that pay packets are swelling, however, they are refusing to play their part. The euro-zone household savings rate tended to hover at around 12% before the covid-19 pandemic. As of October, the date of the most recent data release, it was above 15%. Consumer sentiment has recently dropped again, to below its long-term average. Europe’s gloom, it turns out, is resistant even to higher wages.

External demand is unlikely to come to the rescue either. China is hellbent on exporting its manufacturing surplus to the world, rather than buying more from Europe. America no longer wants to play the role of consumer of last resort, and could push more Chinese goods Europe’s way by raising trade barriers. Although in theory trade deals could fuel the EU’s export machine, protectionists, led by France, will attempt to slow things down, as can be witnessed in their opposition to a deal with Mercosur, a large South American trade group.

The continent’s leaders have explored making use of the EU’s budget-deficit rules to spend more on defence, in order to protect against possible future Russian aggression. Germany, one of the bloc’s most miserly members, needs to invest and has the money, which the next government may make use of after a forthcoming election. Greater government spending should therefore offer some support to the European economy, but it is unlikely to provide a large boost. Italy has to cut spending to stabilise its debt; France has to do so to bring down an outsize deficit.

That leaves businesses’ animal spirits. A rejigging of the global economy creates plenty of opportunities. New forms of technology, not least artificial intelligence, are waiting to be adopted. The green revolution, where Europe has a head start, is gaining followers around the world. But if companies are keen to splash the cash, they have a funny way of showing it. Their investment rate has steadily fallen since 2019. Now Donald Trump’s protectionist policies may induce export-minded firms to invest in America instead.

The commission’s leaders are putting their faith in supply-side reforms, hoping to simplify regulation, remove single-market barriers and knit together capital markets. Although this is a good start, the plans seem unlikely to get the bloc anywhere near the €800bn ($830bn, or 4.5% of GDP) in annual investment that Mario Draghi, a former president of the ECB, envisaged in a doorstopper of a report on the European economy he published in September. To become green, remain prosperous and live securely, the EU and its member states will have to go further. Stable GDP is not enough.

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