ive years ago the European economy was in the depths of the euro crisis. Economic growth in the EU and eurozone went into reverse in 2012, bucking the trend of general recovery across the world. Unemployment was rising. Dire predictions were being made.
The world looks different now. The euro has not collapsed. Growth is outpacing the United States. Unemployment has fallen steadily for about four years and now averages below 8 per cent across the 28 states. This is still too high but is less than one percentage point above its low point in 2007. The economy appears to be getting back on track, creating growth and jobs. So how has this turnaround happened? And what does it mean for us in the UK?
Three ingredients have come together to support the recovery. The first is flexible monetary policies, both in terms of lower interest rates and willingness to inject monetary support through quantitative easing. In both these respects the European Central Bank was slow to follow the lead taken by the US Federal Reserve and the Bank of England in 2008-09 and it took a while for Mario Draghi, the ECB president, to override German monetary conservatism.
A second ingredient has been structural reforms in a number of European economies, designed to create more flexible employment conditions and stabilise public finances. Spain is the most significant example of how this process of economic reform has reinvigorated growth. Its economy is now growing by more than 3 per cent and unemployment has fallen from a peak of more than 26 per cent to about 17 per cent. Ireland is another economy where economic reform has spurred growth and brought down unemployment.
The third ingredient has been the restructuring of the financial system to put banks on a more solid footing. Again, this has taken longer in most European countries than in the US and UK, where some dramatic interventions were made in 2008 and 2009. This is partly because the responsibility for dealing with banks is mainly for national governments. Some countries, notably Italy, have been slow to address the underlying problems in the banking system.
After the financial crisis, some European economies bounced back more quickly than others. In general, northern and eastern economies have performed the best. Poland is the strongest growing among the large EU economies, with GDP up 4.4 per cent in the second quarter of this year compared with a year ago. Sweden is not far behind, with annual growth of 3.9 per cent, followed by the Netherlands at 3.8 per cent. Germany has the lowest unemployment rate of the major European economies.
The overall progress has been held back by some underperformers, most notably France and Italy. In both these countries economic reforms have been implemented slowly or not at all. In the past three years, 2014 to 2016, GDP growth has averaged 0.6 per cent in Italy and 1.1 per cent in France.
Under President Macron there is the prospect of a new wave of economic reform in France, though he needs to sort out his political difficulties to make progress. In Italy the unstable political situation has held back reform.
Economic growth in France and Italy has been picking up recently and unemployment has been edging down. This could give both countries the confidence to press ahead with reforms, despite the political obstacles.
It is ironic that just at the time when the EU is picking up, the UK is trying to negotiate its way out. In my view this is a big strategic mistake that we will come to regret. It is also likely to damage to the UK’s economic prospects in the short term.
The UK is the only leading European economy that has seen its growth rate fall back in 2017. We averaged 2.4 per cent GDP growth between 2014 and 2016 but over the past year this has dropped back to 1.7 per cent. In the growth league table of the ten largest European economies, the UK has fallen from fourth place behind Poland, Sweden and Spain to eighth, close to the relegation zone.
The last time UK growth was sluggish — in 2011 and 2012 — was during the euro crisis. Then the downturn elsewhere in Europe was a big drag on our economy. Now the damage is self-inflicted. While the rest of the European economy has been picking up, growth in the UK has slowed. Consumers have been squeezed by high inflation and investment is being discouraged by Brexit uncertainty.
It is difficult to see these influences on the UK growth rate changing over 2017 and 2018. As a result the economy will not benefit fully from the rising tide of European prosperity.
This may not matter very much if it is a temporary phenomenon but the worry must be that the improving position of the European economy emboldens the other 27 member states to take a hard line with the UK in Brexit negotiations. If these negotiations do not go well, the UK will face not only one or two years of disappointing growth but a longer period of underperformance stretching into the 2020s — when we will have to try to recover lost ground.
Normally, a buoyant European economy would be good news for UK economic performance. But British growth is lagging behind other leading EU economies and we are not benefiting from the current upswing in continental Europe. We should hope that this is a temporary phase, linked to Brexit uncertainty, and not the shape of things to come.