Draghi's Right, Rich and Poor Euro Nations Are More in Sync

Updated on
  • Dispersion of growth rates in euro area lowest since 1997
  • Weakest economies still have a lot of catching up to do

After a decade of crises almost broke the euro area apart, the bloc’s economies have emerged at the other end on more common ground than ever.

Not since before the creation of the monetary union in 1999 have growth rates across the more prosperous northern and weaker southern European states been as close as they are now. Even the productivity of workers is more in sync than it was before the global financial crisis.

This merging of fortunes means that, for now at least, existential questions about the euro zone can be put on hold. For the euro to survive in the long run, though, convergence needs to deepen and spread long after European Central Bank President Mario Draghi pulls the plug on the easy money policies that helped turn things around.

“Countries have converged a lot, at least in terms of growth rates,” Draghi told a panel including the Federal Reserve’s Janet Yellen and the Bank of England’s Mark Carney in Frankfurt this month. “Probably the most important thing for a monetary union is convergence.”

Evidence that euro economies are no longer drifting apart is important because it was big divergences in Spain, Portugal, Ireland, Greece and Cyprus that took the monetary project to the brink of collapse.

It also helps reinforce the French and German push for closer political coordination to foster unity as the U.K. prepares to leave the European Union and the rise of nationalist parties poses a threat to deeper integration. Not to mention how much easier it would make Draghi’s job; pushing one monetary policy on 19 countries of varying sizes, wealth and strength has been messy.

What Our Economists Say...

"Growth rates have become more synchronized across the euro area and that’s partly thanks to the European Central Bank. But for living standards to converge, the region’s biggest challenge, it won’t be enough for growth in southern Europe to match the expansion in the north. They must beat it. Though growth rates are now more similar, the level of trend productivity between countries is not converging. So the gap created between richer and poorer countries since the inception of the euro remains very large and - on current trends - will continue to widen.

-- Jamie Murray, Bloomberg Economics 

For more, see our Euro-Area Insight

The data suggest the progress isn’t going to unravel as soon as the ECB winds down its 2.6 trillion-euro ($3.1 trillion) asset-purchase program.

For one, euro-area economies are less reliant on exports for growth than they were a decade ago, making them less susceptible to external shocks. By driving down interest rates on bank loans, the ECB encouraged a broad revival in services and manufacturing. Falling unemployment is bolstering domestic demand.

Investors are picking up on the growing synchronization. Faster growth and a narrower budget deficit in Portugal, for instance, has driven the premium investors demand to own its 10-year bonds over Germany’s down to a 2-1/2-year low.

But to move toward the kind of prosperity promised when the currency union was first conceived requires more than conformity in growth rates.

The economy’s productivity is also crucial because it bolsters economic resilience and ultimately creates the conditions for salaries to rise. Here, too, data of Bloomberg Economics show an improvement taking root compared with the union’s first years and the aftermath of the global financial crisis.

“Ultimately what matters for improving living standards is the trend of productivity growth and here we do find some evidence of convergence,” said Jamie Murray, a European economist for Bloomberg in London. “Partly that reflects slower productivity gains in Northern Europe. But it is also because Southern Europe has done better.”

Murray’s projections show productivity gains will continue across the four biggest euro-zone economies, but weaker members like Italy and Spain need to advance even faster to catch up with Germany and France if genuine convergence is to become a reality.

That requires initiative from national governments to open up the labor market and increase competition in the economy. In Italy, in particular, the risk is progress gets set back by elections early next year in which anti-establishment parties are poised to make major inroads.

For now, the gaps between richer and poorer euro nations aren’t getting wider, which is encouraging for the future viability of the euro. The difference in real wages between most countries in the bloc has actually been narrowing.

While ECB stimulus brought the monetary union back from the brink, the onus is on governments to “catch up,” according to Guntram Wolff, director at the Brussels-based think tank Bruegel.

“This will require something that the central bank can’t do -- reforms at the national level and stronger safety nets in the euro area to repair long-term confidence,” he said.

For now though, the euro zone looks set to power ahead, as Bundesbank President Jens Weidmann acknowledged on Wednesday when he said the ECB may raise its economic-growth forecasts. Revised projections will be published in two weeks.

“Evidence is mounting the economic outlook will be at least as good as previously forecast, if not even better,” Weidmann said in the German city of Essen. “This development should continue for a while.”

— With assistance by Anooja Debnath

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