No investor or lawmaker would want to relive the turmoil that faced the U.S. economy in 2011, when uncertainty over the Federal Reserve’s “QE2” program and the political standoff over the government’s debt ceiling brought stomach-churning levels of volatility to the capital markets and threatened to undermine the still-fragile recovery.
Like a befuddled Bill Murray in “Groundhog Day,” however, leaders in the European Union have been slow to adopt the lessons of the U.S.’ painful experience in 2011, despite a slate of economic challenges remarkably similar to the ones American investors encountered four years ago. Just as the debt ceiling debate created unnecessary headwinds for the U.S. recovery, Greece’s debt crisis continues to weigh on growth and threaten the stability of the E.U. itself. And, while the U.S. Fed moved quickly to implement a second round of Treasury purchases to head off a double-dip recession late in 2010 and throughout the first half of 2011, the European Central Bank has only recently announced its plan to launch a similar program in Europe.
The events of the next several months should provide crucial indicators for the future of the Eurozone: Will the region finally learn from the U.S.’ turbulent 2011 and plot a course out of its recurring loop of stagnation and frustration? Or will it continue to let its own worst tendencies and fractious politics keep it mired in a future where each day looks the same as the one before?
Debt Crisis? Sounds Familiar…
The parallels between Europe’s current struggles and the plight of the U.S. economy in 2011 almost could not be closer: On this side of the Atlantic, concerns over federal spending and growing government indebtedness led conservative lawmakers to force a showdown over the nation’s debt ceiling, raising the risk of default and imperiling a recovery that was still struggling to gain traction. In Europe, creditor nations’ insistence on austerity measures as a condition of any Greek bailout package has kept that country in a state of perpetual – and, in many ways, unnecessary – crisis, with broader reverberations for the stability of the E.U. as a whole.
Although the European Central Bank recently raised growth forecasts across the E.U. thanks to a confluence of positive outside factors including lower oil prices and a weak Euro, unemployment throughout the region is expected to remain elevated in 2015, with the jobless rate dropping only slightly below 10%. Struggling nations like Greece and Spain have it far worse – Greek unemployment was 26% in December 2014, while Spain’s was 23.7%. At these heightened levels of joblessness, the newly-elected anti-austerity Syriza government in Greece will remain under pressure to push back against cost-cutting measures in any long-term bailout package, meaning that concerns over Greece’s status as part of the E.U. could continue to crop up throughout the year.
With these factors in mind, many investors have felt a growing sense that something fundamental to the European Union’s ability to function may have shifted or even broken, just as observers wondered whether the U.S. political system had become hopelessly fractured in 2011. Despite stronger growth forecasts for the region as a whole, global investors should continue to watch the Greek debt standoff for indications that the various members of the Eurozone can or will put the best interests of the E.U. as a whole ahead of their own short-term needs.
Quantitative Easing: Effective Medicine, But Tough to Swallow?
Europe’s persistent anemic growth and low inflation, combined with an environment in which most of the E.C.B.’s more traditional stimulus options have already been exhausted, also mirror the state of the U.S. economy in late 2010 and 2011. The E.C.B.’s recent announcement that it would implement a program similar to the U.S. Federal Reserve’s “QE2” plan, in which the Fed purchased $600 billion in Treasuries, has therefore been met with relief from global investors.
Structural differences between the U.S. and E.U., however, mean that the E.C.B. and the various sovereign nations of the Eurozone will have some unique questions to answer as they move forward. Since the E.U. has no single pan-European debt instrument similar to Treasuries, the E.C.B. and various governments will be purchasing sovereign debt of the individual nations in the Eurozone in order to carry out their own quantitative easing program. This, in turn, has already led to accusations that the program may simply re-distribute wealth from economically stronger member countries to weaker ones. The program also faces questions regarding how the purchases will be coordinated and, crucially, whether E.U. leaders will maintain their commitment to the plan long enough to allow it to work.
Outlook for Investors
The most positive aspect of the E.C.B.’s plan to launch a program of quantitative easing in Europe is that it signals the end of European policymakers’ fixation on austerity above all else. Early responses to the 2008 financial crisis in Europe focused overwhelmingly on belt-tightening measures rather than stimulus, with the various bailout packages for Greece and other struggling nations centering on punitive terms such as tax hikes and wage and pension freezes. Germany and other creditor nations within the E.U. are still unquestionably determined to extract commitments to austerity programs as a condition of any further bailout agreements, but the E.C.B.’s quantitative easing plan shows that European leaders are finally beginning to broaden the scope of policy responses they will consider as they struggle to put the region back on firmer footing.
The U.S. experience shows that they have good reason to do so: since the U.S. moved past the austerity plans that were introduced during the debt ceiling standoff and moved to limit the damage from the subsequent forced spending cuts known as the “sequester,” the S&P 500 climbed 13.3% in 2012 and 29.6% in 2013.
While Greece – and the E.U. as a whole – are by no means out of the woods, Europe’s shift away from a dogmatic focus on austerity bodes well for the possibility of a viable long-term compromise between Greece and its creditors that will allow for some level of stimulus spending while maintaining belt-tightening policies in other areas.
At the same time, the E.C.B.’s stated plan to acquire 20% of the sovereign debt purchased under its quantitative easing program using its own balance sheet is a positive sign that the E.U. may be moving beyond the existential threat of a breakup (whether triggered by a Greek withdrawal or some other crisis), and beginning to work together as a cohesive union. For the E.C.B. to emerge from the current turmoil in a stronger position, and with enhanced institutional credibility, may be an extremely positive long-term development for investors.
Better Late than Never
After plotting its own distinct path in the wake of the financial crisis, the Eurozone has experienced an extended period of upheaval, with austerity measures driving radical G.D.P. contraction for debtor nations such as Greece and undermining investor confidence for the region as a whole. Today, however, the European Union finds itself in a much stronger position: With the gift of hindsight, its leaders seem to have realized that pursuing austerity for its own sake will not produce a viable path to growth. With fundamental indicators slowly trending in the right direction, an encouraging regional commitment to a program of quantitative easing, and the possibility of a workable compromise resolution in the Greek debt crisis, Europe may soon be looking at better days ahead – just as U.S. investors were at the beginning of 2012.
