EVERYONE OUT OF STEP BUT US

Europe thought it could not get worse . . . (Anatole Kaletsky, The Times, November 28th, 2005)

Why does the European Central Bank want to raise interest rates? Every European government says it shouldn’t. The International Monetary Fund and the European Commission say it shouldn’t. The Fed and the Bank of England say, privately, that it shouldn’t. And the economic statistics certainly say that it shouldn’t. Yet Jean-Claude Trichet, the ECB President, has more or less announced that eurozone interest rates will rise this week. [...]

Every December, the ECB produces a forecast showing recovery “just around the corner”. Every six months, with clockwork precision, these figures are downgraded. But each time the ECB produces a new forecast, which shows recovery still “on the horizon”, just postponed by 12 months.

Such pie-in-the-sky predictions have always been a stock in trade of financial hucksters. When I showed this ECB forecast chart to a friend who had spent many years in the underbelly of US finance, he grinned with instant recognition: “I haven’t seen an example as good as this since working at ITT for Harold Geneen.” Is this what M Trichet means by “reinforcing the credibility of the ECB”? But I must offer an apology. Regular readers may believe that I have become obsessed with Europe, after devoting four of my last six columns to the eurozone. How can I justify all this repetition? The answer is simple: in the year ahead Europe is the region whose precarious condition will be the biggest source of global uncertainty. America, Britain, Japan and China are all on fairly predictable trajectories, making reasonably well-managed transitions from very rapid economic rebounds from the 2001-02 recession towards more moderate, sustainable growth.

Europe, by contrast, has enjoyed almost no recovery and manages its economy on principles that totally mystify the rest of the world. This is why Europe is now the biggest source of uncertainty for global prospects; whether 2006 turns out to be a year of prosperity or disappointment is probably more dependent on events in Brussels and Frankfurt than in Washington or Beijing. [...]

So what are the chances of Europe enjoying the sort of recovery official forecasts are projecting — an acceleration from this year’s 1.2 per cent to 1.5 per cent growth rate to something near 2 per cent in 2006?

My justification for returning to Europe so soon is that the chances of such a recovery have dramatically shifted in the past few weeks. Last month the widely predicted eurozone recovery of 2006 seemed very unlikely. Now it is completely impossible. In fact, it is almost certain that Europe will completely overturn all conventional expectations; instead of recovering, it will probably be much weaker in 2006 than in 2005.

Can any of our economic gurus here make sense of this? Is this because European central bankers are trying to protect themselves against politicians who would rather inflate the currency than cut social services?