Ungated Post | 20 Nov 2017

Europe may be poised for a golden decade of economic expansion

Lost amid Europe’s political drama and recurrent euro doomsday scenarios is the fact that the Eurozone economy has a business cycle that is alive and well.

Our analysis suggests there is plenty of room left in the current expansionary cycle, which could see the single currency area enjoy a golden decade of economic growth. 

More than four years into the current upturn, most indicators signal the Eurozone economy is still somewhere around mid-cycle, suggesting that – absent an unexpected shock – we should see several more years of sustained expansion. 

One reason is that the amount of economic slack in the Eurozone countries –  the size of the “output gap” before an economy hits a ‘speed limit’ above which growth comes with inflation – may be larger than commonly accepted. 

This would then translate into a longer runway for the Eurozone economy to continue to expand without the need for the European Central Bank to apply the brakes with tighter policy.

The old adage “expansions do not die of old age” remains true. The number one cause of death for economic expansions is an inappropriate policy response. 

But an ultra-dovish ECB, and the end of the fiscal adjustment process across the Eurozone, means that there is only a very slim chance of either monetary or fiscal policy derailing the recovery.

As a result of the double dip recession in 2010-12, the Eurozone region is now lagging the US economic cycle by several years, but the performance during the current expansion is comparable to the first four years of the cycle that started in the US in 2009. 

While the comparison is far from perfect, the US economy – now in its ninth year of expansion – suggests the Eurozone could enjoy a similar period of growth. 

Unexpected shocks do happen and could, of course, derail the recovery. Big geopolitical events or protectionist shocks to world trade are the main external dangers, whereas political risk remains the major domestic threat. 

But the chances that the Eurozone is embarked on a “Euroboom” with legs look to be the best for years if these risks do fail to materialise.

Read the full report

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