EMU Returns to Growth; EMU Dodges ‘Rule of Thumb’ Recession Signal

The European Monetary Union (EMU) dodged what could have been a trigger for the call of a “rule of thumb” recession in the Area when GDP failed to fall for the second quarter in a row. The flash estimate for GDP in the EMU in the first quarter of 2023 is +0.3% annualized; this compares to a -0.2% annualized in the fourth quarter of 2022. Call it whatever you will, it certainly is a flat spot in economic growth. Growing only 0.3% at an annual rate after falling by 0.2% does not give an economy much momentum. Clearly, this is a point of weak growth. While it may not go over the bar for the call of recession, conditions in the monetary union remain weak. Inflation remains high. The European Central Bank is still raising rates to fight inflation, and the war between Ukraine and Russia continues to boil over in Europe, casting a pall across prospects for growth and prosperity in the European Monetary Union itself.

Early reporters stay out of ‘recession trap’ In these early returns, there were only six monetary union members out of 19 that report individual country GDP this early. Out of these six only two, Germany and Italy, log negative growth in the fourth quarter. German GDP fell by 2.1% while Italian GDP fell by 0.5% (both of those are expressed at annual rates of change). However, currently there are no countries that are reporting back-to-back declines in GDP either (but Germany DOES report a decline in GDP year-over-year). So, neither the monetary union nor any of its early reporting members have triggered the rule of thumb call on recession of two consecutive quarters of negative growth. At this point, Germany has the weakest statistics among this group with GDP having fallen 2.1% at an annual rate in the fourth quarter and grown by only 0.2% at an annual rate in the first quarter of 2023. German GDP is down on balance over the last two quarters as well as year-over-year.

Year-on-year growth Year-over-year growth in the monetary union is at 1.3% in the first quarter, down from 1.8% in the fourth quarter which was down from 2.5% in the third quarter which was down from 4.4% in the second quarter of 2022. There has been a steady deceleration in growth in the monetary union; we see decelerations common for member countries as well. Belgium is showing deceleration, Germany is showing deceleration and Portugal is showing deceleration. The exceptions are France, Italy, and Spain. France shows a speed up in its year-over-year growth at 0.8% in the first quarter compared with 0.4% gain in the fourth quarter; but up to that point French GDP had been decelerating too. Similarly, Italian GDP had been decelerating until this first quarter result where GDP is now up by 1.8% year-over-year, stronger than the 1.4% gain in the fourth quarter of 2022. Spain has been more of a rogue with decelerations in two of the previous three quarters but now in the first quarter 2023, a clear acceleration in growth at an annual rate of 3.8%, up from 2.9% in the fourth quarter period. Spain not only bucks the trend for deceleration it actually posts quite a strong GDP growth rate year-over-year on top of its relatively solid 1.9% pace in the first quarter itself.

Big vs. small country trends However, the consolidated data at the table bottom, grouped to look at the four largest economies versus the rest of the monetary union, show that the largest economies continue to decelerate although the deceleration of the first quarter is ‘technical’ since the one-digit growth rate is 1.1%, the same as in the fourth quarter of 2022. For the rest of the monetary union, deceleration remains in progress as the first quarter growth rate at a 2% pace compares to 3.8% at an annual rate in the fourth quarter of 2022. The two data series also point out that growth has been slower, at least for the past year, in the four largest countries compared to the smaller countries in the rest of the union.

Comparison with the U.S. I include U.S. data in this table to compare the performance in the monetary union with the U.S. economy. The U.S. shows less of a tendency for deceleration in GDP since and the third quarter of 2022 U.S. GDP speeds up then it slows down in the fourth quarter and now it speeds up again in the first quarter 2023. So that's not much of a dependable pattern and it doesn't conform to the clear encroaching weakness that we see in the monetary union. The recent weakness in U.S. growth in the first quarter of 1.1% is more substantial than the 0.3% logged in the first quarter for the European Monetary Union and that's on top of the much stronger 2.6% pace logged in the fourth quarter of 2022 compared to a 0.2% decline for the monetary union and back to the third quarter as well when U.S. GDP grew at a 3.2% annual rate compared to a 1.5% annual rate gain for the monetary union. However, EMU year-over-year growth had previously surpassed the U.S. regularly, mostly because of the stronger growth in the smaller EMU economies.

Slowing in progress There is some sense in which the U.S. and Europe are going their separate ways, but there's also a sense in which there has been some considerable slowing in both of those economies. The U.S. case seems to be a little bit more complicated whereas the European Monetary Union seems to be on a broader smoother glidepath to lower rates of growth. This is interesting from the standpoint that the U.S. has also been much more consistent and aggressive with its rate hiking while the European Central Bank has been slower with its rate hiking and still has its benchmark interest rates much farther below its rate of inflation than is the case for the United States (where the PCE headline has just fallen below the Fed Funds rate). Based on that, we might have expected U.S. monetary policy to have slowed the economy more than in Europe, but of course these things are complicated; it's also true that U.S. money supply growth had previously surged much more than money supply had surged in Europe. If we turn the discussion to one of leads and lags in monetary policy, it's very possible that what we're seeing in the United States is still the evidence of a lagging monetary policy where past stimulus is still pushing the economy ahead and where the more recent move to slow the economy has not yet taking its full bite out of U.S. economic growth. These concerns continue to linger in the background.

Sizing up growth If we look at annual growth rates and array them on a queue standing from the late 1990s, we find three European economies that still have relatively solid year-over-year growth based on their own historic standards. Italy's growth rate at 1.8% has a 78-percentile standing, Spain’s growth rate of 3.8% has a 76-percentile standing, while Portugal's 2.5% year-over-year growth rate has a 68.5 percentile standing. All of those are well above their historic medians. The European Monetary Union itself has a growth rate of 1.3% that has only a 37-percentile standing. The percentile standings in the rest of the union for early-reporting countries are low: for Belgium there's a 32.6 percentile standing, for France a 28-percentile standing, and for Germany an anemic18.5 percentile standing. Germany has the only year-over-year negative growth rate in the Monetary Union in the first quarter. By comparison, the 1.1% U.S. growth rate has a 29.5 percentile standing. The U.S. year-on-year growth rate of 1.6% is higher than the growth rate for EMU, but when compared to the year-on-year growth rates over earlier quarters the U.S. has been relatively weaker than the performance in the monetary union.

Summing up The data are not particularly surprising and while all newspaper reports want to make a big deal about Europe having dodged the call to what they name a ‘technical recession’ the fact is that growth whether you call it a recession or not is still extremely weak. And the difference between a 0.3% annual rate and zero or -0.1% is not so terribly significant. What's clear is that Europe remains very slow, and it is still flirting with recession. Based on the high inflation and the slow work to date by the ECB, there is more rating hiking ahead for the EMU. It's hard to argue that they're not actually going to head into recession given the circumstances. And we could make the same statements for the U.S.; even though it has a somewhat stronger growth rate, it still would clearly be at risk. What we see from this GDP data is that globally growth continues to be challenged and as, yet we haven't seen the full break in inflation that many are hoping for, although there was some more promising inflation data out of the United States today. Everywhere in the West, central bankers have more work to do.