The big adjustment is starting to happen

 

The US economy expanded by 3.3% during Q2, according to latest GDP release, significantly above what forecasters had expected. The FT has the story, and the reaction. Some economists even went so far as to declare that all recession prospects have dissipated, while others are more cautious.

 

Probably the best analysis of what happened in Q2 in the US came in the Econbrowser blog by Menzie Chinn, who says that almost all the growth came from a combination of rising exports and falling imports, the latter of which constitutes some 1.45pp of growth. He dismisses the idea that this may be due to the weaker dollar. As imports are highly sensitive to income, he suspects that real incomes are either stagnant or falling. He also noted that the gap between GDP and gross domestic purchases has actually increased relatively to the first GDP release. So in summery, America’s factories are working flat out, except that it feels like a recession.

 

 

Tough times for French economic policy

Le Monde has a very detailed report on the economic downturn and how it affects public finances. As we reported yesterday, the 2009 budget deficit is very likely to hit 3%, the limit under the Maastricht Treaty. This means that there is about no room for manoeuvre for fiscal policy to support demand. The result of this mix is that the entire burden of adjustment to the crisis will fall on French households. The article also notes that Germany, unlike Franc, has a lot more room for manoeuvre (but as the next story suggests, Germany is not going to use it). 

 

 

German finance ministry opposes fiscal expansion

FT Deutschland has an interview with finance state secretary Jorg Asmussen, who says that Germany opposes a fiscal package despite the economic slowdown. His message was geared both towards domestic consumption, as there are growing calls for a fiscal plan within the coalition, and also against France, which has floated the idea of a euro area wide fiscal stabilisation plan. Asmussen essentially makes a Ricardian equivalence argument. He also said that he expected the German economy to recover from the third quarter onward, and that there is going to be no recession.

 

 

Central banks plan easier access to cross border liquidity

According to a report by Frankfurter Allgemeine, the world’s leading central banks are working on a plan to allow banks direct access to foreign currency liquidity, while pledging domestic securitie as collateral. This would allow a European bank to obtain dollar credit from the Fed directly. These plans, which have been worked out by the Bank of International Settlements, go much further than the present swap arrangement, which the ECB and the Fed have agreed to provide each other with liquidity. One of the reason for this measure is that the interbanking swap market has virtually dried up since the crisis erupted.

 

Euro area M1 and M3 data give conflicting signals

M3 continues to grow at close to 10% annual, while the growth of the narrow money aggregate M1 has approached zero. FT Deutschland says these conflicting signals have produced different interpretations, with some economists saying that the strong M3 data suggest that there is no credit crunch, while others are focusing on the weak M1 data as a harbinger of a recession.

  

Is EMU a model for Europe’s security policy

Writing in FT Deutschland, Wolfgang Proissl argues that Russia’s attack against Georgia show very clearly the limits of European diplomacy, and its importance as a foreign policy power. He says that the only realistic way to change this would be a security structure similar to EMU, under which participating member states agree to abandon part of their sovereignty to achieve a more effective policy structure. While this is still regarded as unrealistic in policy circles, the increased perception of Russia as a threat may prove to be a catalyst for change.

 

 

The UK economy hits a wall

There were several very alarming reports out on the UK economy. The Independent reports (aka Naked Capitalism) that the latest distributive trades survey suggest that 60% of shops report falling sales, and that it might be not before 2010 before the situation stabilises.

 

The FT’s Lex column has an insightful analysis of the UK housing market, following the Nationwide building society’s release that the annualised quarter-on-quarter fall in house prices had been 17%, a steeper fall than previous housing busts in the 1970s and 1990s. It quotes one forecaster expecting peak-to-trough nominal falls of 35%, and 41% in real terms by 2010.  Lex argues that such a decline would bring house price down to their long term average multiple of 3.7 of incomes, compared to 5.5 today. The article concludes that falling house prices and a recession are likely to produce “crass government intervention”.

 

 

 

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