There are signs that the economies in the eurozone are picking up in various ways. Recent figures of the ECB on Target2 (the capital account of the eurozone countries within the ECB) show remarkable signs of improvement. The claims of the triple-A countries Germany, Finland and the Netherlands on the problem countries are going down. The Dutch and the German claims at the peak of Target2 lending in 2012 amounted to € 173 billion and € 750 billion, but these have dropped by almost 20% since. There are many explanations for this development. Draghi’s promise to do ”whatever it takes” to keep the eurozone intact, has created the trust needed to restart trade in sovereign debt of Spain, Ireland, Portugal and Italy. In addition, (wage) reforms and austerity measures have reduced the imports; investors are returning and exports of for example horticultural products are increasing.
These developments in the south imply enormous reductions in risks for the budgets of northern countries. If the situation in the problem countries had deteriorated, the Target2 claims could have end up as losses – and downgrades – for the triple-A countries. These claims are not just important in terms of abstract risks on the ECB books, but they also have practical implications for the national debt positions. The Dutch government used the profits from the Central Bank on the sovereign debts from Southern countries to lower its public debt figures, so that the deficit is at least cosmetically closer to the 3% monitored by Olli Rehn. However, including the Target2 risks of the ECB in the national budgets would show that national debts are potentially much higher. Also in this respect the drop in the ECB’s Target2 exposure is good news.
However, the difficulties in the eurozone and the Target2 risks are far from over. The Global Competitiveness report for 2012-2013 displays the many remaining economic hurdles in the eurozone including repeated warnings over inflexible labour markets in Spain. Moreover, the outcome of the recent elections in Italy obviously creates additional challenges.
The real worry however is France. Its Target2 deficit has not gone up due to the deterioration of its current account. Moreover, its public debt is rising above 95% – which means that its debt becomes unsustainable. The global competitiveness index of France has fallen last year from 18 to 22. It is doubtful whether the French social economic institutions – including its labour relations – are up to the economic challenges France is facing. Despite the efforts of Olli Rehn with the reinforced EU semester, France has shown few signs of improvement over the past year. Worryingly, with the economic reforms in its neighbouring countries including Spain and the Netherlands, its competitiveness and current account balance is being threatened from all sides.
We saw in August 2011 that financial markets woke up to the worries over Italy’s economic situation. Typically, this awakening did not happen with a whisper but with a bang. The crisis in the eurozone was then probably at its worst because of the size of the Italian economy. An immediate crisis over France may not be around the corner, but all ingredients for the next major euro problem are present. Symbolically as well as economically, a eurocrisis over France would be extremely damaging to the European integration project as a whole.
It is surprising that the French interest rates are currently still comparable to those of Germany. Either financial markets are irrational or they are counting on Draghi’s unconditional support for France. Both explanations would be very dangerous economically and politically. Irrational financial markets could prove to be extremely volatile and a repetition of August 2012 is possible. Alternatively, German – and Dutch – patience with Draghi and the ECB could reach its limits. FDP chairman Brüderle already warned France that reforms are needed. The EU cannot afford an existential crisis because of French economic negligence.