Eurozone Recession On the Horizon?

Is the first zone wide recession in the short history of the eurozone about to be registered? Certainly the flash PMI estimates for August give the impression that it might. The Royal Bank of Scotland Group Plc's composite index came in at 48 after 47.8 reading in July. Any result under 50 indicates contraction. Unfortunately we only get flash estimate breakdowns for France and Germany, but it isn't that difficult to deduce from the composite number that Spain and Italy continue to contract - although given that the composite rebounded slightly, while both services and manufacturing slowed in Germany, and in France manufacturing contracted more sharply in July while the contraction eased a bit in services, then it may be that Spain and Italy weren't contracting quite so strongly in August as they were in July.

Germany


The German manufacturing index fell to 49.9 in August, its lowest level in three years, after slipping back index to 50.9 in July.

Helping to push down the manufacturing indicator was the export component, which fell to its lowest level since June 2003, according to the report from Markit Economics.

The services PMI reading was not much better, falling to 50.6 in August from 52.1 in June. As things stand German services are riding just shy of contraction if the flash reading is borne out in the final result.

In its report, Markit Economics noted that the business expectations sub-index for Germany had slipped to the lowest level since November 2002.

France

Activity in France's manufacturing sector contracted at the sharpest rate in over six years in August, with a contraction of 45.1 being registered, down on July's 47.1 and the lowest level since December 2001.



The service index came in at 48.5, above July's 47.5 but still only its second time in negative territory since mid-2003. New business logged by service firms shrank at its fastest pace since the data was first collected in May 1998.

"If you extrapolate these figures through to the third quarter you're probably looking at stagnation of GDP (gross domestic product)... This is not a harbinger of imminent upturn," said Chris Williamson at data compiler Markit Economics. "Nothing points to a fundamental turnaround... I think there's been a spillover effect from Italy, Spain and now Germany, and France has followed suit."

So Is It Recession, and Will We See Rate Cuts From the ECB


Gross domestic product fell 0.2 percent in the second quarter from the first, when it grew 0.7 percent, according to the data released ny Eurostat (the European Union's statistics offic) last week, and it now seems clear that this contraction may well pass over into the third quarter. In fact Germany's Economy Ministry said only yesterday that the economic outlook in Germany has worsened even beyond the second quarter, when gross domestic product shrank for the first time in four years.

European consumers are not getting much relief from falling oil prices either, since while oil prices have fallen 20 percent from a record $147.27 a barrel on July 11 the euro has dropped 7 percent ($1.4780 today) from its peak of $1.6038 hit on July 15, taking a lot of the edge off the drop. The fall in the euro will however make exporting outside the zone easier, the difficulty is that the demand for exports is slowing generally as the global economy slows.

The European Central Bank, which raised its benchmark rate by a quarter point to 4.25 percent in July, currently predicts growth will slow to about 1.8 percent this year from 2.7 percent in 2007, but today's PMI data would seem to confirm that the ECB's growth projections are no longer realistic and that the time to move over into rate cuts mode is fast approaching.

Italy like Ryanair: can it exist with oil over $ 100 per barrel?

Guest Post by Ugo Bardi
Cross-posted from The Oil Drum Europe

Ryanair and the Italian government at odds with each other. This Ryanair advert shows Italy's minister for reforms, Mr. Umberto Bossi, in an occasion where he was expressing his disagreement with the words of the Italian national anthem. In the text, the Italian government is accused of "supporting Alitalia's high tariffs", "supporting the frequent Alitalia strikes" and "not caring about the Italian passengers". Ryanair is understandably angry at the preferential treatment that the Italian government is reserving to Alitalia, Italy's national air carrier. Alitalia is in danger of bankruptcy and has been recently saved by a hefty injection of public money.

An airline is a small economic system that uses fuel derived from oil in order to carry on activities that generate profits. If oil is too expensive, profits disappear and, eventually, the system must disappear, too, bankrupted. Low cost airlines have appeared during the period of relatively low oil prices that ensued after the first oil crisis, in the 1980s. Can these airlines exist with oil over $100 per barrel?

A country is larger than an airline but it, too, needs fuel for its economic activities. And, if deficits run too high, countries can go bankrupt as well. Italy's industrial economy had its moment of maximum growth in the 1950s and 1960s; in a period of low and stable oil prices. Can Italy's industry exist with oil prices over $100 per barrel?

At TOD, we have been discussing economic collapse for a long time and Italy may provide for us an interesting test case (although Spain, too, may be in the race). Maybe collapse is too strong a word, but it is clear that things are not going well in Italy. We can find plenty of data about the Italian economy in the excellent blog by Edward Hugh "Italian economy watch" . His posts of the last months read like a horror story. Here are a few examples; first, Italy's inflation:




Here is Italy's industrial production:




And Italy's business confidence:



Here is Italy's GDP:



There are many other chilling data that you can read in Hugh's blog, but let me show you a graph that I made myself about Italy's oil consumption. I am sorry that the captions are in Italian, but I think you understand what it is about: Italy is using less and less oil; a sure sign of a slowing down economy:



And there is much more. For instance, we may give a look to the status of that ancient Italian organization which is the Mafia . On that, I found this graph made by the Italian ministry of interior.



Image from the site of Italy's ministry of interior, The red line shows mafia-related homicides, the black one all the other crime related homicides.

"Peak Mafia", apparently, took place in 1991. Maybe Mafia methods are becoming gentler, but it might also be that even Mafia is in economic decline. After all, Mafia is an economic organization, although engaged in quite different activities than those of a typical airline. So, it may suffer because of the high oil prices, too. Of course, you might argue that homicides are a diseconomy for mafia and that the less homicides there are, the more efficient the organization is. Could be, but it is also true that number of all violent crimes in Italy seem to be stagnating or in decline, according to the report of the ministry of the interior. Maybe Italian criminals are becoming too poor to buy ammunition.

The economic decline seems also to be taking a toll on the health of the Italians themselves. Life expectancy had been constantly growing in Italy for the past 50 years. But, recently, the trend has stopped (see this article of mine, unfortunately in Italian). Is it due to a natural limit of to the deterioration of the Italian health care system and in general of the quality of life in Italy? We can't say for sure, but the second hypothesis cannot be ruled out.

Now, I am not an economist and I am not qualified to interpret such things as macroeconomic indicators (or mafia trends). But, surely, what we are seeing needs to be explained. I can see two main possible reasons for the decline of the Italian economy. One is demography, the other the high prices of oil. About demography, there is no doubt that Italy is becoming a nation of old people. You can see that in statistics, but you also can get a visual impression of the large number of aged people by walking anywhere in Italy. Old people, of course, don't produce goods and tend to buy less. That would explain, at least in part, the general economic decline of the country.

But, of course, high oil prices are also playing a role; perhaps the most important one. Although some oil and gas are being produced on the national territory, Italy is nearly completely dependent on imports for its energy production. Most of the electric power in the country is made using imported natural gas; Italy has no nuclear plants although it does import nuclear energy from France and Switzerland. Renewable energy exists mainly in the form of hydroelectric plants in the north of the country. Italy has been very slow in moving towards the new renewable technologies: wind and photovoltaics. So, high prices of fossil fuels badly damage an economy that needs to export manufactured products to survive. With high energy prices, Italian products become more expensive and therefore less competitive on the international market. So, exports decline and Italy is less and less able to pay for energy imports. In addition, high oil prices are also adversely affecting tourism; a traditional source of revenue for the Italian economy. With less money available and more expensive energy imports, what ensues is the deadly spiral of economic decline which we are seen in the data.

From here, I could tell you a lot on how Italians are reacting (actually, non-reacting) to the situation. In this hot summer of 2008, Italians are enjoying their vacations. They seem to be worried mainly about sports and convinced that all problems are due to crime, speculation and immigration. Most people seem to believe that the Euro currency is the culprit for the decreasing purchasing power their salaries. Nobody is discussing the possibility of an economic collapse. Whenever some data show that the economy has improved a bit, it is hailed with enthusiasm in the front pages of the newspapers. When the data show that it has gone down (much more often) it is written in small characters in an inner page. Italians may be unpleasantly surprised on coming back from their vacations, this september.

The government of Mr. Berlusconi has been elected a few months ago on the basis of plenty of promises that - as usual for governments - will be hard to maintain. Besides cutting deeply on expenses, including privileges of public employees, the government seems to think that all problems can be solved by a grand plan of public works that includes new nuclear plants, a giant bridge over the strait of Messina, high speed railways, highways, waste incinerators and more. The plan seems to be considered a good idea by most people, including the main opposition parties. But, of course, a lot of energy will be needed to carry out the plan. This energy will have to be imported and someone will have to pay for it. It doesn't really matter whether the money will come from the government or from private funds, it is money that Italy doesn't have. And you know what happens if you keep spending money you don't have.

A slow collapse is a decline and a fast decline is a collapse. Whatever it is, as an Italian citizen, I am seeing it unfolding right around me. At least, I am fortunate enough in not being also an employee in a low cost airline.

Italy's Economy Contracts Again in Q2 2008

According to preliminary data from national statistics office ISTAT this morning Italy's GDP fell 0.3 percent in the second quarter compared with the first three months of the year and was unchanged year-on-year (ie zero percent annual growth). Final data and a detailed breakdown for the second quarter will be released on Sept. 10. In the first quarter, GDP rose 0.5 percent quarter-on-quarter and increased 0.3 percent year-on-year.




European Central Bank President Jean-Claude Trichet yesterday said economic growth will be "particularly weak" through the third quarter after policy makers left borrowing costs at 4.25 percent, so it is not unreasonable to anticipate a second consecutive quarter of negative growth in Q3, and hence in all probability Italy is now in recession.



Italian consumer confidence in July slumped to the lowest since 1993, when the country was also - we should note - in a recession following abandonment of the EMS. The Isae Institute index fell to 95.8 from 99.9 in June. In November 1993, the 26-year-old index hit a record low of 95.4.




Italy's manufacturing sector contracted for the fifth straight month in July, posting its weakest performance in over six-and-a-half years, according to the results of the latest Markit/ADACI PMI survey. The Markit Purchasing Managers Index dropped to 45.3 from June's 46.9, sinking further below the 50 divide between growth and contraction.



If we look at the seasonally adjusted output index we can see that Italian industrial output has been dropping almost continually since the November/December 2006 peak, and we might well ask ourselves the question, with energy prices up where they are when will this index ever rise again abover the late 2006 peak?

The Italian services sector purchasing managers' index also in fell in July, to a seasonally adjusted 45.6 in July from 48.5 in June. So the contraction continues, and even accelerates into the third quarter of the year.





And Italian retail sales declined in July for the 17th month in a row. The seasonally adjusted PMI for retail sales was at 38.2, up slightly from the 36.3 shocker registed in June.



Public Spending Cutback?

Earlier this week Italian Prime Minister Silvio Berlusconi survived a confidence vote in parliament over plans to raise taxes on oil companies and reduce salaries for mayors and public employees in a bid to balance the budget by 2011. Italy currently has a debt to GDP ratio of around 105% - way above the official EU limit of 60%. Italy is commited to at least achieving the common target of a balanced budget by 2011, but this looks to be fraught with difficulty to me, given Italy's very poor economic performance and all the negative headwinds going forward.

Berlusconi managed to clear this particular hurdle this time round without too much difficulty, since his allies in the lower house of parliament voted 312 to 239 to approve the necessary amendments to current legislation, and then passed the entire package 314 to 230.

The budget increases the corporate income-tax bracket for energy companies to 33 percent from 27.5 percent and raises taxes on oil and gas inventories. Banks and insurance companies also will pay more. Finance Minister Giulio Tremonti has called the measures ``Robin Hood'' taxes.

On the spending front, the government plans to cut city, town mayor and local administrator salaries by 20%. It is not clear how much of this is serious and how much "window dressing", but since the government estimates that budget cuts at ministries will generate savings of 9 billion euros ($13.9 billion) next year, the salaries of more than a few mayors and public dignataries must be involved.

The broader economic policy outlined in the budget aims at boosting revenue and cutting spending by 36 billion euros over the next three years. And even with these cuts the deficit is expected to widen to 2.5 percent of gross domestic product this year from 1.9 percent last year, largely as a result, of course, of the current recession.

Now, if the Italian government are serious about this, and we will need to watch and wait to know since past performance is far from reassuring, then it will leave us with the clear possibility going forward of seeing an Italy with negative GDP growth in full years 2008, 2009 and 2010. Since the little average underlying net growth that Italy manages to achieve these days will largely be undermined by cut backs in government spending and the impact of continuing high energy prices on headline GDP growth.




So the big question is: are the Italian people ready for three consecutive years of falling living standards and cuts in everything, or is Berlusconi going to have trouble holding his coalition together?

Italian Industrial Output Falls Again In June

Italian industrial output stagnated in June, and was down 1.8 percent from the level of June 2007.



In seasonally adjusted terms Italian industrial output rebounded slightly and grew 0.1% month-over-month after falling 1.4% in May. But if we come to look at the seasonally adjusted output index we can see that output has been dropping almost continually since the November/December 2006 peak.