INVERSIONS AND AVERSIONS: EUROPE´S ECONOMY IS MORE WORRYING THAN AMERICA´S YIELD-CURVE INVERSION / THE ECONOMIIST

Inversions and aversions

Europe’s economy is more worrying than America’s yield-curve inversion

Bond markets are sounding warnings on both sides of the Atlantic. But the message is much worse in Europe





ON MARCH 22ND Germany’s worst manufacturing survey in seven years sent investors rushing to buy bonds. For the first time in three years yields on German ten-year government debt fell below zero, meaning that investors are willing to pay to hold it. And later that day in America the yield on ten-year Treasury bonds fell beneath that on the three-month variety. The last time that happened was 2007, one of the “inversions” in bond-market yields that preceded each of the past seven American recessions.

These bond-market blues are fuelling concern that the global upswing in 2017 and 2018 is making way for a slump. There are reasons to worry. Tax cuts have boosted demand in America but will not be repeated; China has slowed; the trade war grinds on. However, indiscriminate global gloom is a mistake. America and Europe are in vastly different positions. Only Europe should be a cause of deep concern.

America’s inverted yield curve suggests that the Federal Reserve’s interest-rate rise in December, its ninth in three years, will be its last for now. But that does not mean recession is imminent. The Fed has recognised—belatedly—that the risks to growth have risen, as Jerome Powell, its chairman, confirmed on March 20th. And America is in a position of relative strength. Unemployment is low; consumers are flush with cash; and underlying inflation is close to the Fed’s 2% target (see article).

Europe is in a tighter spot. Although America may have finished raising rates, the euro zone has never got started. Growth this year could be little more than 1%. Wage growth is muted, inflation is below target and Italy is in recession. With rates close to zero, the response of the European Central Bank (ECB) has been to postpone monetary tightening and to provide more cheap funding for banks. Its willingness to do more may be limited. On March 27th Mario Draghi, its head, said that the ECB sees its inflation forecast as having been “delayed rather than derailed”.

The primary cause of Europe’s slowdown—and particularly Germany’s—is falling global trade, notably China’s slackening demand for goods. The continent relies on Asian markets far more than America does and China slowed in late 2018. Policymakers there are now trying to stimulate the economy. A rebounding China could yet come to Europe’s rescue, especially if Donald Trump and Xi Jinping strike a trade deal.

That the fate of the euro zone should depend on Beijing and Washington is a dereliction of duty. It is an economic superpower with its own fiscal and monetary levers. It should be countering downturns itself. More unconventional monetary stimulus will be hard thanks to northern Europe’s horror of appearing to create money to finance deficits. But the euro zone has room for fiscal stimulus. Its aggregate budget deficit was just 0.6% of GDP in 2018. Its net public debt was 69% of GDP.

Because Europe lacks a centralised fiscal policy—itself a failure of politicians—the onus is on individual countries. Those with healthy finances, such as Germany and the Netherlands, could enact a co-ordinated budgetary loosening. They should focus on tax cuts and boosting public-sector infrastructure and defence spending. Unless they do, the euro zone risks falling back into stagnation—the trap it faced after the financial crisis. For the euro zone to tolerate that risk in the name of prudence is self-defeating. Astonishingly, the chances are that it Will.