Political tensions throughout Europe could lead to a serious economic slowdown

Hamish McRae

The European economy is stuck, and this has nothing to do with Brexit. Try this question: out of the four largest European economies – Germany, the UK, France and Italy – which grew fastest in the second half of last year?

The answer is almost certainly the UK. We don’t have the final figures yet for all the countries, but we know that Italy was in recession, with the economy having shrunk in both quarters. Germany shrank in the third quarter, and economists expect it to have grown very slowly, if at all, in the fourth. France grew by 0.3 per cent in each quarter. And the UK grew by 0.6 per cent in the third quarter and is expected to have grown by about 0.3 per cent in the final three months – we get figures this coming week.

This is not a political observation, and in any case figures always get revised so we should not take them too seriously. But economic stagnation is a fact. Last week the European Commission acknowledged the slowdown, cutting its forecast for the eurozone to 1.3 per cent. The official gloss on this is that it’s temporary. Pierre Moscovici, commissioner for economic and financial affairs, said that “the slowdown is set to be more pronounced than expected last autumn,” but he expected that “growth should rebound gradually in the second half of this year and in 2020”.

That may be right, and it is true that the problems of Germany are in fair measure the result of exceptional factors. One was the new car emissions brought in during the autumn, and more generally the switch away from diesel cars. Another was the slowdown in the Chinese market, something that has also hit Jaguar Land Rover. And the incipient trade conflict with America does not help a country that is overly dependent on exports to sustain demand. Germany is running a current account surplus equivalent to 8 per cent of GDP.

But this last number underlines the tension within the European economy. Germany is busy selling to everyone else, but is not importing as much in return. Other weaker European nations, notably Italy, feel under pressure as a result. The new populist Italian government is lashing out, most recently not against Germany but against France. Last week, the Italian deputy prime minister, Luigi Di Maio, met French “gilet jaunes” protesters in Paris, something likely to annoy Emmanuel Macron, the French president.

The French response, recalling its ambassador in Rome, is one of those classic diplomatic manoeuvres that countries take when they are cross. It is a long way short of breaking off diplomatic relations, but it is not the sort of thing that happens among supposedly friendly nations. A number of countries, and the EU, withdrew their ambassadors in Moscow after the Salisbury poisonings. Turkey withdrew its ambassador in Israel after deadly clashes on the border between Israel and Gaza last year. But I cannot think of a single instance when an EU member has done this to another EU member.

So what is really happening? This is not really just about Italy and France. It is about the failure, real or perceived, of the European economy to deliver higher living standards for many of its people. Italy has been particularly hard hit, with 20 years of barely any increase in living standards, but many people in France, witness the appeal of the gilets jaunes, feel similarly disadvantaged.

This dissent is not unique to continental Europe. There is plenty of it in the UK, the US – indeed right across the developed world. But it has become particularly corrosive across the continent. Unless Europe can demonstrate greater economic vibrancy, the protests will escalate. And this is why the new evidence of stagnation is so alarming to the European high command.

Looking ahead, it is possible that the muddle through policies will continue, and that there will be some speeding up of activity in the second half of this year. But it is equally possible that the world economy will head into a serious slowdown, and if that happens continental Europe will be particularly vulnerable.

There are some policy levers that Europe can pull. Germany could cut taxes and spend more on infrastructure. Its government is in surplus, so there is the headroom to do that. The European Central Bank could go back to printing money again, buying bonds and injecting cash into the economy that way. But if ultra-easy monetary policy has created only the most modest of recoveries, it is a bit optimistic that think that continuing that policy will help much if there is a wider global downturn.

None of this has much to do with Brexit. It is all to do with the difficulties of pushing through reforms in France and Italy, and the rigidities imposed by having a single currency. There is no magic wand that can fix things. But what is clear is that Europe will, in any case, have a difficult summer ahead, and the rougher the Brexit, the more difficult it will become.