Two cheers for the global recovery, but doubts remain in the Euro zone

Worries are growing about some of the countries in the Euro zone slipping back into double dip recession. By convention, a recession is when national output (GDP) has fallen for two successive quarters. But this is far from being news. In a substantial number of economies, output is lower than it was not just two quarters ago, but three whole years ago, at the start of 2011.

The quarterly numbers have wobbled around up and down over this period, but they are now unequivocally below the 2011 figure in Greece, Ireland, Italy, Portugal and Spain. No surprises there. But the list goes on to include Finland, the Netherlands and the Czech Republic.

An article in the latest American Economic Review by Reinhart and Rogoff puts the events into a longer historical perspective. These are our old friends, one of them a former Chief Economist at the IMF, who declared that when the ratio of public debt to GDP above the 90-100 per cent range, the likelihood of a financial crisis rose sharply. There turned out to be a mistake in their calculations. But this time round, their numbers seem sound. They take 100 examples of financial crises, across time and countries, and look at the subsequent recovery path of GDP. In no fewer than 45 per cent of cases, there was a double dip recession. So the current situation is somewhat better than this across the developed world.

From a historical perspective, there is more good news. Reinhart and Rogoff calculate that on average, following a financial crisis, it takes no less than eight years for GDP to regain its previous peak levels. The median, the figure where half the examples are below it and half above, is six and a half years. The difference between the average and the median is accounted for by a small number of very long recessions, which push up the average.

The latest estimates of GDP in the developed countries now suggest that in most countries the peak level of output was reached in the first half of 2008. By the time of the collapse of Lehman Brothers in September of that year, the West was already in recession. The falls in GDP were pretty sharp, but by the autumn of 2009, growth had resumed almost everywhere. In early 2014, some six years on from the GDP peaks of early 2008, output is now higher in the majority of OECD countries.

The recent financial crisis and the Great Recession of the 1930s are the only examples of truly global crises in well over 100 years. Yet, tentative though it has been, the pattern of recovery seems better than the historical average, despite the dramatic nature of the crash. A key reason is that policymakers did learn from the 1930s, and outside the Euro zone carried out expansionary monetary policies. Without a change of heart by the Euro’s monetary authorities, experience suggests the recession will simply continue, especially in the Mediterranean countries where GDP remains far below the 2008 peak.

As Published in City AM on Wednesday 21st May 2014

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