Hungary risks missing its 2010 target for adopting the euro unless its government reduces the budget deficit and improves policy co-ordination with the central. This at least is the view of the OECD as expressed in its annual report on Hungary out today. According to the OECD:
“the key conclusion is that further reductions in the general government deficit have to come about through spending cuts because of the already high level of taxation. Failure to reach deficit targets have damaged credibility in the recent past and the Chapter discusses ways of providing more realistic budget targets, more transparent fiscal planning, better assessment of progress over the budget year and improved estimation of outcomes.”
I can think of two pertinent questions to put to the authors of the report: will the euro still be around by the time we get to 2010 (in its present form, I doubt it), and if it is, are they sure that it’s a good idea (looking at what has happened eg to Portugal, Greece and Italy) for Hungary to join.
Portugal has been given three years (till the end of 2008) to resolve its excess deficit situation. Portugal, like Italy only with less press attention, is in the midst of a serious economic slowdown. The decision to give Portugal slightly more time may be the result of a number of factors: it may be that they are perceived to be doing more to correct the situation than the Italian government is, the accumulated deficit in Portugal (68% GDP) is much less than the Italian one (106% GDP), and again, being a little less strict with Portugal counters the ‘you only chase small countries’ argument.
“We are proposing giving the Portuguese government three years to correct its deficit,” Amelia Torres, a spokeswoman for EU monetary affairs commissioner Joaquin Almunia, told reporters on Wednesday.
As a member of the 12-nation eurozone, Portugal is bound to hold its annual public deficit to under three percent of output under terms of the 1997 Stability and Growth Pact.
Despite warnings from Otmar Issing that “The outlook for price developments has got decidedly gloomier since June”, the situation is far from uniform and far from clear. Yesterday Italy’s national statistical office, ISTAT, announced that annual inflation dropped in June to 1.8%, from 1.9% in May. This was Italy’s lowest annual reading since 1999. Is deflation starting to raise its ugly head? It is too soon to know, but the Italian economy is certainly in its deepest crisis in a generation, and nothing is excluded. Brad Delong posted yesterday about ‘Dials Moving into the Red Zone‘, right now Italy has no shortage of these.
Bloombergs Mathew Lynn on why we need a rate cut regardless of fluctuations in the value of the euro. (Also see the Liquidity Trap post on Afoe yesterday, I, like Lynn, don’t agree we have reached the point where monetary policy is useless, at least not yet we haven’t).
“The ECB appears to have little comprehension of the task it faces right now. With the rejection of the European Union constitution by the French and Dutch electorates, and with Italian politicians openly calling for the return of the lira, the future of the single currency is no longer assured.”
“This isn’t the moment for small-minded technical arguments about how far exchange-rate changes boost or depress an economy. It is the moment for bold action. At some point, people will tire of permanently low growth. If the euro area can’t perform better in the next five years, there may not be a euro for the ECB to defend”.
There is a curious combination of expectations right now. The euro is rising, principally because of preoccupations about the US trade deficit and the associated sustainability issues, but also because there seem to be signs of a slightly better collective performance later in the year. This assessment may well be accurate. So what this means is that growth may still be slowing, but it may be about to pick up. Hence downward revisions for this year are quite compatible with mild optimism in the near term. Of course this situation will not be the same everywhere, and there are still no encouraging signs from Italy.
Economic growth in the euro region will fall short of official forecasts in 2005 as oil hovers near a record, consumer confidence stagnates and Italy struggles with recession, European finance ministers said.
Finance ministers are counting on growth in the 12-nation economy of only 1.3 percent, less than the 1.6 percent predicted by the European Commission in April, Luxembourg Prime and Finance Minister Jean-Claude Juncker said.
The euro is trading this morning at around $1.2150. The big issue seems to be the US trade deficit, which is currently outweighing all other considerations. Still what goes down can come up, and what goes up……
The dollar fell to the lowest in two weeks against the euro, the biggest move of any currency, on expectations a government report tomorrow will show the U.S. trade deficit was near a record.
The U.S. currency has retreated 2.3 percent against its European counterpart since reaching a 14-month high on July 5. A rising deficit means more dollars are leaving the country to pay for imports. The dollar also weakened against the yen after Japan’s Nikkei 225 Stock Average rose to a three-month high.
“The dollar all of a sudden looks shaky; the deficit will be significant,” said Callum Henderson, head of global currency strategy in Singapore at Standard Chartered Plc. At the same time, “stock inflows are undoubtedly helping the yen. It makes sense for the dollar to weaken.”
It may seem relatively trivial to be reporting on this after what has happened today in London, but, as they say, life goes on.
First the Bank of England.
The Bank of England left its benchmark interest rate unchanged after a series of explosions hit London buses and underground stations. The central bank’s Monetary Policy Committee kept the repurchase rate at 4.75 percent.
And now the ECB:
The European Central Bank kept its key interest rate unchanged at 2 percent Thursday despite worries about growth and the unsettling news of apparent terrorist attacks in London.
Bank President Jean-Claude Trichet said he did not believe the attacks “will have any serious impact” on markets. London’s benchmark stock market index was down 2.3 percent by early afternoon after sinking as much as 4 percent earlier in the day.
The FT this morning discusses the state of the bond markets for the ‘weaker’ eurozone economies: Italy, Greece, Portugal. As expected interest differentials between government debt in these countries and German debt is widening, but only slowly. Italy is being evaluated at present as the weakest member. As the FT points out the temperature of the water will be tested again this week when Portugal issue a new batch of debt:
“The expected launch next week of a new 10-year benchmark bond by Portugal, whose credit rating was recently downgraded by Standard & Poor?s, is set to test investors? appetite for debt issued by weaker eurozone members.
Portugal, which on Friday appointed bankers to manage the syndicated bond sale, will be competing for demand against France, which enjoys the highest credit rating available and plans to auction a new 10-year bond of its own next week.
Bond spreads of Portugal, Italy and Greece – the three weakest countries in the eurozone – widened marginally on the back of this. On the week, the spreads of bonds of Portugal, Italy and Greece, widened by just 1.3bp, 0.5bp, and 0.5bp, to stand at 8.3bp, 21.5bp, and 24.5bp, respectively against Bunds.
But they have been widening for several months. Spreads of Italian 10-year paper, for instance, have doubled from 11bp to 21.5bp against the Bund in the last four months.“
I’ve been reasonably quiet about the evolution of the euro during the last couple of weeks. The movement has been a pretty volatile tug-of-war between the general downward drift, and resistance to change. Today there seems to have been a decisive push on one side (maybe because it was a Friday afternoon on a holiday weekend), and the currency seems to have decisively broken the $1:20 level.
There are various reasons why this might have happened, in particular the Federal reserve quarter point rise yesterday plus good manufacturing data and consumer confidence readings for the US economy. And this despite a little bit of rather better news on the eurozone economy front (here, here) . As I have been saying, this is going to be an assymetric process: good news on the US front, or bad news on the eurozone one will always dominate given the underlying fundamentals, and the weaknesses revealed by the constitution votes and the dithering on the SGP. Next frontier: $1:15 probably, but I have no idea how long it will need to get there. It depends on the flow of news. Meantime the fall has pluses and minuses. It will help exporters, but the rise in oil prices will be compounded, and this will only hinder any possible revival in domestic demand.
This piece is a fair and reasonable assessment of the state of play to date.
German Finance Minister Hans Eichel said today that the German deficit would be over the 3 percent limit for the fourth consecutive year this year, and would remain there at least till 2007.
The latest data, from a meeting with state finance ministers, projected this year’s deficit to reach 3.7 percent. In addition, the country is projected to maintain a deficit of 3.4 percent in 2006 and 3.1 percent in 2007, the finance ministry said. On Wednesday, the IMF said as part of its regular review that it expected Germany’s budget deficit this year to be 3.8 percent of
GDP this year.