• Unemployment remains at 11% until at least 2018 and is major drag on growth
• Growth divergences are now within core countries , rather than periphery
Although the Eurozone is now growing it is still expected to lag well behind other major economies during the recovery, according to the spring EY Eurozone Forecast (EEF). The forecast shows that Eurozone GDP in 2018 will be only about 5% above its pre-financial crisis peak in Q1 2008. In contrast, EEF expects UK and US GDP to be 12% and 23 % respectively higher over the same period.
After two years of decline, the forecast predicts growth of 1% in the Eurozone 2014, followed by a pickup to 1.4% in 2015, which is still weak, and then only slightly faster growth of about 1.6% a year in 2016-18. However, there are reasons for cautious optimism as there will be a gradual recovery in consumer spending and business investment.
The return to modest growth and stabilization in debt burdens should mean the possibility of a Eurozone breakup recedes further The accession of Latvia earlier this year and the probable accession of Lithuania next year have given a welcome boost to faith in the single-currency zone.
Divergence extending to core countries
The forecast predicts a variable pace of recovery across different member states. Divergence is nothing new, but the divide is no longer simply between the core and peripheral countries. Some of the peripheral countries that have implemented painful reforms in recent years, notably Spain and Ireland, are benefiting as world trade picks up. EEF now expects Irish GDP growth of 1.8% this year, while Spain is set to return to growth of 0.8%.The fastest growth in the Eurozone is expected to be seen in the newest member, Latvia, which is projected to grow by over 4%, followed by Estonia at 2.5%.
By contrast, GDP growth in France is forecast at only 0.7%, below the Eurozone average. Other core countries, including Belgium, the Netherlands and Finland, are also set to experience very subdued growth, adding to concerns about their medium term prospects.
Deflation still a threat to growth
As a result of the ongoing deflationary threat, the need for the ECB to be prepared to loosen monetary policy further remains high. Latest inflation data show that the danger of deflation is very real and even assuming a steady recovery unfolds we expect inflation to remain well below the ECB’s target for some time.
EEF forecasts Eurozone inflation of just 1.1% on average in 2014, with a modest uptick to 1.5% in 2015. Deflation would increase the real value of the debt stock, while at the same time depressing the tax revenues that service it. As a result, deleveraging would need to happen via further austerity, and in a worst case scenario, debt restructuring.
Unemployment will remain high
The unemployment rate at the Eurozone level has flattened out at about 12% in recent months and the countries with the highest rates of unemployment, such as Greece and Spain, are reporting much smaller rises. But the weak recovery that EEF predicts for the Eurozone, combined with businesses trying to improve profitability and productivity in the face of tight credit conditions, means that unemployment will fall only very slowly in the next two years.
The forecast shows unemployment in the Eurozone averaging 12% in 2014, slightly lower than 2013, before edging down gradually to 11% in 2018. But, as with GDP growth rates, wide labor market divergence among member countries will persist. The jobless rate in Greece is projected to climb to 28% this year, before falling slowly to just under 25% in 2018, while the Spanish rate is expected to fall to 25% this year, and then to 23% in 2018. In contrast, Austria and Germany will continue to have the lowest unemployment rates, at about 4.5% and 5.3% respectively, over the 2014-18 period.
While current levels of unemployment in some Eurozone countries are worryingly high, youth unemployment is an even greater concern, especially in the periphery. Spain and Greece have youth unemployment rates of over 50%, while Slovakia, Italy and Portugal have rates of above 30%.
“The Eurozone has come a long way in the last 12 months and the risk of a breakup of the currency union now seems to have subsided. However, risks such as deflation, growing divergence in the core countries, and the social costs of high unemployment persist, and the outlook for medium to long term growth remains weak by historical standards”, says Bogdan Ion, Country Manager Partner, EY Romania.
"Regarding Romania’s economy, the European Commission estimates an increase of 2.3% in 2014, well above the growth forecast for the Eurozone (1.2%) and above the growth in the EU (1.5%). It is growing at a good pace, but still insufficient in view of the structural differences of the Romanian economy. Meanwhile, average annual inflation is estimated by the Commission to slow to 2.4% in 2014, while unemployment is estimated at 7.2% in 2014, with prospects of decline starting with 2015", concludes Bogdan Ion.
About the EY Eurozone Forecast
The forecasts and analyses presented in the EY Eurozone Forecast are based on the European Central Bank’s model of the Eurozone economy. This model embeds state-of-the-art economic theory and techniques and is used by the ECB to produce its quarterly forecasts of the euro area.
About EY Romania
EY is one of the world's leading professional services firms with approximately 175,000 employees in 728 offices across 150 countries, and revenues of approximately $25.8 billion in 2013. Our network is the most integrated at global level and its vast resources allow us to help our clients benefit from every opportunity. In Romania, EY has been a leader on the professional services market since its set up in 1992. Our over 450 employees in Romania and Moldova provide seamless assurance, tax, transactions, and advisory services to clients ranging from multinationals to local companies. Our offices are based in Bucharest, Cluj-Napoca, Timisoara, Iasi and Chisinau. From 1 July 2013, Ernst & Young becomes EY, the logo has been modified in response to this change and the company's new tagline becomes "Building a better working world". The new visual identity reflects the new strategy of EY, Vision 2020. For more information, please visit www.ey.com.