some webpages useful for teachers of intermediate macroeconomics:

The Current Macroeconomic Situation: Europe

(2002-01-22) For most of 2001 European policymakers did not worry about the recession gathering strength in the rest of the world economy. Why they did not worry is unclear. It is true that Europe as a whole does not have that strong trade links with the rest of the world. But since the Great Depression it has been clear that market psychology--confidence--echoes with great speed around the globe, and there was no reason to imagine that European investors and consumers would be immune to fear and depression elsewhere.

As Rudiger Dornbusch has pointed out, Europe is ill-prepared to fight recession. Its brand-new European Central Bank is much more interested in demonstrating its anti-inflation credibility than it is in maintaining internal balance and avoiding recession. The restrictions put on government spending at Maastricht work to prevent any reasonable use of fiscal policy as an inflation-fighting tool. Across a wide range of forecasters there seem only two views of Europe. One is that of avoiding a recession, but just. The other, shown in the Goldman forecast, takes a more pessimistic view of the world and hence also of Europe.

Europe came late to recognizing that it was part of the world slowdown. It is not clear what persuaded policy makers that Europe somehow could go its own course. True the trade share in GDP is just 10% and hence external linkages to a slowing world via that channel, are not very important. But it is also clear that the confidence link—both business And household confidence—runs high. Call it the CNN global effect. Nobody is left out of that loop and it has operated to spread reduced spending growth to Europe.

Europe’s problems are reinforced by a stubborn central bank and, on the fiscal side, by Maastricht limitations on the budget. It is extraordinary to hear policy makers that they allow automatic stabilizers to go forward. Imagine they were not, Hoover-like raising taxes to keep budgets balanced. Automatic stabilizers are a bare minimum; more would be altogether appropriate to be sure this world recession does not get out of hand. With Japan dead in the water, Europe is simply too large to be a free rider on US policy. That attitude risks sinking the boat.



Table 7 Euroland and UK 2002 Growth

Euroland Germany France Italy Britain

Consensus
IMF
OECD
Morgan Stanley
Goldman

1.5
1.3
1.5
0.8
0.7
0.7
0.8
1.0
1.0
0.4

1.2
1.3
1.6
1.6
0.6
1.1
1.2
1.2
1.5
1.1
1.7
1.8
1.7
1.5
1.4

Thus there is good reason to be pessimistic about European growth over the next year. While recovery is likely to start in the United States relatively soon, it is hard to see unemployment in Europe a year hence being any lower than it is today.

(2001-10-20) In the aftermath of the September 11, 2001 terror destruction of New York's World Trade Center, all forecasts of what European economic growth and unemployment would be over the next two years went out the window. The terror attack was an adverse shock to business confidence--reducing future investment spending. The terror attack was an adverse shock to consumer confidence--reducing future consumption spending. But how big a shock? Nobody knows.

In the immediate aftermath of the September 11 terror attack the European Central Bank [ECB] cut its short-term interest rate target by 50 basis points, from 4.25% per year to 3.75% per year. But the ECB let its October meeting pass without cutting interest rates further. The failure to cut interest rates further puzzled many: there was little if any increase in real GDP in Europe in the second and third quarters of 2001, and everyone expects a fall in GDP in the fourth quarter. Such near-certainty of a recession in progress would usually prompt further interest rate cuts. It was not fear of rising inflation that triggered resistance to further rate cuts: the Economist reported that euro-zone inflation had fallen from an annual rate of 3.4% in May to an estimated 2.4% in September, and that J.P. Morgan was forecasting that euro-zone inflation would fall to 1% by the end of 2002.

The failure to cut interest rates was not generated by the ECB's belief that increased government spending would provide a fiscal stimulus. Europe's governments are tied down by their fiscal stability pact.

The failure to cut interest rates was not generated by the ECB's fear that European unemployment is approaching unsustainably low levels. Germany's unemployment rate was 9.4% in September 2001. The French unemployment rate has not been falling.

Before September 11, there had been hope in Europe for the first time in decades that the next decade will bring a reduction, not an increase in unemployment. Changes in policy are making the European labor market more flexible, and in the long run making it easier for firms to change the number of workers they employ should make it easier for workers to find jobs and lower unemployment. Western Europe is perhaps half a decade behind the United States in its adoption of data processing and data communications technology, and so the productivity growth acceleration experienced by the United States in the late 1990s should be visible in western Europe in the decade of the 2000s.

With the formation of its new currency, the euro, monetary policy in Europe is now being made by a new institution, the ECB. It is being very closely watched as it establishes its operating procedures and its fundamental rules of thumb to guide policy. Perhaps the ECB is correct in its assessment of the situation. Perhaps European business and consumer confidence is already rebounding, and Europe's economy will grow rapidly next year even without interest rate cuts. But there appears to be little evidence in support of such a scenario. This observer, at least, fears that the ECB fails to understand the downside recessionary risks inherent in the current macroeconomic situation. The assembled finance ministers of the twelve European Union nations that have adopted the euro seem to agree. According to the Wall Street Journal, they have "kept the heat on the ECB to lower interest rates, breaking the rule that politicians should not meddle in monetary policy decisions."

(2001-06-15) As of the late spring of 2001, economic growth in the eleven countries belonging to the European Monetary Union--and having the newly-formed "euro" for their principal currency--was slowing but not slowing as fast as people had feared. Rising oil prices and rising interest rates (in large part a result of the fear on the part of the newly-formed European Central Bank that its currency, the euro, had depreciated too far) had reduced growth in late 2000 below what had been forecast, and real GDP growth for 2001 was forecast at between 2.0 and 2.5 percent.

There was certainly room for economic expansion in Europe. The preceding year had seen consumer prices throughout the euro zone rise by less than 2 percent. Economic forecasters were projecting 3 percent real GDP growth for 2001. Unfortunately, such a rate of growth would have little or no effect at reducing European unemployment, which remained stuck near 10 percent. The challenge for European policy remained one of avoiding rises in inflation while attempting to reduce western Europe's distressingly high and stubborn rate of unemployment.

For the first time in decades in Europe there was hope that the next decade will bring a reduction, not an increase in unemployment. Changes in policy are making the European labor market more flexible, and in the long run making it easier for firms to change the number of workers they employ should make it easier for workers to find jobs and lower unemployment. Western Europe is perhaps half a decade behind the United States in its adoption of data processing and data communications technology, and so the productivity growth acceleration experienced by the United States in the late 1990s should be visible in western Europe in the decade of the 2000s.

With the formation of its new currency, the euro, monetary policy in Europe is now being made by a new institution, the European Central Bank. It is being very closely watched as it establishes its operating procedures and its fundamental rules of thumb to guide policy.

(2001-03-15) As of the winter of 2001, economic growth in the eleven countries belonging to the European Monetary Union--and having the "euro" for their principal currency--was slowing. Rising oil prices and rising interest rates (in large part a result of the fear on the part of the newly-formed European Central Bank that its currency, the euro, had depreciated too far) had reduced growth in late 2000 below what had been forecast.

There was certainly room for economic expansion in Europe. The preceding year had seen consumer prices throughout the euro zone rise by less than 2 percent. Economic forecasters were projecting 3 percent real GDP growth for 2001. Unfortunately, such a rate of growth would have little or no effect at reducing European unemployment, which remained stuck near 10 percent. The challenge for European policy remained one of avoiding rises in inflation while attempting to reduce western Europe's distressingly high and stubborn rate of unemployment.

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