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Europe Is Jumping the Gun By Removing Stimulus!

Economics / Economic Austerity Jul 23, 2010 - 06:10 PM GMT

By: Sy_Harding

Economics Best Financial Markets Analysis ArticleLast winter, global central banks were in agreement, assuring markets that stimulative policies would remain in place until a durable global economic recovery is secured, that “pre-mature withdrawal of stimulus would be avoided, and when the time arrived the withdrawal will be globally co-operative and undertaken in a coordinated way.”


It sounded easy at the time, but it’s turning out to be difficult if not impossible.

Worried about the contagious debt crisis in Greece and Spain, several European countries adopted ‘austerity’ measures a month or so ago, aimed at lowering their record budget deficits, even as economic reports showed the economic recovery in Europe was stalling. The measures include cuts in government spending, layoffs, and increased taxes.

The G-20 group of industrialized nations met in Toronto a few weeks ago, again while indications were growing that the global economic recovery might have some problems. European economic reports still pointed to the recovery stalling in Europe. China was worried about its housing bubble and taking steps to let air out of the bubble. Economic reports in the U.S. were showing the U.S. housing market had collapsed again once the rebates to home-owners expired. But apparently more concerned about the debt crisis than about economic recovery, the G-20 group agreed to a resolution calling for its member nations to cut their annual budget deficits by 50% within three years.

On Friday the president of the European Central Bank (ECB) said government spending in global industrialized nations needs to be cut now, and tax increases imposed immediately. He warned that central banks that want to prolong the stimulus efforts are wrong.

Economic reports in Europe this week provided some support for that view, showing that manufacturing output and consumer confidence in Europe picked up some in July, raising hope that Europe’s slowing economic recovery is back on track.

However, in the U.S. the Federal Reserve faces different circumstances, and has a different opinion regarding stimulus efforts.

The U.S. housing market has indeed been collapsing again since April, home sales plunging much more than expected after the home-buyer rebates expired. Manufacturing, consumer confidence, and retail sales were unexpectedly down in June and July. Economists and the Federal Reserve have been forecasting that U.S. economic growth would slow in the second half of the year. The recent indications that the slowdown began in May and June, has them ratcheting their numbers down not only for the 3rd and 4th quarters, but for the already completed 2nd quarter.

No wonder then that the U.S. Federal Reserve has views and opinions that are completely opposite to those of the Euro-zone central bank and most of the G-20 nations.

Fed Chairman Bernanke said in testimony before Congressional banking committees this week that the U.S. economy faces “unusual uncertainties” and needs fiscal support and stimulus to remain in place. Going further he said the Fed will be willing to take measures to expand liquidity further if the U.S. recovery stumbles more than expected.

It’s difficult to imagine that Europe can consider a durable recovery is so assured that it can begin tightening fiscal policy and removing government stimulus spending when the world’s largest economy considers itself to still face “unusual uncertainties” and a recovery that is stumbling sooner and more significantly than expected.

Meanwhile, the long-awaited results of the stress tests on European banks was released on Friday and also raises questions about the ECB’s calls for reversing stimulus efforts at this point in Europe’s recovery.

The headline news is that of the 91 European banks that were stress-tested to determine if they are sound enough to handle Europe’s ongoing debt crisis, ‘only’ 7 failed, and most of those are smaller banks in Greece and Spain that do not trade on stock markets.

Critics have said all along that the stress tests were not real tests but were designed to reassure financial markets, delaying the day of reckoning.

The results were deliberately timed to be released after European stock markets had closed for the weekend, giving European finance ministers and regulators the weekend to talk up how positive the results were before European markets open on Monday.

Much will probably depend on their success in doing so since the test results have raised more questions in many quarters than they answered, and the real test of their believability will come over the next few weeks in the interbank lending markets once the initial kneejerk reaction to the report subsides.

Meanwhile, the effect of removing stimulus efforts, cutting government spending and raising taxes, is bound to be a negative for European economies at a time when there are more than enough uncertainties still in place.

The U.S. Fed certainly believes it is too early to reverse stimulus and is even poised to provide more if necessary.

Sy Harding is president of Asset Management Research Corp, publishers of the financial website www.StreetSmartReport.com, and the free daily market blog, www.SyHardingblog.com.

© 2010 Copyright Sy Harding- All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


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