Can an economy after a long period of recession to achieve high primary surpluses in order to service a debt that has climbed close to 180% of GDP? Is it preferable to continue a restrictive policy instead of an expansive strategy for possible accelerated growth of the National Product? And finally, what is best for the interests of the creditors themselves? The development or high primary surpluses? After seven years of recession and three memoranda, opinions regarding the fundamental questions remain divided. Europe, at least as regards the Greek issue management insists on a restrictive policy setting as primary objective to achieve the budgetary targets in order to ensure and debt service. Already the IMF formulates different position whereas a country like Greece cannot in the long term to achieve surpluses of 3.5%. It requests directly to a settlement of the debt. So where is the truth?

Greece’s economy grew by 0.8% q-o-q (1.8% y-o-y) in 2016-Q3 in seasonally adjusted terms following 0.4% (q-o-q) in 2016-Q2. Growth was mainly driven by private consumption, investment, and exports. While part of these increases is explained by base effects, short-term indicators overall point towards positive growth in 2016.

Economic activity is up in industry, the retail sector, and tourism, while exports have also regained strength since the shock in 2015. Real GDP growth is projected to have reached 0.3% in 2016 reflecting the improvement in business and consumer confidence since the conclusion of the first review of the ESM program and the good progress that has been made in clearing public sector arrears, which has led to higher liquidity in the corporate sector.

Contingent upon the timely completion of the second review of the ESM program, Greece’s economic recovery is expected to gather pace in 2017 with a growth of 2.7%, on the back of improving financial conditions amid a gradual relaxation of capital controls. Private consumption and investment are projected to accelerate and the contribution of net exports to become positive. Real GDP is expected to continue recovering at a robust pace in 2018, with a growth rate of 3.1%. The labour market has been improving for the last two years. Employment grew by 2.4% on average in the first 10 months of 2016, and is projected to grow at a stable average rate of 2.2% until 2018.

Unemployment is projected to have fallen to 23.4% in 2016, down from an annual average of 24.9% in 2015. Unemployment is set to decrease steadily over the forecast horizon, backed by the impact of labour market reforms supporting flexible forms of employment and wage setting. The contribution of net exports to growth was likely still negative in 2016, since imports rose faster than exports amid higher domestic demand.

Going ahead, net exports are expected to turn positive, as improved competitiveness and higher investment in the tradable sector spur exports. The decrease in the price level halted in 2016 on the back of higher indirect taxation and rising oil prices. These factors are also expected to underpin a moderate rebound of inflation in 2017 and 2018, along with strengthening domestic demand. Over the forecast horizon, wages are expected to increase along with recovering labor productivity.

Downward risks mainly relate to uncertainties over the completion of the second review of the ESM program and external factors such as international and regional geopolitical and economic tensions, as well as the refugee crisis.

Greece is forecast to reach a general government balance of -1.1% of GDP in 2016. Having overachieved its primary targets of the ESM program for 2015, Greece is set to significantly – by about 1½% of GDP – over-perform the primary surplus target of 0.5% of GDP for 2016 according to the ESM program definition. The composition of the fiscal adjustment is tilted to the revenue side amidst restrained expenditure growth. It follows the adoption of a major fiscal package in the context of the first review projected to yield 3% of GDP through 2018, bringing total fiscal consolidation since the ESM program was launched to 4.2% of GDP. The stronger-than-forecast revenue primarily stems from dynamic growth in underlying tax bases, particularly for indirect taxes and the corporate income tax, but also several one-off factors related to clearing tax liabilities from previous years and stock-piling effects in view of the 2017 hike in the tobacco tax.

Taking into account the adopted measures (in particular personal income tax and pension reforms) and the 2017 Budget, Greece is projected to achieve the ESM program primary balance target of 1.75% of GDP in 2017, even after allowing for the national roll-out of the Guaranteed Minimum Income scheme. The strong revenue performance observed thus far especially in 2016, supported by the ongoing revenue administration reforms, implies considerable upside risks to the forecast which augurs well for the achievement of the target also in 2018. Downside risks include the possibility that the 2017 fiscal reforms could yield less than expected due to implementation risks and the effects of uncertainties over the completion of the second review of the ESM program.

The authorities are expected to adopt the Medium Term Fiscal Strategy for 2018-2021, including any adjustments in fiscal policies needed, to ensure the achievement of the 2018 program primary balance target of 3.5% of GDP.

Overall, the general government balance is projected to reach -1.1% of GDP in 2017 before improving to 0.7% of GDP in 2018. In structural terms, given the still-large output gap, the general government balance is forecast to reach 2⅓% of GDP in 2017 and 2½% of GDP in 2018. On the back of the fiscal outturn projected for 2016 and the stock-flow adjustment related to the clearance of arrears, Greece’s debt-to-GDP ratio is expected to increase from 177.4% in 2015 to 179.7% in 2016. The improved fiscal position and stronger GDP growth are expected to put the debt-to- GDP ratio on a declining path starting in 2017.

Interest expenditure is projected to decrease over the forecast years because old loans are replaced with new financial assistance loans with lower interest rates. The implementation of short-term debt measures in 2017 and 2018 will increase interest expenditure in the short run but will lower it in the long term and smoothen the debt repayment schedule.

You may have read a few times the old mantra that says that  the German trade surplus is an excess of savings that harms the Eurozone.

The fallacy that the German – or any other- trade surplus is a problem starts from the bureaucrats’ view that economic agents are wrong and a group of politicians knows better what and how much a country should import.

A trade surplus is generated when a country exports more than it imports. Great. No country has ever suffered from selling more than it buys, especially when its purchases grow every year. In the case of Germany, it does not export a lot because prices are too low or because there is no internal demand. It exports a lot due to the combination of quality, added value and technology. Most of its products sold abroad are not cheaper or sold in bulk discount. Therefore, Germany’s export boom is not an anomaly caused by interventionism or dumping.

Let’s look at imports. Are imports from Germany too low? Not at all. Germany does not suffer from a deficit in infrastructures or in supply to its consumers and companies. The idea that imports from Germany are low is simply incorrect. Does anyone really think that German companies and economic agents do not purchase more because they want to annoy the world? There is no economic or demand indicator that shows that German consumers or companies are failing to meet any of their consumption needs.

Germany is the third largest global importer and its purchases abroad have increased  by 6.1% per year in the last five years. Germany shows no sign of a deficit in spending or import needs. Rather the opposite.

Germany maintains a high industrial utilization, which has risen from 70.9% in 2009 to 86% today, ie almost all-time high capacity utilization (87.5% average). There is not a single indicator of public expenditure that suggests lack of consumption. The German government expenditure  has grown  almost to historic highs and is expected to continue to increase, maintaining the correct objective to keep public debt under control (over 71% of GDP).

Private investment is already above pre-crisis levels, has been growing since 2009 and remains at exactly the level that companies need according to their growth expectations and the opportunities they see. No more, no less. The presumption that a group of bureaucrats and politicians know better than these companies about where, how much and how to invest is simply hilarious.

The idea that investments should increase because a committee says so, does not take into account that, before the crisis, Germany had embarked on a huge capex cycle. The mistake of criticizing German private investment is to think that the 2004 to 2009 period should be perpetuated eternally. In any case, Germany cannot be accused of lack of private investment, which has steadily increased until recovering pre-crisis levels. Public investment has also increased to 33 billion euro a year.

Those who assume that Germany’s trade surplus, 252.9 billion euros, is an anomaly and a negative for the Euro zone, fail to answer two questions: “What do they know that German companies, governments and consumers do not know about their consumption and investment needs?” And “what for?”

The idea that if Germany decided to spend a lot more it would solve the problems of the European Union is a fallacy. Doubling imports from the Euro zone would have a maximum impact of 0.4% of GDP. Once. The excess capacity in the rest of Europe is close to 20%. If Germany doubled its net investment in Spain, for example, it would  mean less than 650 million euros. Exports from Spain to Germany have already increased at a rate of 8% to 27 billion euro. Exports from the periphery countries to Germany have reached all-time highs. But, above all, it is a fallacy because it ignores that a great part of that unnecessary expense would only cause a short-term bubble that bursts rapidly. Europe would be repeating the same mistakes that led the peripheral countries to create excess capacity and massive imbalances.

The fallacy of “stimulating internal demand” ignores relevant trends such as past spending and excess capacity, efficiency and aging of the population, with the magic idea of ​​solving everything by repeating the mistakes of 2004 to 2007. There is not a single economic indicator in Germany that shows weakness or any need of stimulus.

Does anyone really think that Germany does not invest, import or consume what it needs? What for? To annoy its citizens and its business partners and, at the same time, lose money leaving idle opportunities? It does not make any sense.

There is no single indicator that shows that Germany is saving unnecessarily or that it does not invest, consume and import everything it needs and more. Germany’s trade surplus, its balanced accounts and its net investment position shows that Germany’s policy is not the problem, but the solution to the imbalances of the European Union.

Reducing Germany’s trade surplus via unnecessary imports and useless spending would only take the EU to the same disaster of the 2007 bubble, with its terrible consequences. Demanding Germany to invest and spend on things it does not need would be a monumental mistake and would not solve anything. It would be a short-term mirage, and an inevitable crisis.

The solution to the problems of the Euro zone is not for Germany to copy the imbalances of peripheral countries, but for Europe to learn from the German success model.

Daniel Lacalle. PhD in Economics and author of “Life in the Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

Image courtesy Google.

The Euro zone CPI data continues to show the rising trend we commented here (read). In January inflation rose by 1.8% year-on-year, the highest reading since February 2013.

However, while inflation expectations rise, markets remain stale. The stock market is not showing any boost from this reflation trend. Why?

Inflation is up mainly due to energy’s positive contribution (8.1% year-on-year in January, from 2.6% in December) and food prices (1.8% year-on-year). None of those two components are positive for the economy, consumers or companies, as Europe is mainly an importer of energy and commodities.

Core inflation remains stale at 0.9% year-on-year despite a massive stimulus of 80 billion euro a month from the European Central Bank, new credit growing and improved PMIs. Europe’s massive overcapacity continues to burden the economy, and no central bank can disguise that.

There has been some acceleration in non-energy industrial goods prices (to 0.5%) but some softening in the services component (to 1.2% from 1.3%), which shows that the policy of creating inflation by decree is not working.

The Eurostoxx 600 Index is comprised mostly of banks, utilities, telecom companies and construction-industrial conglomerates. None of these benefit from rising CPI due to external factors. Even integrated oil companies in Europe benefit more from refining margins than oil prices. Banks still struggle from 900 billion euro of Non-Performing loans and poor Net Income margins, and although earnings season is shaping to be better than expected, the risk of stagflation as well as political uncertainty in the face of French, Dutch and German elections weighs on a stock market where companies in the previously mentioned sectors are very exposed to political turmoil.

The question is, if after such a massive quantitative easing program in Europe, core inflation remains so weak, the risk of a burst in prices can arrive at the same time as GDP growth remains subdued. With 2% inflation and lower nominal GDP growth, Europe could risk moving to stagflation.

So far, earnings are better than expected and guidance is more robust. Once the uncertainty of elections passes,  we could start to see some relief in European stocks. In the meantime, energy prices are cooling down, which could help reduce the import factors of inflation. But, until then, rising inflation due to commodities has no positive impact on equities.

Daniel Lacalle. PhD in Economics and author of “Life in the Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

Image courtesy Santander Research