2 Problems the Eurozone Can’t Avoid

03/09/2012 10:15 am EST

Focus: GLOBAL

Jim Jubak

Founder and Editor, JubakPicks.com

While many are focused on the Irish referendum or the new Spanish deficit targets, MoneyShow’s Jim Jubak is worried about other trends that could cripple already weak European economies.

There is bad news in the Euro debt crisis, and the process of resolving that crisis and putting it to bed and getting rid of it.

I’m not talking about the Irish determination that they are going to hold a referendum on joining in on the Greek debt deal, and the reorganization of the Eurozone; I’m not talking about that.

I’m not talking about the fact that the Spanish are going to miss their budget deficit deadlines for 2011 by a substantial amount. I’m not talking about those things; those are internal politics.

I’m talking about the economic numbers that we have gotten out of Europe out of the last week or so. Basically, what we are seeing is that inflation in Europe in January ran at a 2.6% annual rate. That is slightly down from the annual rate of 2.7% in December, but it is still way above where the European Central Bank wants it to be, which is around 2%.

I don’t think that inflation being this high leads the bank to raise interest rates or do anything like that, but it certainly increases tension within the bank. The German arm of the bank, the Bundesbank, thinks inflation is out of control already. This number being this high sort of limits what the ECB can do going forward, so it is a problem.

Secondly, it is a problem because governments spend money on things. You are looking at a continent where a lot of governments are running in deficits. If inflation is running at 2.6%, they have to go out and buy paper towels that cost 2.6% more, and that leads to the deficit.

So inflation is not a good thing in the short run for countries trying to cut their budget deficits. It is a good thing in the long run for countries that would like to lower their debt burden…but in the short run, it creates budget problems.

The other piece of bad news is an inflation sub-item you might call it, imbedded in the overall inflation number, and that is the inflation number for energy costs in Europe. They are running at about 9.2% in January—that is a 9.2% annual rate of increase.

That is slightly down again from December, but you are looking at a continent where oil, gas, and all the things that people use for energy are rising at a tremendous pace, and that is really bad news if you think about what this does for economic growth. This is bad news, of course, for government deficits too.

Energy price increases of this dimension just really take another notch out of growth at a time when governments from Germany to France to Spain to Italy are looking at running into very near recession levels. If Germany escapes or France escapes, it is going to be by the skin of its teeth.

This quarter, most of Europe looks like it is going to head into a recession. How deep that recession is—this is our huge issue if you are looking at trying to cut budget deficits in Spain, Italy, and elsewhere, France.

As economies slow, the budget deficits go higher. So the fact that you have got this really severe drag, this 9%-plus drag on these economies, is significant. It’s a really bad piece of news for governments trying to end the Euro debt crisis.

Those are the two things I’m watching right now: inflation, and particularly energy price inflation.

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