There was a tiny glimmer of hope for the eurozone in the form of the final estimates of the purchasing managers indices for May. And while the light at the end of the recessionary tunnel in the eurozone is still very faint, across the English Channel, the UK services PMI jumped sharply to suggest better economic times ahead for Britain.
The eurozone services PMI was 47.2 index points in May, up a little from 47 the prior month, while the manufacturing PMI rose to 48.3 points from 46.7 previously. The composite PMI, which averages the services and manufacturing sector readings, was 47.7 in May, up from the 46.9 points in April, but it remained below 50 points for the 16th straight month and is therefore consistent with the recession continuing into at least the second quarter of 2013.
The UK services PMI, on the other hand, was a breath of fresh air so strong that it sparked a solid rally in the British pound and a rise in UK government bond yields. The UK PMI jumped to 54.9 points to be well above the 52.9 recorded in April with the index moving to a fresh three-year high.
So positive was the UK PMI that Chris Williamson, the chief economist from Markit, the firm that produces the PMIs, said: “There’s good reason to believe growth can accelerate further. Across all three sectors, new business showed the largest jump for three years.”
The divergent news between the eurozone and the UK highlight several critical policy issues and differences between how the European Central Bank and Bank of England have dealt with their respective recessions and how currency movements can help a country in economic trouble.
As the recession and crisis were unfolding, the BoE was reasonably quick to cut interest rates to the lowest possible level and, simultaneously, it embarked on an aggressive policy of quantitative easing. The ECB, conversely, made the error of actually increasing interest rates on a couple of occasions as the global banking and financial crisis prevailed and since that error it has been tardy in reducing rates even though inflation has been running below its target range for many years.
So on simple interest rate policy, the BoE is well ahead of the ECB.
In terms of QE, the member countries of the eurozone have been reluctant to engage the ECB to buy their bonds despite the ECB’s standing offer to do so. This has meant the recovery has not gained traction in the eurozone given the drag on growth from the particularly weak countries in the union which are suffering from sovereign debt problems and therefore high yields on bonds.
The other element which has been a critical factor in the recent divergence between the economies of the eurozone and the UK is the exchange rate.
The UK has retained the pound and its sharp depreciation over the past five or six years has been a vital element in the UK maintaining some semblance of international competitiveness despite the horrid mess the country's economy fell into.
The euro, on the other hand, has been dragged higher by a combination of capital inflows into the stronger areas – Germany in particular – and the fact that the US Federal Reserve has continually undermined the US dollar, to the point where the euro has actually been a strong currency.
Other data overnight hinted that the recession in the eurozone rolled on into the second quarter with retail sales falling 0.5 per cent in April for an annual decline of 1.1 per cent. High unemployment, falling real wages and moribund consumer sentiment are no doubt factors behind the dismal retail data. It is hard to spend money in the shops if you don’t have a job or your pay is being cut. The weak retail data followed news last week that the unemployment rate reached a fresh record high of 12.2 per cent.
It is basically more of the same for the eurozone. The odd hint of less bad news followed by unambiguously weak indicators.
The ECB is expecting the economy to stabilise during 2013 and then to commence a moderate recovery in 2014. Let’s hope these forecasts prove to be correct, but at the moment, there is little hard evidence that supports the prospect of stabilising growth, let alone a recovery.