Europe shapes as a 2013 surprise packet

PMI figures out of Europe were unexpectedly strong, and while overall growth is still sluggish the region is well positioned to become the most unlikely of economic heroes this year.

Could it be that the eurozone will be the surprise packet of the global economy in 2013?

It certainly is shaping up that way with yet more economic and market moves confirming a scenario where the much maligned and deeply troubled eurozone is climbing out of its recessionary malaise. Indeed, if recent trends continue, it is possible that the eurozone will record GDP growth of something near 0.5 to 1 per cent in 2013 instead of going backwards as the consensus forecasts suggest. The year 2014 could be even stronger.

If 0.5 to 1 per cent annual GDP growth sounds uninspiring, in absolute terms it is.

But relative to expectations, which almost universally suggested a further year of economic contraction, it would be a favourable outcome and one that would likely stem the rise in the unemployment rate and help repair the parlous fiscal position of the world’s largest economic region.

The more favourable news for the eurozone showed up in a series of Purchasing Managers Index measures which for services rose to 48.3 points in January to be at a 10 month high. The manufacturing PMI rose 1.4 points, to 47.5 points to also lock in a clear turning point higher. In addition to these leading indicators suggesting a return to growth, the eurozone current account surplus rose to €14.8 billion in November, the largest surplus ever recorded. This suggests that the strength of the euro, which rose on the back of this positive news, is not a constraint on the competitive position of the eurozone as a whole. It also suggests that net exports are likely to be a contributor to GDP growth.

This positive economic data from Europe followed earlier evidence that the pick-up in China that was evident in the final quarter of 2012 was likely built upon early in 2013. The preliminary manufacturing PMI for China rose to 51.9 points in January from 51.5 in December. This reading is the strongest manufacturing PMI for China since January 2011. It was a similarly upbeat story in the US where its preliminary manufacturing PMI rose to 56.1 points, the highest reading since March 2011.

Robust economic activity in China and the US, if sustained, will certainly provide a boost to the eurozone by creating stronger demand for exports and a lift in confidence.

Earlier this week, the IMF released its updated forecasts for the eurozone. It revised its forecast for GDP to minus 0.2 per cent in 2013 after a decline of around 0.4 per cent in 2012. The IMF said: "Risks of prolonged stagnation in the euro area as a whole will rise, if the momentum for reform is not maintained”. Already, these forecasts seem too pessimistic with the PMI’s turning higher and the trade data showing a very competitive export sector.

Speaking overnight at the World Economic Forum in Davos, German Chancellor Angela Merkel was cautious about the outlook for the eurozone but she reiterated her hard line on reform and fiscal austerity. In particular, Merkel said, countries in the eurozone "must implement the structural reforms today so we can live better tomorrow". She added that "budget consolidation and economic growth are two sides of the same coin".

In examining the sort of reforms still needed to return Europe to strong growth, Merkel cited labour market reforms as key suggesting it was critical that labour costs be "driven down” to make Europe more competitive. She said the current record high unemployment rate, which reached 11.8 per cent in December, was "the price Europe has to pay to become more competitive”, not least because it focused the attention of the general population on the need for otherwise unpopular reforms.

The end-point is that better global economic conditions are also showing up in higher stock prices, normalising bond markets, rising commodity prices and a strong euro. This year just might be one of those rare years in the last couple of decades that delivers a pleasant surprise to policy makers, market participants and the general population on the performance of the eurozone economy.