Eurozone’s troubles likely to re-emerge in 2020s, says Capital Economics

The euro-zone economy is in better shape at the end of the current decade than it was ten years ago; however, looking further ahead, there are plenty of things to worry about. First, the region’s trend growth rate is likely to remain well below that of most other advanced economies, according to the latest research report from Capital Economics.

GDP growth has slowed more sharply in the euro-zone than in other advanced economies in the past decade.

And hopes that it would make up the ground lost due to the sovereign debt crisis have been dashed in the past couple of years. Indeed, the region has fallen behind all other major advanced economies, including Japan, in terms of per capita income.

During the 2020s the euro-zone will face stronger demographic headwinds than most other countries. Its population of working age is set to fall by 3 percent, whereas it is expected to increase by a similar amount in the US and UK (although the situation is even worse in Japan, where it will fall by 7 percent), the report added.

In addition, the currency union’s design faults have not been corrected. The main improvements made over the past decade are the establishment of the European Stability Mechanism and the ECB’s Outright Monetary Transactions which would help to contain another crisis. But there has been negligible progress towards a fiscal union and only partial success in creating a banking union.

Some fiscal imbalances have narrowed, but Germany is still running a current account surplus of nearly 8 percent of GDP. And the ECB is reaching the end of the road with monetary policy.

"So we suspect that fundamental flaws in the euro-zone will cause troubles to re-emerge, albeit in a different form, over the next decade. Italy poses the biggest threat. Its potential growth rate is around zero, its politicians show no inclination to implement necessary reforms, and the costs arising from its ageing population will cause the budget deficit to widen and put the debt ratio on an unsustainable path. We think that Italy will eventually be forced into a debt restructuring or outright default, but perhaps not until the 2030s," Capital Economics further commented in the report.