The Eurozone After Greece: Spain Vs. France

For some observers of the eurozone crisis, it is fashionable to make the argument that Spain’s recovery is not real and just rests on clay feet. In contrast, these same voices argue that France, which has so far steadily resisted reforms for the most part, does not have much to worry about.

While it is usually left unsaid, the great hope, under this approach to understanding the European economy, is that continued monetary action from the ECB will “bail out” Europe’s second-largest economy – and keep it from the need to undertake labor market reforms and other structural measures.

But what does the actual economic evidence show?

Spain’s path

1. Boom-bust-bust, followed by a rapid rebound.

Boosted by a boom in residential real estate and a rapid inflow of immigrants seeking and finding jobs in the country’s labor-intensive construction sector, Spain’s economy accelerated rapidly – until 2008.

When the bubble burst and the post-Lehman recession struck, the country’s GDP took a nosedive for almost two years — before starting to recover hesitantly in mid-2010.

2. Dealing with the euro crisis.

When Europe allowed contagion to spread from the tiny economy of Greece to big countries such as Italy and Spain in mid-2011, Spain plunged into a second deep crisis.

Coming shortly after the Lehman disaster, neither Spain’s banks nor companies, neither household finances nor the stretched government budget were ready for this second blow. As a result, the country’s GDP fell sharply again, amid escalating turmoil and a major balance sheet recession.

But after serious reforms in the country, as well as the ECB pledge in the summer of 2012 to contain contagion, and some recapitalization of its banks, Spain turned the corner decisively in mid-2013. It is now among the fastest-growing economies in the Western world, with a year-on-year growth rate to 3.1%.

France’s path

1. Looking much more stable.

Unlike Spain, France did not have much of a pre-Lehman boom. As a consequence, it suffered only a comparatively shallow recession, followed by a respectable rebound in 2009 and 2010.

In addition, France – with its comparatively low rates of household debt – did not fall victim to any market panic during the euro crisis. While growth slowed down in 2011, France did not fall back into recession. So far, it is still ahead of Spain. Whatever its faults, France is not a crisis country.

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2. Stuck in slow-growth mode.

Still, the news from France is not good. While Spain is now reaping the rewards of its reforms and bouncing back at an impressive speed, France does not seem to get ahead.

This is worrying. The tailwinds of a favorable macro environment — cheap oil, a competitively valued euro and a much more aggressive ECB stance — should be lifting France’s GDP growth beyond the meager 1% year-on-year rate it reached in the second quarter of this year.

3. What is wrong with France?

Call it a case of bad timing. Just when ECB president Mario Draghi ended the systemic euro crisis in the summer of 2012, which could have provided a real lift to the French economy, the newly elected French president François Hollande decided to start implementing his leftist election promises.

While the 75% top income tax rate, which grabbed many headlines, did not apply to many people, jointly with other policies it sent the signal to French and foreign investors that France is a bad place to earn money and create jobs.

There is a noticeable vote of no confidence at home, as French business investment is still declining. As a result, even the oil, exchange rate and ECB tailwinds have failed to propel France forward by much.

The upshot?

If Paris does not go beyond its recent mini reforms, it will soon fall behind Spain and most other euro members.