Europe heads for a reality check

The eurozone enters 2014 "on a high note, relatively speaking", says The Wall Street Journal. The single currency, which some still feared was heading for a messy collapse a year ago, is actually at a three-year peak against the dollar.

Ireland last month became the first of the five countries that have needed a rescue to exit its bail-out programme. Markets shrugged off a debt crisis in Cyprus, while "watching eurozone sovereign bond spreads is no longer a daily trauma". But while Europe may have averted disaster in 2013, the crisis that began in 2010 continues.

In the summer of 2012, European Central Bank (ECB) president Mario Draghi said he would buy indebted countries' bonds in unlimited quantities if necessary, to prevent these countries' long-term interest rates rising to unsustainable levels and causing national debt defaults and potentially chaotic euro exits.

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The ECB's promise to prevent a systemic meltdown fuelled confidence and lowered long-term interest rates. These factors helped fuel a cyclical recovery that lifted the eurozone out of a six-quarter recession in the middle of last year.

A subdued growth outlook

On the minus side, however, unemployment, especially in the south of the continent, remains high; private debt loads are huge; bank lending is weak due to the ongoing credit squeeze; and the euro has strengthened to levels threatening the competitiveness of pretty much all countries' exports except Germany's. Capital Economics, a research company, has pencilled in a mere 0.5% gain in eurozone GDP for 2014.

All this implies that the stricken periphery is not going to grow fast enough to make a dent in its still-spiralling debt load. Indeed, as we pointed out last month, if the eurozone slides into deflation it will make the debt loads even bigger in real terms, as debts are a fixed cash sum. The discouraging outlook means that Greece will almost certainly need more debt relief and Portugal will need further assistance before it can exit its rescue plan.

Worries over the sustainability of Italy's 133% of GDP debt pile won't recede anytime soon either. France's latest growth relapse, meanwhile, is a new headache for Europe. It has prompted further calls for the country to tackle its rigid labour markets and chronic overspending in order to boost its underlying growth rate.

Overdue reforms

Now governments will be all the more reluctant to make growth-enhancing reforms as their populations are exhausted from years of harsh austerity with no sign of economic recovery.

Toxic politics

A key danger now, adds Jeremy Warner in The Daily Telegraph, is that voters will vent their anger over endless austerity in May's European elections by voting in a profoundly eurosceptic European parliament. "With dysfunctional populists to deal with, eurocrats will just carry on regardless, but attitudes will harden and the eurozone will become... ungovernable."

Meanwhile, the change of government in Germany has done nothing to change the country's reluctance to pool debt at a European level or ease the terms of rescue packages, as it continues to try to shield its taxpayers from footing the bill for southern profligacy.

Political divisions have also dogged attempts to set up a banking union. This would transfer responsibility for Europe's banks to the EU, thus allaying fears that a country could in future be virtually bankrupted by having to bail out its banks, as occurred in Spain and Ireland after the credit bubble burst.

Last month, leaders agreed to set up a €55bn fund to help recapitalise troubled banks. It would be built up by levies on banks over ten years starting in 2015, and more than 100 people will be involved in deciding how the money gets disbursed. But this cumbersome set-up won't go far in a crisis, and there is still no fiscal backstop at the supranational level, says Wolfgang Munchau in the FT.

All we got were "warm words from Germany that there would be further talks about a backstop within ten years", he concludes. Following Draghi's intervention, the euro crisis may have become a chronic, rather than an acute, problem. But, says The Times, anyone tempted to believe it will soon be resolved "is in need of a reality check".