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Macroeconomic Imbalance Scoreboard – A Visual Ranking Among 11 EZ Countries

According to the EU Commission’s website, the Macroeconomic Imbalance Procedure (MIP) is a surveillance mechanism that aims to prevent and correct macroeconomic imbalances within the EU. It relies on an alert system that uses a scoreboard of indicators and in-depth country studies, strict rules in the form of a new Excessive Imbalance Procedure (EIP) and enforcement in the form of financial sanctions for euro area Member States which do not follow up on recommendations. In-depth reviews examining the origin, nature and severity of possible macroeconomic imbalances have been conducted for the first time in 2012 for twelve countries: Belgium, Bulgaria, Cyprus, Denmark, Finland, France, Italy, Hungary, Slovenia, Spain, Sweden and the United Kingdom, and are available on the Commission’s website.

In this exercise, I use the annual dataset regarding the ten MIP scoreboard indicators to map the relative distance from their indicative thresholds for eleven EZ countries over time in order to determine the sources of imbalances as well as their contribution to the overall ranking for each country relative to EZ peers. In particular, I calculate for each indicator the percentage distance from the threshold. Summing all overshooting percentages and dividing by the number of overshooting indicators in a given year gives the average distance from threshold (this procedure assigns equal weight to all indicators). Note also that not all data are available for all countries starting 1995, for example deflated house price changes are only available starting 2006 for select countries.

The MIP scoreboard headline indicators consist of the following ten indicators and indicative thresholds, covering the major sources of macroeconomic imbalances:

  • 3-year backward moving average of the current account balance as percent of GDP, with a threshold of +6% of GDP and -4% of GDP;
  • net international investment position as percent of GDP, with a threshold of -35% of GDP;
  • 5 years percentage change of export market shares measured in values, with a threshold of -6%;
  • 3 years percentage change in nominal unit labour cost, with thresholds of +9% for euro-area countries and +12% for non-euro-area countries;
  • 3 years percentage change of the real effective exchange rates based on HICP/CPI deflators, relative to 35 other industrial countries, with thresholds of -/+5% for euro-area countries and -/+11% for non-euro-area countries;
  • private sector debt in % of GDP with a threshold of 160%;
  • private sector credit flow in % of GDP with a threshold of 15%;
  • year-on-year changes in house prices relative to a Eurostat consumption deflator, with a threshold of 6%;
  • general government sector debt in % of GDP with a threshold of 60%;
  • 3-year backward moving average of unemployment rate, with a threshold of 10%.

Source: EU Commission data, RGE calculations

The comparison of imbalances over time and over countries confirms the consensus country ranking but with one less-noticed surprise, namely Finland. The scoreboard signals Finland as one country with still manageable, but rising imbalances which are mostly due to a significant loss of export market share. Absent the 2000 spike especially in Germany, when the D-Mark was fixed at an overvalued exchange rate to the euro, a loss of export market share to different degrees has been a defining feature among all countries, even in Germany. Given that real effective exchange rates or ULCs are not significantly out of line in core countries, this feature most likely captures an overvalued common currency since the start of the sovereign crisis in 2010, underpinned by the ECB’s relatively tighter monetary policy stance compared to other major central banks. Other countries, in particular Italy and France, have lost significant export market share throughout the last decade, underscoring their structural loss of price and/or non-price competitiveness both vis a vis EZ partners and at the global level.

Source: EU Commission data, RGE calculations

The dark green area between 1998 and 2001 captures Germany’s significant real exchange rate depreciation (vis a vis 36 trading partners) in excess of the threshold set by the Commission at -5% over a 3-year average. This allowed Germany to avoid a further loss of export market share in view of the overvalued DM-euro exchange rate conversion and instead laid the ground for its strong current account surplus position in excess of the upper threshold of 6% of GDP between 2007 and 2009. Were the current account threshold target set symmetrically at +/-4%, then excess surpluses would also have been registered in 2006 and in 2011. Overall, the German economy results as the least imbalanced by the end of 2011 except for the public debt level at 81% compared to the 60% target.

Source: EU Commission data, RGE calculations

After Germany, Austria is the second least imbalanced economy in the EZ although a strong common currency has contributed to a rapid loss in export market share over the past three years. As Germany, Austria does not exhibit major imbalances in the private sector and its public sector debt level is relatively contained at 72% of GDP. Its major vulnerability stems from its financial sector exposure to Eastern Europe and a potential increase in contingent public sector liabilities.

Source: EU Commission data, RGE calculations

In the Netherlands, a private sector debt ratio at 224% of GDP (and in excess of the 160% threshold) drives the imbalances indicator. While the private credit flow has slowed substantially below the 15% of GDP threshold after 2001, the private debt ratio, which is mainly driven by household debt, will decline only gradually. As of Q1 2012, the household debt ratio has reached 136% of GDP and is still on a rising trend whereas corporate debt has stabilized around 120% of GDP. On the positive side, the Netherlands have built a strong net external surplus and the public debt ratio is contained at 65% of GDP.

Source: EU Commission data, RGE calculations

Belgium’s main vulnerability is its high public debt ratio which by 2008 had declined to 84% of GDP from 130% in 1995, but has since then increased again to 98% of GDP as of 2011. In addition, Belgium is also suffering from a significant loss of export market share which is related to the relatively strong common currency since the start of the crisis, in addition to sticky unit labor costs as compared to core countries. On the positive side, Belgium enjoys a large net external asset surplus and a manageable private sector debt burden although the risks from additional contingent financial sector liabilities should not be underestimated.

Source: EU Commission data, RGE calculations

While Finland exhibits a strong fiscal position with the general government debt ratio at 50% of GDP, its sum of imbalances has been increasing rapidly since the start of the crisis and has continued to do so in 2011. Particularly worrisome is the rapid decline in competitiveness as measured by a significant decline in export market share, rapid ULC growth in excess of the 9% threshold for the past 3 years and a steadily eroding current account balance that has reached zero in 2011 from a 8.2% surplus (on a 3-year average basis) as of 2002. Note that Finland was able to reduce a peak negative net international investment position of 175% of GDP in 1999 to a surplus of 16% of GDP in 2011 following the nominal devaluation of its currency in the wake of the Nordic crisis in addition to the successful structural shift “from wood to Nokia”. Nonetheless, the latest trends underpin the need to broaden the structural resilience of the economy by diversifying its export base away from advanced low growth economies.

Source: EU Commission data, RGE calculations

France’s main vulnerabilities—similar to Italy’s below—relate to an ongoing loss of export market share due to both price and non-price competitiveness challenges, as highlighted by a relatively constrained export sector. Indeed, France’s export market share dropped almost 20% between 2005 and 2010, representing one of the largest slumps among EU countries. A further source of concern is the public debt dynamics (86% of GDP in2011) in addition to sticky unemployment between 8.5-10% throughout the past decade.

Source: EU Commission data, RGE calculations

Similarly to France, Italy is grappling with a structural loss in price and non-price competitiveness, additionally exacerbated by a large public debt overhang and very weak productivity performance throughout the past decade. While Italian companies started diversifying into higher-quality product segments in order to differentiate themselves from low-cost competitors in emerging markets, microeconomic disincentives to scale and structurally elevated borrowing costs act as further barriers to expansion in the export sector.

Source: EU Commission data, RGE calculations

In the case of Spain, an above average unemployment rate has been a structural feature over the past decades. The three-year average rate stood at 20% back in 1996 before declining to 8.6% in 2007 (the latest data registered a record 25% unemployment rate). After the bursting of the construction bubble, the private and external debt stocks accumulated via large domestic and external credit flows will decline only gradually. Meanwhile, the public debt level is bound to increase rapidly as private losses, especially in the financial sector, are being socialized. The EU Commission labels Spanish imbalances as “very serious and although not excessive, they need to be urgently addressed” — a rather lenient assessment in my view but one that avoids (counterproductive) sanctions. Note that limited data availability for standardized house price growth before 2006 reduces the imbalances indicator in the run up to the crisis. One area where Spain performs relatively better than peers is in the retention of export market share which has contributed to a rapid—and more sustainable—current account deficit reduction.

Source: EU Commission data, RGE calculations

Measured in terms of living standards, or real GDP per capita in PPP terms, Ireland was the only real catching-up candidate since the mid-1990s in this group of countries. Its strong performance was underpinned by favorable demographics, export orientation and structural labor productivity growth before the growth model shifted to an unsustainable construction boom and bust in the past decade. The socialization of financial sector losses and the private sector as well as the external debt overhang will take time to work off, but the relatively smaller export market share loss since 2006 as compared to either France or Italy reflects a remaining competitiveness edge geared toward faster growing non-EZ markets such as the U.S., for example.

Source: EU Commission data, RGE calculations

Portugal is the country that entered EMU already saddled with a large set of imbalances built up during its convergence boom in the late 1990s. It is also the one country that has not managed to improve its living standards (measured as real GDP per capita in PPP) throughout the past decade, even under ideal external conditions. The scoreboard deviations from threshold show that vulnerabilities are widespread and concern private, public and external stock and flow variables, underpinned by very sluggish productivity performance throughout the past decade. One bright spot—and similar to Spain—is the relatively better export market share retention as compared to peers in the periphery. Trade links with faster-growing emerging markets in Latin America and in former colonies may also contribute to this positive performance. Overall, the wholesale structural overhaul the economy is undergoing under the guidance of the troika is a necessary evil with a view to restoring the country’s long-term growth potential.

Source: EU Commission data, RGE calculations

In contrast to Portugal, Greece’s main vulnerability has always been in the public sector with the country already entering EMU with a public debt stock of over 100% of GDP in 2002 as compared to the 60% threshold. This ratio never declined even during boom times but has exploded to 165% of GDP by the end of 2011. A steady loss in external competitiveness as measures by unit labor costs and real effective exchange rates has in addition fueled external indebtedness as measured by subsequent current account deficits and a negative net international debt position at -80% of GDP from -25% in 1998. Given the persistent negative net national savings position over the past decade (shared only with Portugal), the main concern is clearly one of solvency rather than illiquidity.

6 Responses to “Macroeconomic Imbalance Scoreboard – A Visual Ranking Among 11 EZ Countries”

alanbruceNovember 13th, 2012 at 6:14 am

great article. useful predictive research. would it not be a logical deduction that the real beneficiaries from the intro of euro at the turn of the decade have been asean economies and even the usa through increased global exports.
what is the release valve for eurozone countries who are unable to depreciate currency. Since the ECB can keep long term Euro rates low through open market operations how does one foresee a rebound in European export competitiveness and market share.

JSBNovember 23rd, 2012 at 5:50 pm

This article is an unfortunate example of GIGO.

A much more interesting analysis would have been whether these new set of indicators make any sense whatsoever in predicting a macroeconomic crisis (in whatever form). One reads/skims the background papers to the indicators and notes that they are full of fluff and references to "academic research". There is no internal consistency sought, there is not a model, a stock-flow and sectoral consistent approach, a backtesting, an in-sample predictive analysis. Nothing, rien, nada.

These indicators join the ranks of the 3%/60% deficit/debt to GDP thresholds which became dogma and were also pulled out of thin air (or a back of the envelope calculation – as their French "creator" recently avowed). A lot of rubbish, that is.

Javier

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