As the world watches the monetary experiment in Japan, the potential tapering of the US asset purchase programme and the crises in Syria and the Middle East, it is not a surprise that Europe has fallen out of the headlines. However, there is another, more positive reason that Europe is not headline news at present: it is making progress, albeit slow progress, on many fronts.
The European Union (EU) decision to soft-pedal on current and future austerity has lowered the political tensions ahead of the German election this autumn and improved the chances of less negative (not necessarily good) economic growth. Europe has seen political calm, even within the carefully-balanced coalition in Italy. Whilst most countries still need to implement more radical economic reforms, enough has been done to stabilise current account deficits and move towards renewed labour competitiveness. This is currently being undertaken whilst the two other main world currencies, the US dollar and yen, are being wilfully debased by quantitative easing (QE) amounting to USD80 billion in the US and USD70 billion in Japan. While this leaves the euro stronger, it also acts as a "stick" to reform.
From an EU perspective, we can find clear evidence that the "more Europe" plan is still unfolding, and significant further progress is expected throughout the rest of this year. Firstly, we expect to see a coherent plan for the supervision and resolution mechanism for Europe's troubled banks by the end of 2013. In contrast to the situation in Cyprus, this should clarify how these institutions would be monitored and dealt with, if insolvent. Alongside harsher and more realistic European Banking Authority stress tests, this should allow the European Central Bank (ECB) to enter as supervisor, enhancing both its credibility and that of the euro-zone banks.
Deposit guarantee schemes are more difficult given the near EUR30 trillion on deposit. In our view, only local schemes will be effective and this, of course, will mean that at times of euro-zone stress, weaker banks and systems may see deposit flight which will exacerbate the problems of liquidity. Domestic private deposits under EUR100,000 remain sacred but it is clear that, post Cyprus, all other deposits and bond holders remain highly likely of being "bailed in", which will raise the cost of capital longer term.
The infamous Financial Transaction Tax (FTT) is still desired by many policy makers across Europe and should be implemented in some form or other later in 2014. Clearly, one result of this FTT will be to raise the cost of capital for European companies and the economy at large vis-a-vis our competitors. It will also potentially deter investors and investment that may be sorely needed to help solve some of the structural challenges, presenting a lost opportunity. However, it is further evidence that European politicians are not beholden to the financial industry in quite the same way as other countries. This might be a good thing longer term as QE has mostly benefitted banks to date.
The economic growth in the first half of 2013 has been weaker than expected and so the improvements will come from a lower base, and more slowly. However, Europe is taking steps, albeit small ones, in the right direction as it seeks to address its problems with genuine solutions, rather than relying on financial repression and inflationary money-printing.