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EU report says eurozone economy makes good start in 2007

The eurozone economy started 2007 on a healthy footing, the European Commission said in a report on Tuesday, denying the euro's rise was hurting exports significantly.

The euro zone achieved an annual growth rate of 3% in the Q1, lower than the 3.5% growth rate in the previous quarter but still a quite good performance, the Commission said in its quarterly report on the 13-nation bloc sharing the same currency. The robust economic growth was mainly spurred by strong domestic demand, particularly investment, though consumption contracted slightly and exports growth decelerated in the first three months.

It had been widely expected that household consumption would decline since Germany, the largest economy in the euro zone, raised its value-added tax at the beginning of this year. But the Commission said consumption, one important economic booster for the eurozone, is set to recover as consumer confidence is approaching an all-time high, a sign that EU shoppers will spend more later this year. Meanwhile, inflation remained broadly stable at around 1.9%, slightly below the 2% ceiling set by the European Central Bank (ECB) to maintain price stability.

The ECB, still concerned about mid-term inflation pressure, raised its benchmark interest rate by another quarter percentage point to 4% early last month, and it was expected to make further move in the Q3. The quarterly report agreed with the ECB that although the short-term inflation outlook remains benign, with price expectations well anchored, imported inflation still tame and unit labor costs progressing slowly, some inflation risks may materialize as the cycle matures. In the Q1, the eurozone employment expanded by 0.4%, with more than half a million jobs created. The latest figure showed that the jobless rate kept declining to a record low of 7.0% in May, almost a full percentage point lower than a year ago.

“These favorable developments combined with very high consumer confidence should encourage consumption growth in the next quarter,” the Commission said. Looking ahead, the overall economic prospects for the euro remain bright, the Commission added. The European Union's executive arm predicted a 2.6% annual growth for the euro zone in its spring forecast released in May. In contrast to vibrant domestic demand, exports, the other engine for the eurozone economy, cooled down in the first three months.

The Commission said the deceleration partly reflects a statistical correction after the exceptionally strong figures in the last quarter of 2006, but may also reflect a slight easing of world trade growth. For instance, German exports declined by 1.2% in the Q1 after a very strong growth of 6.0% in the Q4 of 2006 because many exports effected earlier last year entered the foreign trade statistics only in the final quarter, so the Q4 figure of last year had been inflated by statistics effects. France, among others, is blaming the ongoing rise of the euro against the Japanese yen and the US dollar for lagging French exports.

Newly elected French President Nicolas Sarkozy reiterated on Monday that the euro was overvalued. On Tuesday, the euro climbed to $1.3638 in European trade, close to its record high against the US currency in April, while the yen fell to a record low of 167.18 per euro before trading in London. But the European Union's executive arm said in its quarterly report that the euro appreciation has taken only a modest toll on export growth.

The report noted that despite the euro's rise, some eurozone countries have performed much better than others sharing the same currency, evidence that the exchange rate plays only a limited role in the export performance of the individual countries. “The causes for a lackluster trade performance of some members must, therefore, be found elsewhere and particularly in domestic wage and productivity developments,” the Commission said, rebuffing France's call for a weaker euro. The Commission said on average, the euro appreciation remains relatively modest, at about 4% in nominal terms since the beginning of 2006.

“The experience with the previous period of appreciation, in the H1 of this decade, shows that fluctuations in exchange rate have a relatively modest impact on the euro area's export performance,” the Commission said. According to the Commission, it was estimated that between 2001and 2006, exchange rate fluctuations curbed annual growth in eurozone exports by 0.6 percentage point, which is small in comparison to the 5% average annual growth in the exports over the period. (