Wednesday, 17 August 2011

Charting the reasons behind Euro Area's stagnation...

No good news for Euro Area hitting the wires lately, while there is certainly no shortage of bad news.

Of course, regions don't find themselves into such a mess overnight, but this is rather the result of  a long-term process. So I’d like to take a step back and look at the bigger picture. Here we go…

Here’s a chart showing real GDP growth in the Euro Area over the last 15 years.

source: Eurostat

The next chart shows annual Euro Area growth dissected according to the sector it originates from. 

source: ECB/Eurostat

As we can see, for the past 13 years, the financial sector was the top growth generator for the Euro Area, followed by trade (retail+wholesale) and industry. On the other hand, agriculture and construction didn’t contribute much to aggregate growth.

A good question is where did this growth come from. In general, growth can either come from gains in productivity or from an increase in inputs.

Of course the picture varies according to the sector and is by no means uniform. So, maybe we can take a look at productivity and labour input dynamics for each sector.

First, let’s have a look at how each sector fared as far as labour productivity is concerned. For the charts to actually be legible I’ve plotted them in groups of three.

source: ECB/Eurostat

Cumulatively, Agriculture fared better than Trade and related services, while construction declined marginally (of course we have to bear in mind that productivity in agriculture is heavily influenced by swings in the price of agricultural commodities). 

source: ECB/Eurostat

Among the remaining sectors, the top performer was Industry, while Financial Services’ cumulative productivity growth for the period was negative and Other Services were exactly flat.

So how can Financial Services along with Trade account for most of aggregate growth in the Euro Area if their productivity growth is stagnant of even declining?

The answer lays at labour force dynamics and labour’s movements among sectors. So here is the percent of total labour force that is employed in each of the aforementioned sectors.

source: ECB/Eurostat

Employment in Industry and Agriculture has declined over the said time period, while the share of the labour force that is employed in Other Service Activities, Financial Services and Trade rose steadily and significantly. The crisis halted the prevailing trends in sectoral employment, at least in most of the sectors that had seen their share in employment rise during the past few years.

So, here’s the answer to why Financial Services and Trade were the top performers in the growth table. The void left by their stagnant or declining productivity was up to a point filled by the ever increasing labour input channeled to these sectors. But in the long run this is not enough.

Even with a cursory glance, one could realize that labour’s being piled into sectors whose productivity is growing slowly or even outright declining. If you want one more reason for the fact that Euro Area’s growth over the last 15 years or so is in a downward trend look no further, here it is…

P.S. Of course there are lots of other reasons that can be claimed to play a role in the slowing of growth that the Euro Area experienced over the past few years, I just wanted to zoom in on that one in today's post... 

P.S.2. Here's the chart about overall changes in sectoral productivity over the Q1 1995 - Q1 2011 period. 

source: ECB/Eurostat, own calculations


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