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November 30, 2016 01:00 AM

Gains won't be easy for European companies

Bill Wood
Economics Editor
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    Jessica Jordan
    Bill Wood

    The overall economy of the European Union, as measured by the inflation-adjusted GDP data, will expand 1.7 percent in 2017. This follows an expected gain of 1.6 percent in 2016. This pace of growth is markedly slower than the rate of 2.3 percent in 2015. As with any forecast of subdued growth, this outlook is accompanied by significant downside risks.

    At first glance, it may seem easy to predict incremental improvement in the economic conditions. That is the outcome that everyone wants at the very least, and there are a lot of smart business people working to achieve it. But anyone doing business in Europe at the present time already has a strong sense that a decent gain in activity levels in the coming months will be anything but easy.

    This forecast for a consistent but stubbornly sluggish pace of expansion in the coming year is based on expectations that low oil prices, low interest rates and modest gains in fiscal spending by European countries will be enough to offset all of the uncertainty and weaker investor and consumer confidence levels caused by the Brexit vote, the region's burgeoning immigration problems and the issues stemming from the long-term trend of low rates of productivity growth.

    For the manufacturers that comprise Europe's plastics industry — processors, compounders, equipment suppliers and mold makers — this outlook represents a complicated balance of long-term opportunities and near-term challenges. So far, the reaction from the financial markets to the Brexit vote has been modest, but this is still the early stages of the process.

    The long-term impact of the Brexit vote is far from clear, and this uncertainty may have a negative effect on trade flows, financial transactions and capital investment over the next two to five years. There is a very real risk that Britain's exit could spark a cascade of political discord and inward-looking policies amongst the other countries in the European Union.

    From a manufacturer's perspective, the result of increased political turmoil would likely be a net reduction in aggregate demand. There is not yet any conclusive evidence that the political scenario will worsen, but since the risk cannot be ignored; it is generating uncertainty, and this uncertainty is not conducive to increases in either household consumption or capital investment.

    The major factor contributing to the risk of increased discord is not abating, and that is the plight of the refugees from the Middle East. Plastics processors may well end up benefiting from this infusion of young labor force participants and potential new customers for packaged goods, medical supplies and household items in the long run, but the immediate problems of populist unrest and fears of increased acts of terrorism must first be addressed.

    As a non-partisan economist, I will state emphatically that this is a time when manufacturers, policy makers and heads of state must engage in even greater levels of cooperation if they are going to reverse the trends of rising terrorism, nationalism and populism. These trends will greatly restrict trade flows, and this in turn will inhibit the economic growth of a region that relies on robust levels of trade.

    At the present time, I am optimistic that good judgment will prevail, and overall economic activity in 2017 and beyond will trend higher. There is far too much collective prosperity at risk for me to expect otherwise. I realize that this rationale has failed to produce the desired outcomes in the past. But for now, I will wait until I witness a more advanced lapse in our collective judgment before I reverse my expectations.

    It will take some time and it will require some difficult decisions, but I believe that the European economy will eventually return to more vigorous levels of output in a manner that is similar to the way the United States is doing it. The United States is a couple of years further along in this process, and a strengthening U.S. economy will be a boon to Europe's recovery.

    There is one more long-term challenge that confronts both the U.S. and Europe. It is also is a problem for Japan. That is the persistent trend of low productivity growth in the vast majority of developed nations. Productivity growth is directly connected to levels of investment in employees and capital, and levels of investment are entirely dependent on expected returns. Expectations for returns are most heavily affected by the prevailing trends in aggregate demand.

    So even if we can get past all of the geopolitical issues that are constraining the global economy, we may still need to figure out a way to stimulate aggregate demand in the developed economies. If diminished consumer appetites are due to residual anxieties from the financial crisis in 2009, then it may only be a matter of time before demand starts to recover more rapidly. But we will still struggle with the fact that investment levels are currently too low.

    The plastics industry is already feeling the effects of this reduction in investment, but this industry will also play a pivotal role in correcting this problem. This industry is one of the most innovative and adaptive of the manufacturing sector. This has enabled strong levels of productivity growth in the past, and there is strong evidence to believe that it will continue this trend in the future. The biggest problem at the moment is a lack of confidence.

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