EcoTV - July 2016 - 7/11/2016

FRANCOIS DOUX

 

Hello and welcome to this summer edition of Eco TV, your magazine tailored by BNP Paribas’ economists. Brexit, elections in the US, in Italy, in Spain. 2016, a most political year. This is the topic that will be developed by Chief Economist, William De Vijlder. For ‘The Chart of the Month’, Christine Peltier will tell us why she is still cautious about structural reforms in China. And last, we will talk about low interest rates in three questions to Philippe d’Arvisenet who will say goodbye to Eco TV. Stay tuned.

 

2016, a most political year. William De Vijlder, hello. You are the Chief Economist of BNP Paribas. We talk a lot about the Brexit this summer, but statistics are going on. What is the situation?

 

WILLIAM DE VIJLDER


The economic situation is still pretty okay. As you know from earlier discussions we’ve had, I like to look at nowcastings for the US. They show that growth should be better in the second quarter than in the first quarter. In the Euro zone as well, data all in all are still showing that growth is satisfactory. The problem however is that, in terms of economic analysis, we’ve seen changes. We used to look at the analysis of economic policy and now we are moving to the economic analysis of politics. This is a big change. And this is going to continue for the remainder of the year.

 

FRANCOIS DOUX


We have some uncertainties, I’ve heard, I’ve read in the news, about the brexit. But why do we talk about uncertainty? The result of the referendum was quite clear.

 

WILLIAM DE VIJLDER


There are various reasons why we talk about uncertainty. The only thing we know is that the outcome that has had the upper hand is to leave. But we do not know what is going to happen now. We will only have clarification within a couple of months at the earliest. It is related to the new leadership at the conservative party. In particular, we have a key element which is when will the famous article 50 will be triggered, which stipulates that if a country wants to leave the European Union, it needs to be formally communicated to the European Council and only then, the clocks starts ticking.

 

FRANCOIS DOUX


But some people say that the article 50 might not be triggered.  What do you think about that?

 

WILLIAM DE VIJLDER


That’s again another manifestation of uncertainty. You will understand, of course, that if it’s not triggered, this huge degree of uncertainty, and real concern about the economic compact of a Brexit would start to fade away. On the other hand, the base scenario is that it would still be triggered. If you are a company and you are considering investing in UK or even on the continent, you have to factor into your decisions a very small likelihood that it would not be triggered and a big likelihood that it would be triggered.

 

FRANCOIS DOUX


But regarding corporate investment, interest rates are still low. So where is the problem?

 

WILLIAM DE VIJLDER


The problem is really, again, coming back to that very often used word which is “uncertainty”. Interest rates do not really count at this stage. They are so low. So whether they go down a little bit more, it doesn’t make a difference. What is really important going forward is how demand evolves. In a pre-Brexit environment, you could be pretty confident about the evolution of demand. In a post-referendum environment, you have question marks about how demand is going to evolve because of the impact on international trade, of the prospect of the UK economy stagnating for a couple of quarters at best and you have the concern, because again the uncertainty, that the Euro zone economy would also suffer from that. Put all these elements together, and you have an attitude of ‘let’s wait and see first’ and that “waiting and seeing” is going to last quite a while.

 

FRANCOIS DOUX


Last question: what about other political uncertainties?

 

WILLIAM DE VIJLDER


We have the Italian referendum about the revision of the constitution that is going to take place in October. This is very important. One, because it would kind of be the conclusion of a successful transformation of the legal framework of Italia as a country. But it is also important because Matteo Renzi has kind of set up a confidence vote in what he is doing. Markets will really focus on that. As if that’s not enough, we all know that we will have the US presidential elections. You can already understand as of today that in the coming weeks, we will see increasingly heated debates. Again, it can be a factor creating quite some unease in markets which all leads me to say that economic data for the coming weeks become of little relevance. And also, this is important, it means that monetary policy will stay where it is in US. UK will ease. And the ECB is expected to announce in September that it will prolong its quantitative easing program beyond March 2017.

 

FRANCOIS DOUX


We have a promising end of the year. We will be back in September together. Next, stay tuned, we will see Christine Peltier to talk about China.


FRANCOIS DOUX


Let’s now focus on China for ‘The Chart of the Month’ with Christine Peltier. Hello Christine. Over the past few months, since March actually, we’ve seen a stabilisation of the Chinese economy – as suggested by recent industrial production data or the PMI. What do you think regarding this stabilisation?

 

CHRISTINE PELTIER


Yes, indeed. Concerns about the extent of the economic slowdown in China have declined since March because the authorities have introduced new stimulus measures, and especially on the fiscal policy front, and because economic indicators have tended to signal a stabilisation in the growth slowdown. In particular investment growth in infrastructure projects has accelerated because of stimulus measures of the authorities. Also investment growth in the property sector has accelerated as a consequence of the rebound in housing transactions and housing prices over the past year. We’ve also seen a rebound in car sales. The growth rate in car sales has accelerated as well thanks to fiscal measures. But from a more general standpoint, retail sales have grown at a stable and rather weak rate since the beginning of the year.

 

FRANCOIS DOUX


You remain quite cautious. If we take off the stimulus measures, what is the situation of the rest of the economy?

 

CHRISTINE PELTIER


Yes. In fact, the stimulus measures have had some effects on some components of growth and the contagion effects on the rest of the economy have been very limited. Old components of growth in China have remained very depressed. Investment in the manufacturing sector is growing at a very low level because of weak demand, because of the reduction in excess production capacities, and because of the financial difficulties of corporates. Exports continue to perform very weakly. At the same time, the new sources of growth in China have difficulties to take over. We’ve seen growth in the services sector remaining rather strong from 2013 to 2015. This helped to support favourable dynamics in the labour market. But since the beginning of the year, growth in the services sector has been slowing down. And at the same time, job losses in the industry tend to increase. This will heavily constrain the process of expansion in private consumption because growth in the disposable revenue of households is slowing down and it continues to slow down. This will constrain also the rebalancing process between investment and consumption in China in the future.

 

FRANCOIS DOUX


When you look at economic agents in China, the level of debt remains quite high and in a context of slowing growth, the burden remains quite heavy.

 

CHRISTINE PELTIER


Yes. The excessive level of debt of corporates and local governments in China is a huge source of concern. The problem is that because of monetary policy easing, credit growth has accelerated again since the beginning of the year. The domestic debt-to-GDP ratio reached an estimated 210% of GDP at the end of the first quarter of 2016. This debt excess exists in a context of a growth slowdown, industrial crisis, distortions in the property market and deteriorating profits of industrial corporates; all these factors are leading to a continued increase in credit risk. Non performing loans are increasing extremely fast in banks balance sheet. And from a more general standpoint, financial risks continue to extend to non-bank financial institutions and also to the bond market. This will really be a constraint on monetary policy.

 

FRANCOIS DOUX


What is the solution then? What is the Chinese government doing to fight this burden of debt?

 

CHRISTINE PELTIER


The urgency is to accelerate structural reforms especially in order to clean up the financial system, to clean up the SOE sector, to restructure the industry and also in order to strengthen the social welfare system. This is not a new need in China but this need is becoming increasingly pressing.

 

FRANCOIS DOUX


Thank you very much. We’ll focus on China over the coming months. Next we talk about low interest rates in the world with Philippe d’Arvisenet. Stay tuned.

 

FRANCOIS DOUX


For the last part of this summer edition of Eco TV, we will talk about interest rates. They are quite low. Jean Lemierre mentioned that last time in Eco TV. We are joined by Philippe d’Arvisenet. Since the 1980s, we’ve seen a downward trend on interest rates. Can you explain us this phenomenon?

 

PHILIPPE D’ARVISENET


In the early 1980s, we had just experienced a big wave of inflations. And the priority was given to fight this inflation, following M. Volcker’s policy in the US. A few years later, inflation had disappeared. Rates have been going down since then. That was basically the result of an imbalance between the desire to save and the desire to invest worldwide. It is more complicated but roughly speaking this is it. Then real rates came down. They are still getting down. We helped a bit by accommodative monetary policy.

 

FRANCOIS DOUX


Monetary policy has been quite helpful over these past years. But now we see the limits. Do you agree with that?

 

PHILIPPE D’ARVISENET


Yes. But nobody can say the monetary policy was useless, because in 2008 or 2009 it prevented a depression. Monetary policy helped sustaining the recovery at the beginning. Now monetary policy is fighting a lack of inflation which is due to structural causes that may not have much to do with monetary policy. That’s why it is so difficult, why it is so accommodative these days. When it comes to the effectiveness, if you think for example in fighting real problems, low potential growth or implementing a policy which results in low exchange rates, when the neighbour is doing the same, it’s not very effective. If you want people to borrow more when they are mending their balance sheets, it’s also a lack of effectiveness. So yes, there are problems.

 

FRANCOIS DOUX


Third and last question: is there an exit to this situation of very low interest rates?

 

PHILIPPE D’ARVISENET


The longer this period of low rates lasts, the more difficult it is because you have an incentive for some economic agents, states to begin with, to continue borrowing. So the debt increases. The second thing is that you have investors who build up assets with low yields. If you suppose that yields will go up, solvency of debtors is at stake. And it’s a good recipe to have capital losses on the investors’ side. So some people say it might be irreversible. We will see.

 

FRANCOIS DOUX


More on that in your reports on the monthly Economic Research department review of BNP Paribas, Conjoncture. For now, I’d like to thank you for these more than twenty years at BNP Paribas heading the Economic department. Thank you for being so professional and kind with all of us. See you in September for another edition of Eco TV.