Perspectives - 25 January 2018
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    It looks like 2018 will be a year of strong growth across the globe, with very few countries left behind. In the United States and the eurozone, business climate indicators are close to the peaks last seen in the mid-2000s. Although pressure on production capacity has been rather mild so far, business leaders are beginning to feel it more acutely. Asset prices – both financial and real estate – continue to rise, and some now fear the emergence of bubbles. The time is ripe for the normalisation of monetary policies. The central banks are cautiously pulling out of the government bond market, which is likely to spark an upturn in interest rates. This risks placing a damper on activity as of 2019.
    The US economy is being fuelled by oil and debt, a familiar story. Growth is expected to approach 3% in 2018, which is no longer such a common feat. The massive tax cuts approved by Congress will support growth in the short term. But they will also widen the Federal deficit, which could pave the way for higher interest rates. The Fed is expected to continue tightening its monetary policy, in keeping with the moves initiated by Fed chairwoman Janet Yellen, who will be replaced in February by Jerome Powell.
    We expect growth to remain robust in 2018. In addition to a solid, self-sustaining cyclical recovery, the monetary environment is especially favourable, despite the central bank’s reduction in the monthly volume of security purchases (QE). Persistently low inflation means that European growth has not yet run up against supply-side constraints, and justifies maintaining an accommodating monetary policy. Yet the cyclical recovery should not mask the need for the eurozone to strengthen its institutions.
    The economy is booming and even showing signs of overheating. Wage costs have been rising, in particular in sectors which have been confronted with severe labour shortages. Nevertheless, in the framework of negotiations to form a new coalition government, the CDU/CSU and SPD agreed on delivering a substantial fiscal boost. The coalition could be in place by mid-March. After strong growth in 2018, the economy is expected to slow substantially next year, because of shortages of production capacity and skilled labour and of monetary tightening in the US and in Europe.
    Supported by robust domestic demand and rapid global growth, the French economy continues to grow at a decent pace, even showing signs of acceleration on the eve of the new year. We expect its growth rate to reach 2% in annual average terms this year, from 1.9% in 2017. A cornerstone of our scenario is the expected continued strength of private sector employment. It is a key support of purchasing power gains while the net impact of fiscal policy is a matter of some debate, even if this net impact should nonetheless prove limited. Thanks to job gains, the unemployment rate should continue to decline, and household consumption should regain the dynamism it has lacked thus far.
    Domestic demand remains the main driver of the Italian recovery. Investment rebounded, rising by 3% in Q3 2017, and private consumption moderately increased. Strong demand from non-EU countries sustained Italian sales abroad, with a positive contribution of net exports to the overall growth. In 2018, as well as in 2017, the economy is expected to increase by about 1.5%. Micro-firms in Italy remain the backbone of the productive system: they account for 95% of total firms (97% in services), employ 46.8% of total workers (ranging from 23.1% in industry to 66.7% in construction) and produce 29.7% of total value added (52% in construction).
    Economic activity across the country as a whole does not really seem to have suffered from the crisis in Catalonia. Against a background of an extremely vigorous European economy, Spain’s growth has remained solid and the manufacturing sector has accelerated. The unemployment rate continues to fall. In Catalonia, the regional elections did not provide a decisive factor to identify a route out of the crisis. Political pressure is forcing each side to take tough positions. In the short term dialogue is likely to be strained and unproductive, maintaining a climate of uncertainty around the Catalan question.
    Brazil’s economy expanded for the third consecutive quarter in Q3 2017 after eight quarters of recession. Our scenario continues to favour a gradual rebound in activity in 2018, buoyed by domestic and global demand. Inflation is under control and monetary easing is winding down. Yet with reforms on hold and elections wrapped in uncertainty, the financial markets may be in for a rough ride in the months ahead. Despite job market improvements in 2017, the economic and political crisis has left deep social and psychological scars that could raise the spectre of a radical election outcome, jeopardising what is already a challenging macroeconomic and fiscal consolidation in 2019.
    Economic growth slowed in the third quarter and all the indicators suggest that this slowdown continued in the final quarter. The economy is still driven by domestic demand, whilst investment has stalled, despite more favourable monetary conditions. The sharp fall in inflationary pressures (reducing inflation below the central bank’s target) has allowed the monetary authorities to cut policy interest rates by 225 basis points. The government continues to focus on the control of public spending in order to reduce its deficit and rebuild its sovereign wealth fund. It hopes to use this fund to uncouple its spending from oil revenue from 2019 onwards.
    Economic growth rebounded slightly in India in the second quarter of fiscal year 2017/18. Third-quarter indicators confirmed this recovery, which is driven by industry’s dynamic momentum. In contrast, household consumption slowed and private investment is struggling to pick up again, despite a more favourable institutional and monetary environment than in the year-earlier period. Moreover, with rising inflationary pressures and the risk of budget overruns, the central bank might decide to tighten monetary policy. Despite the economic slowdown and growing social tensions, the NDA, the ruling coalition party, could win a majority in Parliament’s upper house before the 2019 general elections.
    China reported economic growth of 6.9% in 2017, up from 6.7% in 2016, according to the figures released on January 18th. The impact of policy stimulus measures on domestic demand and then the rebound in exports contributed to this slight upturn. However, the slowdown trend at work since 2010 started to resume again in H2 2017. It is expected to extend into 2018 as a consequence of structural factors and tighter domestic credit conditions. Getting “better quality” economic growth, attenuating financial risks and reducing corporate debt must remain the top priorities of the authorities. Yet there will continue to be uncertainty for quite some time over their determination to make the economy less dependent on credit at the price of slower growth.
    The Dutch economy is experiencing a strong recovery. This bodes well for the new four party centre-right coalition that took over end October. The government aims at keeping a small budget surplus. Household and business will profit from substantial tax reductions. On Europe, the government would like a return of the strict rules of the Maastricht treaty. Growth is expected to remain strong in the coming years. However, production constraints are likely to appear. As a result, wage should rise more rapidly and inflation could reach 2%.
    Having pointed in the wrong direction last autumn, economic indicators have rebounded slightly since. As we move into 2018, the UK economy is growing only slowly, but has not completely stalled. The fall in the pound has stopped. Is this just a temporary respite? The Brexit process is now moving into its second, and more difficult, phase. This will see the definition of the future framework of relations between the United Kingdom and European Union, with a view to agreement in October 2018 prior to effective withdrawal in March 2019. The main risk is of deadlock; negotiators have very limited time in which to reconcile positions which are still very divergent.
    Perspectives - 18 October 2017
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    Economic growth is accelerating in various parts of the world, from Europe and the Americas to Asia, and this renewed activity is buoying international trade and the financial markets. The recovery has moved beyond a nascent phase, including in the eurozone, where it is fuelled by consumption and lending. Inflationary pressures are still mild, however, except to a certain degree in Germany. Under this environment, the central banks are cautiously normalising their monetary policies, with the Federal Reserve reducing the size of its balance sheet and the ECB curbing its expansion. As a result, bond yields are unlikely to come under much upward pressure.
    The economy continues to grow at a moderate pace and unemployment is declining. Other than some monthly disruptions (drop-off in industrial production and payroll employment; artificial rebound in wages; surge in pump prices), the series of devastating hurricanes is unlikely to affect underlying economic trends. One of these trends is the absence of price and wage pressures, which is hard to reconcile with an output gap that on the verge of closing. The Fed seems to have adopted the consensus point of view that the usual relationship between employment and prices has been temporarily halted. It still expects this relationship to return to normal again, but in the meantime, it is taking a cautious, go-slow approach to the process of normalising monetary policy.
    The recovery is continuing at a rapid pace based on current estimates of potential growth. The eurozone is making up ground lost during the crisis, which should eventually trigger an upturn in inflation towards the central bank’s target rate. So far, however, wages and prices have barely reacted to the cyclical upturn. Structural factors are probably at play (globalisation, technological innovations, etc.), but the ECB continues to see it as a sign of persistent underemployment. Consequently, it will maintain an accommodating policy next year, even though this support will be adjusted to take into account the strong cyclical performances.
    The CDU/CSU remained the largest party after the legislative election in September. As the SPD rules out participating in a grand coalition, the CDU/CSU will have to turn to the FDP and the Greens for forming a coalition. It will not be easy to find agreement between these three parties, because of major differences in policies concerning migration, Europe and climate change. Despite the political uncertainty, business cycle indicators remain well oriented. The economy is projected to grow rapidly thanks to strong domestic and external demand. Price pressures are increasing, as labour and capacity shortages have become more evident.
    The latest cyclical indicators released in recent months have been rather positive, with an ongoing improvement in business confidence, strong job growth, and another decline in the unemployment rate, which confirms the solidity of the recovery. Growth prospects look also bright for both the near term and the year 2018, despite a few clouds on the horizon, like the sharp reduction in government-subsidised job contracts and, more generally, the consolidation measures planned in the 2018 finance bill. Yet this 2018 budget also contains numerous growth supportive measures, and the net overall effect should be neutral. Consequently, we are maintaining our forecasts of an average annual growth rate of 1.7% in both 2017 and 2018.
    During the first part of 2017, domestic demand remained the main driver of the continued recovery which is spreading across sectors and becoming more sustainable. Consumer and business confidence has improved. The government has recently approved the Economic and Financial Document, expecting GDP to grow by 1.5% both in 2017 and 2018. This would allow the budget deficit to GDP to narrow to 1.6% of GDP at the end of next year. In June 2017 employment reached the threshold of 23 million, almost back to pre-crisis levels. As for the labour force, there has been a significant shift in the composition by age.
    Economic growth remains strong, despite a surge in inflation that is cutting into household purchasing power. The economy would hardly have a cloud on the horizon if it were not for Catalonia, one of Spain’s regional powerhouses, which has hurtled itself into a major political crisis. The Catalan question can be seen in part as the legacy of the economic crisis that swept Spain ten years ago, although it is more as well. The referendum ended up radicalising the conflict. Apparently the time has come for de-escalation, but starting a veritable dialogue between the central and regional authorities will be a long and difficult process.
    The recession is technically over. After eight quarters of contraction, real GDP rebounded in H1 2017. Households have seen a gradual improvement of their financial statements, but corporations and the public sector are still having trouble. Economic recovery has not yet firmly taken root, which, combined with disinflation, should encourage the central bank to continue to ease its monetary policy. Assuming no further escalation in the political crisis, an orderly election process next year, further deployment of reforms, supportive monetary policy, and a still benign global environment, we expect GDP growth to accelerate gradually, propelled by consumption and exports.
    The economy continues to consolidate. Economic growth accelerated significantly in Q2 2017, and inflationary pressures fell sharply, allowing the central bank to lower its key rates by 150 basis points since the beginning of the year. Although the banking sector is still in a fragile situation, it continued to improve in H1 2017. The share of risky assets is declining, the supply of new loans is accelerating, and bank profitability is picking up. At the same time, the government is still determined to consolidate public finances, as illustrated by the decline in the fiscal deficit (even excluding oil and natural gas revenues). Under this environment, Fitch switched to a positive outlook for its sovereign rating for Russia.
    Economic activity has slowed sharply since January. This deceleration is the result of the combination of two temporary shocks: demonetisation and the introduction of GST. However, it also reflects a slowdown in investment, which continues to be hampered by overcapacity in manufacturing industry and the growing problems at public-sector banks. The government’s scope of action to stimulate activity and support its banks remains limited if it wants to avoid weakening the public finances. The deficit for the first five months of the 2018 fiscal year is already 96% of the full-year target. In addition, government finances could be significantly affected by the writing off of loans to farmers.
    The authorities have activated all leverages to guarantee stability in 2017, in preparation for this month’s 19th National Congress of the Communist Party. Economic growth accelerated slightly in the first half. In the financial system, monetary and regulatory tightening has triggered deleveraging among banks and non-bank institutions, which should help curtail some of their most risky activities. While household debt continues to rise, but remains moderate, the increase in corporate debt has slowed. The authorities have also managed to reduce capital outflows and to stop the fall in foreign exchange reserves, while the yuan has rebounded against the dollar since the beginning of the year.
    Not all Austrians are benefiting from the current economic upturn. Although unemployment has been diminishing, low skilled workers find it increasingly difficult to get a job. Moreover, their relative income position has been deteriorating. This has resulted in a decline in popularity of the outgoing grand coalition. By campaigning on an anti-immigration platform, the ÖVP (liberal conservative) won the general election and will try to form a new coalition with the FPÖ (populist right). If successful, this coalition will aim for tighter immigration policies and lower taxes. In 2018, growth could ease to 1.7%, as the impact of the 2016 tax reform is diminishing.
    Growth is stable, with domestic demand compensating weaker trade prospects. Job growth sustained its strong trajectory of the last quarters. So far, 62 000 jobs were created since the start of the Michel I-government, with another 80 000 expected before the end of the current legislation. With wages back on the rise, we expect increasing disposable income to fuel private consumption for the foreseeable future. With both profit metrics and capacity constraints at multi-year high’s, non-financial corporations are spurring on investment growth. In spite of the low rate environment government investments are still lagging behind, with general infrastructure quality suffering as a result.

On the Same Theme

The recovery continues, but… 7/11/2017
A wave of optimism is sweeping the economy, especially in the eurozone, where growth is accelerating and spreading to all member countries. As we enter summer 2017, all economic indicators are looking upbeat, job creations are picking up, and unemployment is declining at a faster pace. The horizon looks bright, with just one exception, China, where a few clouds are forming. Beijing is taking action to curb credit growth again, which is bound to strain activity, notably in the real estate sector. Heavy industry is already showing a few signs of relapsing, and global commodity prices are easing.
Stronger momentum 4/25/2017
Economic indicators are picking up in most of the developed countries. Eurozone growth is more robust, at an annualised rate of nearly 2% in first-quarter 2017. The rebound is also better distributed, as the economic cycles of the 19 eurozone member countries are tending to move more in sync. The United States reported an upturn in oil and shale gas- related activities, and corporate investment in this sector probably rebounded at the beginning of the year. Inflation rebounds, approaching or overshooting the official 2% target. The central banks keep calm, however.
Change of scenery 1/24/2017
Donald Trump’s election as president of the United States opens a vast range of possibilities, including a possible surge in activity in the short-term. Consequently, we are raising our outlook for US growth, inflation and interest rates for the horizon 2017 and 2018. Upcoming tax cuts – the size of which remains to be seen – will occur at a time of quasi full employment, which is bound to accentuate wage and price pressures. Inflation is likely to rise above the official 2% target, which would encourage the US Federal Reserve (Fed) to raise its key rates a bit faster. This would boost the dollar, notably against the euro, whose weakness is largely due to the European Central Bank (ECB).
#Brexit 10/13/2016
Three months after the UK referendum, it might be tempting to call the Brexit vote an economic non-event. Yet it is much too early to measure the consequences, other than its downward pressure on GBP. For the UK, the challenge is to continue attracting international investors, at a time when the country risks losing access to the European market. This task will be especially difficult given that monetary policy is geared towards holding down interest rates, and public finances are bound to deteriorate. All of this points towards a long depreciation of GBP, which will provide scant economic support while undermining the country’s attractiveness.

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