With strong acceleration since spring 2021, bank loans to private sector outstanding recorded, in June, its highest annual increase since 2009 (+6.1% year-on-year in June 2022). Annual increase and credit impulse for non-financial companies (NFC) reached levels not seen since 2006 (+6.8% and +4.9%, respectively). According to the banks surveyed by the ECB in June as part of its Bank Lending Survey (published on 19 July), supply chain bottlenecks and the rise in commodity prices increased working capital requirements and strengthened demand for loans with a maturity of less than a year.
Over the next five years, French economic policy will have to continue to deal with structural issues, such as full employment, the delay of companies in terms of robotisation, the competitiveness of companies and the place of industry. It will most likely also continue to focus, at least in the short term, on supporting household purchasing power, as it has done since 2019. These projects, which will have to be carried out in parallel, will have to be reconciled with the cost of the ecological and energy transition against the background of public debt that has already risen sharply and interest rates that are moving higher, albeit in a controlled way.
The ECB Governing Council has surprised markets by a 50 bp rate hike and by dropping its forward guidance and moving to a data-dependent tightening cycle. This may reflect unease about how quickly the euro area economy might react to the policy moves and about the consequences of uncertainty about gas supply during the winter months. Another key decision was the introduction of the Transmission Protection Instrument (TPI), a tool to address unwarranted spread widening that would weigh on the effectiveness of monetary policy transmission. The data dependency of further rate hikes and the vagueness about the triggers for using the TPI may lead to an increase of the volatility in interest rates and sovereign spreads whereby investors try to understand the ECB’s reaction function.
After 2021, a year when wage negotiations were difficult against a backdrop of a fragile and uneven economic recovery, wage increases should be much higher in 2022 but insufficient to compensate workers for high inflation. The country’s most powerful union, IG Metall, has obtained a wage increase which has not been seen in the metalworking sector for 30 years: +6.5%. However, this increase should be put in perspective, since the agreement covers 18 months, bringing the annual growth rate to +4.5% in 2022. Salary negotiations in Germany are still mostly carried out at a centralised level (by industry or sector). The shift in decentralization in the 1990s mainly enabled enterprises to break out of sectoral agreements in exceptional circumstances (e.g
Spain’s labour market is still delivering pleasant surprises, with a net job creation rate of almost 263,000 during the first half of 2022[1]. However, beyond these rising numbers, the major change on the labour market was in recruitment processes in February as a result of employment law reforms, which most notably set out to tighten the conditions for using precarious short-term contracts. These reforms have produced immediate results, with a leap of more than 1,130,000 in the number of permanent contracts since the beginning of the year, which is an increase of 12%. These increases have been particularly large in the accommodation/restaurant (+32.5% over the last six months), construction (+30.8%) and arts and leisure activity (+18
Next Thursday’s meeting of the ECB Governing Council is eagerly awaited. The rate hike decision has been pre-announced so the more important question is whether the new tool to address unwarranted sovereign spread widening will be unveiled. The rationale for such an instrument is well understood but its design and use raise several questions. One is easy to answer. To avoid a conflict with the monetary policy stance, bond purchases by the central bank would need to sterilized. The others are more challenging. Where is the threshold to call a spread widening ‘unwarranted’? Should the ECB be clear or ambiguous on this threshold and on its reaction when it would be reached? The final question concerns moral hazard and, hence, conditionality
Since 8 July, a new governmental scheme has offered an ‘anti-inflation’ cheque of EUR200 per person to 2.7 million of the most vulnerable Spanish households. This measure is part of a total package of EUR9 billion, approved by the authorities at the end of June. This also includes another cut in VAT on electricity (from 10% to 5%) and a cut in travel costs. These steps to support households’ purchasing power are welcome as inflationary pressures continue to rise.
Outstanding amounts of overdrafts, revolving loans, convenience and extended credits granted by banks to Non-Financial Corporations (NFCs) in the euro area stood at EUR 535 bn as of May 2022 after five months of consecutive increases, a level comparable to May 2020. From their low point of EUR 452 bn in August 2021, NFCs' overdrafts have increased by 18.3%, following a fall of 35.6% which began in February 2015.The fall in the outstanding amounts of NFC overdrafts became more marked in 2020, probably as a result of public support measures implemented in response to the emergence of the COVID-19 pandemic
In May 2022, Germany recorded its first trade deficit since 1991. Due to a much bigger than expected increase in imports (2.7% m/m) and an unexpected drop in exports (-0.5% m/m), the country’s trade balance was negative to the tune of EUR 1 billion. By comparison, Germany was running a monthly trade surplus of nearly EUR 20 billion at the end of 2019. Moreover, this deterioration of the trade balance is likely to continue.
Although real GDP held up in Q1 (+0.1% q/q), our barometer clearly shows that the economic outlook is worsening. Annual inflation rose again in June, going from 7.3% to 8.5%, while manufacturing output stagnated: although Italy’s manufacturing PMI remained in the expansion zone at 50.9 in June, it fell for the seventh straight month and has been down 11.9 points over that period.
Economic growth remained very dynamic until the first quarter of this year. Strong wages growth and significant government measures to back up purchasing power over this period have supported consumer spending. Inflation rose sharply in recent months but remained lower compared to other Central European countries, due to a price cap on certain food and energy related goods. Economic growth is expected to slow down significantly in 2023, owing to the deterioration in the international environment, monetary and fiscal tightening from H2 2022. The temporary suspension of European funds presents a serious challenge given that budget and current account deficits have increased and external liquidity has eroded.
The last two quarters have been marked by slower growth in economic activity. This is mainly attributed to weaker levels of consumer spending. Furthermore, the country is still very exposed to supply chain disruptions in the automotive sector to a great extent, which adversely impacts both industrial activity and exports. The expected slowdown in the global economy in 2022 will also affect growth given the country’s high exposure to trade. Inflation has probably not yet peaked, which means that monetary tightening is likely to continue in the short term.
On the economic front the eurozone has seen a succession of similar-looking months, with inflation continuing to rise and confidence surveys continuing to fall to different extents. Although there is a clear deterioration in the economic situation and outlook, its scale and duration remain uncertain. A recession is getting more likely but is not (yet) a certainty, first because activity levels remain strong and not all the economic indicators are flashing red (particularly when it comes to the labour market) and secondly because growth has some tailwinds or, at the very least, shock-absorbers.
Inflation has continued to accelerate, at 5.8% y/y in June, and has not yet reached its peak. Most significantly, the energy component saw a further monthly rise of 5.3% in June, having already risen by 9% in March. Not only had the initial shock not yet fully passed through into other prices (food, manufactured goods, services), but this new increase signals a further acceleration in inflation, particularly in the food component which suffered the most from the initial shock (1.4% increase month-on-month and 3.1% over 3 months): In June, this food index has increased by 5.7% y/y, below July 2008’s 6.4% peak, but should rise above and reach 9% in December 2022, according to our forecasts.
Until May, Eurozone growth has been relatively resilient to the series of shocks that have swept the region, but its pace should slow more significantly in the months ahead. We cannot rule out the possibility of a recession, even though that is not our base case given the numerous sources of growth: post Covid-19 catch-up potential, surplus savings, investment needs and fiscal support measures. Our scenario appears to signal stagflation (inflation will be much higher than growth in 2022 and 2023), but with the big difference that the unemployment rate is not expected to rise much. The ECB is preparing to begin raising its key policy rates to counter the inflationary shock. We are looking for a cumulative 250bp increase in the deposit rate, bringing it to 2% by fall 2023.
Germany is one of the Eurozone countries hit hardest by the Russia-Ukraine war, which is leading towards feeble growth prospects and high inflation. German GDP is expected to barely increase by 1.3% in 2022, compared to a Eurozone average of 2.5%. Average annual GDP growth will remain 0.9% below the year-end 2019 level. At the same time, inflation is expected to reach 8.1% in 2022, driven up by high energy prices. Between the minimum wage hike promised by the government and expected wage increases in many sectors, wage growth should accelerate strongly in 2022, but may not be sufficient to offset the inflationary shock.
The French economy is stuck between three developments with different effects: an inflation shock that is denting consumer spending, a negative supply shock (supply constraints in industry) and the lifting of public health restrictions (benefiting growth as of the second quarter, having held it back in the first quarter). Government measures that have limited inflation were unable to prevent negative growth in the first quarter. However, the positive impact of the lifting of public health restrictions and a rebound in purchasing power should allow for a recovery towards positive growth in the third quarter (+0.3% q/q).
In contrast to the previous recessions, the Italian economy has already recovered what it lost in 2020. The carry over for 2022 is 2.6%. In Q1 2022, real GDP rose by 0.1%, with an annual growth rate above 6%. Value added for construction continued to increase, while manufacturing declined and services stagnated. The economic recovery mainly reflects the robust evolution of investment, while private consumption declined, as Italian households remained extremely cautious. Imports rose strongly, bringing the current account balance into negative territory. The economic recovery in 2021 was less intense in the Southern regions than in the Centre-North, thereby widening the gap between the two areas.
After a weaker economic rebound than its European neighbours in 2021, Spain is expected to report solid growth of more than 4% in 2022. Despite the Ukraine war’s impact on inflation and purchasing power, the job market remains on an uptrend, with 186,000 jobs created in the first five months of the year. This dynamic should extend into the summer months with a stronger recovery in tourism, although current disruptions affecting the airlines in Europe could undermine this outlook. Moreover, inflation might not peak until later in the year, since price increases for food and household appliances are currently gaining traction.
With an energy mix comprised of nearly 90% fossil fuels, the Netherlands have been hit by the full brunt of the sharp rise in oil and gas prices since the outbreak of the Russia-Ukraine war. As a result, the Netherlands has one of the highest inflation rates in Europe. Even so, household consumption is resilient, and the majority of companies esteem that business will remain vigorous in the months ahead. Thanks to this strong performance, the government has been able to focus on a limited series of support measures while continuing to reduce the debt of public administrations. Yet the Netherlands also faces another type of inflation that is just as alarming: house price inflation
Belgian GDP grew by 0.5% in the first quarter of 2022, as inflation continues to reach new all-time highs. Consumer confidence took a hit at the start of the Russian invasion, with growth subsequently likely to have come to a standstill. Index-linking of wages as an income-protection mechanism should eventually soften the inflation-induced blow to private consumption, but the international competitiveness of Belgian firms will suffer as a result. Against a backdrop of rising interest rates, fiscal consolidation remains crucial.
After surging above 10% this spring, inflation will be the main headwind hampering Greek GDP growth in 2022. Yet the economy has proven to be resilient so far. Unemployment has been at the lowest rate since 2010, and GDP has rebounded robustly since the end of lockdown measures in 2020. A recession is unlikely this year, especially since tourism is primed for a solid summer season. On 20 August 2022, Greece will officially exit the European Commission’s enhanced economic surveillance programme, which it entered in June 2018. In May, the country also repaid the last of the IMF loans (EUR 1.9 bn) contracted during the 2011 crisis. Eleven years later, Greece is taking another step towards the normalisation of its economic system.
Denmark stands out for its vigorous economic recovery, which was much stronger than that in the other European countries. The Danish economy quickly returned to pre-crisis levels and even exceeded its pre-pandemic growth trend. Industry is in full expansion thanks to its positioning in high value-added market segments. Yet this dynamic momentum is threatened in the short term by surging inflation and job market pressures. The central bank has not yet begun the process of normalising monetary policy, although it plans to tighten monetary conditions gradually and progressively in the near future.
Once protected by the logic of “whatever the cost”, household purchasing power in Europe is now threatened by inflation. After the pandemic, public policies are being solicited once again to help reduce the loss of purchasing power, albeit without really succeeding. In 2022, the real disposable income of Eurozone households is expected to decline by about 2.5%. Consumption is still rising, but only because the household savings rate is declining, a trend that masks extremely diverse situations.
A lasting, unwarranted widening of sovereign spreads in the euro area would represent an excessive tightening of financial conditions and weigh on activity and demand. It would run into conflict with the objectives of the ECB in the context of its monetary policy normalisation. Spreads are influenced by various fundamental variables that are directly or indirectly related to debt sustainability issues. These tend to be slow-moving. Sovereign spreads also depend on the level of risk aversion, a variable that fluctuates a lot and which is influenced by global factors. This complicates the assessment of whether an observed spread widening is warranted or not.
