The ECB’s monetary policy meeting account illustrates the dilemma it is facing: inflation is subdued and risks to growth are tilted to the downside, yet the financial stability implications of the very accommodative policy need to be closely monitored. These implications are covered in sobering detail in the ECB’s Financial Stability Review. A possible side effect of very low to negative interest rates is that borrowing and spending become more procyclical. Quantitative easing (QE), by modifying the risk structure of investment portfolios (less government bonds and more exposure to assets with a higher risk), will probably increase the sensitivity of portfolio returns to the business cycle.
While many observers have been worried since several months about the health of the manufacturing sector, the activity in services still shows resilience and keeps growing at a pretty decent pace. Nevertheless, the latest economic indicators send a less favourable signal. The Purchasing Managers Index (PMI) for the services sector indeed decreased in November to 51.5 (against 52.2 in October). This level is quite low regarding the historical average. The outlook for economic growth in the coming months, by and large, depends on the resilience of the labour market and the ability to create new jobs.
Automatic fiscal stabilisers help cushion the impact of economic shocks on GDP via changes in government revenues (because of progressive taxes) and expenditures (unemployment insurance). The limited remaining monetary policy leeway in the eurozone is fueling interest in the effectiveness of the automatic stabilisers. European Commission research confirms that, to some degree, automatic stabilisers iron out the impact of negative shocks on GDP. Whether that is enough is another matter. It warrants a debate on the role of discretionary fiscal policy in case of a recession.
Our Pulse indicators leave a misleading negative impression. Indeed, with a 0.3% q/q print in Q3 2019 (first estimate), French growth continues to prove remarkably resilient and stable. And Q4 prospects look similarly positive judging by the October and November results of INSEE business confidence surveys and Markit PMIs. Admittedly, the composite indices were almost unchanged in November but they stand at a relatively high level (105 and 53, respectively). Besides, the headline figures mask more positive details, like, for instance, the improvement in the industry sector (whose confidence index, it is worth emphasizing, stands in the expansion zone contrary to Germany where it is in recession) and the rise in the employment and new export orders components.
The credit impulse has declined in September, moderately for households and much more noticeably for non-financial corporations (NFC). For the latter, the credit impulse has hit its lowest level since the beginning of the asset purchases programme by the ECB at the start of 2015. These movements contrast with the stability of GDP growth in the third quarter in the Eurozone (with a year-on-year rate of 1.2%, like in the second quarter). They almost exclusively involve loans with a maturity of less than one year, which is mainly related to destocking behaviour. For the fourth quarter of 2019, banks interrogated by the ECB anticipate a continued moderation of demand by NFCs and an intensification of demand for housing loans by households.
In September 2019, outstanding sight deposits collected by credit institutions remained particularly dynamic (+ 11.9% year-on-year) and amounted to more than EUR 1,106 bn. This change concerns all customers and especially non-financial corporations (NFCs). First contributors to the growth of total sight deposits each year since 2011, their share within the latter has increased significantly. Several explanations can be given. The low or negative interest rate environment weighs on the attractiveness of other investments compared to sight deposits. Moreover, it contributes to the expansion of NFCs’ bank credit flows, which have been relatively well correlated with their flow of sight deposits since the beginning of the decade
The financial crisis of 2008 left its mark on the macroeconomic, regulatory and legal environments in the United Kingdom. It was followed by a long period of consolidation in the banking sector. Although the major British banks have managed to improve their performances recently, they are now faced with fresh challenges, starting with the uncertainty surrounding Brexit. For the banks, this uncertainty will not be resolved immediately by the conclusion of the Brexit as they will still need to adjust to the loss of their European passporting rights and potentially to address a contraction in demand in their domestic market.
In 2018, France remained an attractive place to invest, despite a tense social climate and an economic environment marked by the slowdown in European economy, Brexit and trade tensions between the United States and China. According to the EY barometer, France outperformed Germany and ranked right behind the UK in terms of the number of foreign investment projects. The industry, digital and services to corporate clients sectors attracted the greatest number of projects. France’s attractiveness highlights the resistance of its industrial network, the strength of its entrepreneurial ecosystem and the dynamism of its research. Recent reforms are also having a favourable impact. However, there is still room for progress in terms of taxation and labour costs.
GDP growth in Q3 2019 has beaten expectations. The growth rate stabilised at +0.2% (q/q) compared to the previous quarter. Economic growth is stable in Spain (+0.4%), in France (+0.3%) and in Italy (+0.1%). For Germany, the data are not published yet. The activity in the manufacturing sector remains subdued while in October, the purchasing managers index (PMI) in the services sector is well below its long term average. Over the coming months, the risk of negative spillovers from manufacturing to services needs to be closely monitored. The evolution of the unemployment rate, which on a historical basis is still relatively low, will be a key factor in the short term.
In the 2020 draft budget bill, the government is forecasting a deficit of 3.1% of GDP in 2019 and 2.2% in 2020 (after an observed deficit of 2.5% in 2018). The improvement in the 2020 deficit is misleading for the same reason as the widening of the 2019 deficit. Unlike the 2019 figures, 2020 no longer shows any traces of the one-off fiscal cost of the transformation of the CICE tax credit into reduced employers’ contributions. Excluding exceptional items, the fiscal deficit narrows by 0.1 point each year to 2.1% in 2020. The new 2020 deficit target is nearly a point higher than the one proposed last year in the 2019 draft budget bill. The wider deficit can be attributed in equal proportions to the downward revision of growth forecasts and structural adjustment
After months of negative surprises, some indicators of the Pulse have migrated to the right hand side of the chart. In particular, the ifo business climate index stabilised in October, whereas the market had expected a further decline. Both ifo and pmi surveys signal a slight improvement in sentiment in manufacturing, although the indices remained deep in contraction territory. This is also confirmed by the continuing weakness of orders in August. Hence, the slight pick-up of industrial activity in that month was probably a statistical blip. The main risk for the economy is that the negative news feed from the export-oriented manufacturing sector is spreading to the domestic economy
In the first half of 2019, Poland’s economic growth held up well to the deterioration of international conditions. Its economic prospects remain relatively positive in the short term despite the downturn in the cycle. The economic model of competitiveness and low labour costs – the foundation of the economic transition of which Poland is a successful example – will be altered by the more generous social policies introduced by the current government. Cyclical and structural factors argue for a slowdown in investment growth over the short and medium term. Of the factors weighing on medium and long-term growth potential, the demographic decline seems the most potent.
Our Pulse indicators are less dispersed than at first glance. In the north-east quadrant, sending a positive signal, we find in particular the INSEE confidence surveys for September whereas in the south-west quadrant, sending a negative signal, we have August hard data. Which signal prevails ? The question has no easy answer. The good performance of the INSEE surveys is as encourageing as is concerning the disappointing trend of production and household consumption expenditure on goods. Our Nowcast model reconciles the two sets of data. Be it based on the soft data or on the hard ones, Q3 growth is estimated at a similar small 0.2% q/q. This matches our official forecast while the INSEE and the Bank of France have just confirmed their own at 0.3%.
At its September monetary policy meeting, the European Central Bank delivered a strong message. Through the broad mobilisation of its unconventional monetary policy tools, it aims to fulfil its mandate and reach its inflation target. At the press conference following the meeting, Mario Draghi seized the occasion to reiterate his call on certain eurozone governments to increase their fiscal support. The ECB is entering a long period in which it will have to remain mute, passing on the baton to the member states with comfortable fiscal leeway. This new round of monetary support is welcome considering the economic troubles facing the eurozone, although there are some doubts about its effectiveness.
Weak data and business cycle indicators suggest that German economy would be in a mild technical recession. The weakness is mainly in the manufacturing sector and has hardly affected the rest of the economy. Despite calls from different quarters, the government is unlikely to launch a fiscal stimulus, beyond what is in the coalition agreement and the climate package. Simulations show that spill-over effects of a fiscal boost to other countries will be limited. Moreover, the implementation might be hampered because of long planning periods and bottlenecks in the labour market. Political tensions could increase after the SPD congress in December.
The French economy continues to show proof of resilience judging from the stability of its GDP growth?–?at an annualised rate of just over 1%?–?and the relatively strong showings of confidence surveys and of the labour market. Although prospects are still favourable, the horizon has darkened in recent months with Germany showing signs of recession, the escalation of trade tensions and lingering uncertainty over Brexit. We expect business investment and exports to decelerate sharply under the weight of a more uncertain, less buoyant external environment. Yet the slowdown is likely to be offset by the expected rebound in household consumption, supported by major fiscal measures to boost household purchasing power.
The new Government has approved the update of the economic and financial document, planning to raise the deficit to 2.2% of GDP in 2020. The 2020 Budget Law is estimated to amount to EUR 30 bn. Some measures contained in the budget, such as the cut of the fiscal wedge, are expected to sustain the economy with a positive effect on growth, despite an increasing uncertainty. In Q2, GDP increased by 0.1 y/y, as stocks negatively contributed to the overall growth, while exports continued to rise. Domestic demand suffered from the mixed evolution of labour market and the further delay of the full recovery of the housing market.
Spanish voters will be called back to the ballot box on 10 November, but there is no certainty that the election results will pull the country out of its current impasse. The political landscape is still too fragmented to produce a lasting coalition. The line to follow in the face of Catalan independentism only exacerbates the divisions and helps justify the lack of co-operation. Meanwhile, growth has slowed somewhat more sharply than originally expected, although it is still holding around 2%, a performance that would be welcomed by many of the other big European economies. The elaboration and adoption of the 2020 budget bill will have to wait until a new government is formed.
Belgian GDP growth is expected to come down from last year’s 1.4% to a mere 1% in 2019 and 0.7% in 2020. This reflects a further slowdown in international trade, which is only partially offset by resilient domestic demand. Despite a slowdown in job creation, a pickup in disposable income spurs on private consumption well into 2020. Public finance remains a key risk-factor with government debt in excess of 100% of GDP. Further fiscal slippage seems almost inevitable with government formation talks not yet near a conclusion.
After its electoral success in late September, the conservative party (ÖVP) is expected to form a new government. To obtain a majority, the party could turn again to the FPÖ (far right). In that case, policies should remain largely unchanged and focus on fiscal consolidation and the reduction of the tax burden. The next government will face a less favourable economic environment. GDP growth could decelerate to around 1.2% in 2020. Nevertheless, public finances have improved considerably, giving the government sufficient leeway to fight a recession, if necessary.
The economic slowdown has been very gradual so far, but it is expected to progressively spread during the second half of 2019 and in 2020. With unemployment at the lowest rate since 2002, households remain confident and have just renewed their confidence in Prime Minister Costa’s administration. After winning the legislative elections of 6 October with more than 36% of the vote, the Socialist party is preparing to form a new government with the support of the other left-wing parties.
Finnish growth had only just regained some momentum in 2015 before slowing again in 2018. GDP growth is expected to weaken further in the quarters ahead. The country’s openness to trade exposes it to the deterioration of the global economic environment. Slower export growth and uncertainty linked to protectionist policies will undermine investment. Households, in contrast, should benefit from stronger wage growth. The unemployment rate has fallen to the lowest level since year-end 2008, and should continue to decline despite the slower pace of job creations.
As we approach 31 October 2019, the latest deadline for the British exit from the European Union (Brexit), who can say where the UK is heading? Probably not the Prime Minister itself, Boris Johnson, who lost his majority in the House of Commons in an attempt to suspend discussions and fuelled scepticism among his European partners by presenting a take it or leave it ‘compromise’ on the Irish backstop that is hardly applicable nor acceptable. This would leave the Brexit end-point with no deal, although this has been prohibited by a law, or the more likely, but by no means guaranteed, outcome of a new extension accompanied by an early general election.
Germany is probably in a technical recession and recent data do not point to any improvement in the near term, quite to the contrary. Given the country’s considerable budget surplus, German business leaders are calling for fiscal stimulus. This echoes Mario Draghi’s plea in favour of budgetary expansion in countries with fiscal space. Simulations show that spillover effects to other eurozone countries would be small. Moreover, the implementation of a fiscal package requires long preparation and may be hampered by labour shortages.
Credit impulse slightly picked up in August 2019 for non-financial corporations (NFCs), while it was nearly unchanged for households. In spite of the slowdown in the euro area GDP in Q2 2019 (+1.1% yoy in 2019 Q2 vs +1,3% in Q1), exceptionally low lending rates have continued to support loans outstanding, which reached +3.4% year-on-year for households, and +4,3% for non-financial corporations.
