Perspectives

Perspectives

    Perspectives - 17 December 2020
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    Until the very end, 2020 has been a difficult year, to say the least. However, there are reasons to be cautiously hopeful about the economy in 2021. Vaccination should reduce the uncertainty about the economic outlook. Ongoing fiscal and monetary support is also important. However, more than ever, caution is necessary in making forecasts. Reaching herd immunity may take longer than expected and some of the economic consequences of the pandemic may only manifest themselves over time.
    The 46th president of the United States, Joe Biden, will face a difficult mandate. At the time of his inauguration on 20 January 2021, he will inherit a sluggish economy, as the Covid-19 pandemic continued to worsen with a human toll of tragic proportions. Looking beyond the health crisis, the new Democratic administration will have to act on political and social stages that have never seemed so antagonistic at the dawn of a new decade. With his reputation as a man of dialogue, Joe Biden will need all of his long political experience and skills in the art of compromise to try to heal America’s divisions.
    Economic activity has rebounded rapidly since March and has gradually spread from industry to services. Infrastructure and real estate projects continue to drive investment, but it has also begun to strengthen in the manufacturing sector as well, encouraged by solid export performance. Lastly, private consumption is still lagging, but yet has picked up vigorously since the summer. Whereas fiscal policy should continue to be growth-supportive in the short term, the monetary authorities are expected to adjust their priorities and return their focus on controlling financial risks. Credit conditions should be tightened slowly, especially via the introduction of new prudential rules. Corporate defaults are likely to increase alongside efforts to clean up the financial sector.
    As in other economies across the globe, Japan will report a record-breaking recession in 2020. The path to a full economic recovery will be probably longer because growth would remain very subdued. According to our forecast, Japanese GDP will not return to pre-crisis levels before the end of 2022. Domestic demand remains sluggish due to corporate investment, although household consumption seems to be picking up again. For the moment, Japanese exports are benefiting from China’s robust economic rebound. Fiscal policy, the front line of defence, will continue to receive support from the Bank of Japan’s monetary policy. There are also talks of a new fiscal package.
    The resurgence of the Covid-19 pandemic halted the Eurozone’s economic recovery. It looks like year-end 2020 will be harder than expected due to new social distancing measures and lockdown restrictions set up in most of the member states. Industrial output remains low compared to pre-crisis levels and companies in the tradeable services sector continue to be at the forefront of restrictions. As to the first half of 2021, uncertainty is still high. Faced with this environment, the European Central Bank (ECB) is expected to announce new monetary stimulus measures following its 10 December meeting as fiscal support measures are gradually reduced.
    The second lockdown interrupted an already stalling recovery. However, the business climate is likely to improve soon on the expectation that several vaccines might soon be available. Inflation is currently in negative territory because of the VAT cut, but will soon turn positive again once the measure expires on 1 January 2021. Because of the second lockdown, the 2021 budget will show a larger deficit than assumed in September, EUR180 bn or 5.2% of GDP. In Q2, the household savings rate rose to 20.1%, a new historical high. Once the pandemic is over, the savings rate could drop considerably if consumers catch up on postponed purchases. 
    The huge recessionary shock in H1 was followed by an equally spectacular rebound of economic activity in Q3, with an 18.7% jump in real GDP, although it will remain short-lived. The recovery has turned out to be W-shaped: GDP is expected to fall again in Q4 because of lockdown measures reintroduced on 30 October to tackle the second wave of the covid-19 pandemic. However, the second V should be less pronounced than the first: the decline should be smaller because the lockdown measures are less stringent, and the rebound should also be smaller because restrictions will remain in place and the economy is weakened. There is still a long way to go, but the arrival of vaccines means that there is light at the end of the tunnel. The first positive effects of the France Relance plan should also underpin growth, possibly taking GDP back to its pre-crisis level in 2022.
    Following an impressive decline in the first half of 2020, the Italian economy rebounded over the summer. Value added rose strongly in construction and manufacturing, while the recovery in the services sector was less substantial. Favourable indications also come from house prices invalidating the darkest scenario depicted at the beginning of the pandemic. To contain the second wave of infections, the Italian Government has taken restrictive measures, with negative effects on activity. The economy is expected to decline in Q4 again. This contraction should be less significant than in the first half of the year, with only a moderate impact on 2020 growth, while the carry- over in 2021 should be more sizeable.
    Forecasts made at the start of the year will probably turn out to be accurate. Spain is set to be the Eurozone’s economy hardest hit by the Covid-19 epidemic. We forecast GDP to shrink by 11.8% in 2020 before rebounding by 7.0% in 2021. The social situation has worsened again this year, forcing the government to introduce new large-scale welfare benefits (e.g. minimum living income), which will be reinforced in 2021. Spain’s huge €140 billion stimulus plan will support the recovery, should raise the country’s potential growth and create jobs. But the structural budget deficit is widening. Once the Covid-19 crisis is over and the recovery underway, Brussels will intensify the pressure on the Government to speed up certain key reforms, and in particular regarding the country’s pension system.
    We expect the Belgian economy to lose 7.2% of its size this year, followed by a 3.8% increase next year. After a strong recovery in the third quarter, private consumption is expected to decline again at the end of this year, but not as much as during the first lockdown. So far, structural damages seem to have been mainly avoided, with bankruptcies close to their normal level and unemployment rates stable since the beginning of the year. Government support measures have no doubt played a crucial role in this but once these measures are discontinued, some long term scarring will take place.
    The government decreed a second lockdown in November due to the rapid rise in Covid-19 infections. Business indicators point to a fall in activity. Thanks to the short-time work scheme, unemployment has only risen moderately. Moreover, inflation has remained at a relative high level compared to other eurozone countries. In 2021, fiscal policy remains very accommodative and the deficit might only shrink to 6.3% of GDP. The economy is projected to rebound by 3.5% in 2021 compared with a slump in 2020 (-7.5%). A major downside risk is the increased indebtedness of the non-financial corporate sector. 
    In Q2 2020, Finland stood out from the rest of Europe as the country that reported the smallest decline in GDP – “only” –4.4%. Yet the ensuing recovery was less vigorous than for its EU neighbours, and Finland will surely continue to underperform in the months ahead. Even so, the Finnish economy is still one of the most resilient in Europe, thanks notably to the relatively feeble spread of the virus and robust support from the fiscal and monetary authorities.
    Greece’s economic recovery will be fraught with uncertainty in 2021. The Covid-19 hit to activity could last longer in the tourism industry – a key sector for the country – than in other sectors. The decline in tourist inflows in summer 2020 has limited significantly the rebound in Q3 GDP, which was much weaker than in other European countries. Some confidence indicators, particularly regarding the unemployment outlook, have worsened during the autumn. The conservative government plans to use the large amounts of money allocated by the European recovery fund to finance its stimulus plan, details of which will be finalised early next year. Despite that, public debt is likely to remain above 200% of GDP by the end of 2021, which is very worrying from a long-run perspective.
    The record fall in UK GDP in the second quarter gave way to unprecedented growth in the third, and the news that an effective vaccine against Covid-19 will soon be widely available suggests that the economy could start its definitive recovery in 2021. However, the UK is not out of the woods yet. Given that a second national lockdown was introduced in England in November, there is little doubt that economic activity will drop again in the fourth quarter. Moreover, the strength of the recovery is, because of Brexit, more uncertain than elsewhere. This not only because of the UK’s decision to leave the EU’s single market and customs union, but also due to continued uncertainty over whether a free-trade agreement will be found. 
    Since March 2020, Sweden has adopted a more relaxed approach to the COVID19 outbreak as no lockdown has been imposed to the population. However, the recent pick up in new infections could slow the recovery down in Q4 2020. Pervasive uncertainty will continue to hamper exports and corporate investment, while household consumption is fuelling the economic recovery. In 2021, the Riksbank will maintain and expand its vast asset purchasing programme. New expansionist measures are expected to bolster an already accommodating fiscal policy. 
    Norway was not hit as hard by the Covid-19 pandemic as most its European neighbours. Moreover, the economy has been able to count on considerable support from the fiscal and monetary authorities. In its draft budget for 2021, presented in October, the government has pledged to maintain an expansionist policy, even if spending will logically not be as high as in 2020. What’s more, faced with an upturn in Covid-19 cases and tighter restriction measures, the central bank has adopted a more conciliatory tone. 
    The Danish economy has quickly rebounded after the reopening of the borders but a complete catch-up will take time since the resurgence of the Coronavirus epidemic keeps the country’s economic situation uncertain. Services exports were hard hit by the crisis in 2020, but are offset by a surge in Danish household consumption, supported by government measures. Fiscal policy should remain accommodative in 2021 and the Central Bank of Denmark will continue to defend its peg with the euro.
    Perspectives - 01 October 2020
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    For several weeks now, the improvement in economic data has been slowing down. On the one hand, this loss of momentum is unsurprising as it followed a substantial rebound which could not last. On the other hand, this fall could reflect the economic reaction to the rise in the number of new Covid-19 cases in many countries. Furthermore, the level of uncertainty which remains very high, affecting households and businesses, should also play a role. As a result, monetary and especially fiscal policies remain crucial in ensuring that the recovery continues pending the release of a vaccine.
    Social distancing and lockdown measures implemented to combat the Covid-19 pandemic severely damaged the US economy in Q2 2020, resulting in a record 9.1% decline in GDP. The ensuing recovery is still incomplete and inequitable, as many of Americans still unemployed because of the pandemic are from low-income categories. The health toll is getting worse, and the United States is the country with the highest number of deaths (nearly 200,000 victims to date). President Donald Trump long played down the disease but must now deal with consequences during the run up to the presidential election on 3 November. Although the incumbent president is lagging in the polls, the election’s outcome is still highly uncertain.
    The economy continues to recover. Initially driven by a rebound in industrial production and investment, the recovery broadened over the summer months. Exports have rebounded and activity has also picked up in the services sector. Yet it continues to be strained by the timid rebound in household consumption, which is far from returning to normal levels. The unemployment rate began to fall right again after the end of lockdown measures, but this decline has been accompanied by an increase in precarious jobs and large disparities, with the unskilled and young college graduates being particularly hard hit.
    It will take a long time for Japan to erase the economic shock of the Covid-19 pandemic. Even though lockdown measures were less restrictive than in other countries, Japanese GDP is poised for a record contraction in 2020. The expected rebound could be mild. Household confidence and business activity indicators have stagnated, sending mixed signals about the strength of domestic demand. The Covid crisis is bound to accentuate the weaknesses of the Japanese economy: sluggish growth, low inflation and record-high public debt. Prime Minister Shinzo Abe’s resignation is unlikely to lead to any major policy changes as Japan continues to pursue expansionist economic policies.
    After a more vigorous than expected recovery following the end of lockdown, the trend now seems less energetic. There is still lost ground to make up and the end of the year, beset by uncertainty on the health and economic fronts, is likely to see a marked decline of growth. In our central scenario, there is no return to pre-crisis GDP level before the forecast horizon at the end of 2021. Coupled with this, deflationary pressures are building, and the strengthening of the euro intensifies this dynamic. So far the European Central Bank has been patient, but has indicated its willingness to take new measures. If the current situation persists, an extension of emergency monetary measures, in terms of both size and duration, looks likely.
    A strong rebound is expected in Q3 (7.2%) following the progressive lifting of restrictions. Nevertheless, the recovery is likely to remain slow and bumpy at times, at least until there is a Covid-19 vaccine or a better treatment. Thanks to the widespread use of furlough, the labour market has held up reasonably well. However, the scheme may also have been delaying a necessary restructuring, which could weigh on the long-term performance of the economy. The huge increase in public spending to ease the economic consequences of the virus have forced the authorities to activate the debt brake exemption clause. The excess debt will be repaid over 20 years starting in 2023.
    After a rapid restart in May and June, the economy was back to 95% of its normal level in August. However, the improvement is now slowing as the automatic catch-up effects fall away and as substantial disparities between sectors and persistent public health constraints and uncertainties remain in play. Even so, Q3 is expected to see a substantial rebound (of around 15% q/q). It will be in Q4 that growth is likely to fall back like a soufflé. This period will determine the next chapter in the recovery. Hence the significance of the stimulus package in its double role of softening the blow from the crisis and boosting the recovery now under way. We estimate that this package will add 0.6 of a point to growth in 2021, taking it to 6.9%, after a contraction of 9.8% in 2020.
    In Q2 2020, real GDP fell by 12.8%, dropping down to values recorded in the 1990s. A weakened domestic demand was the main driver of the recession, with households reducing their expenditure and investment falling by 15%. The contraction became widespread. The real estate sector sent mixed messages: in Q1 2020 prices went up while transactions experienced a sharp decline. Latest data have signaled a rebound of the economy, even if the scenario remains uncertain. The strength of the recovery will depend on the behaviour of businesses and households, which will in turn be affected by the evolution of the pandemic. In the real estate sector, both prices and transactions should experience a sharp decline by the end of the year. Transactions should only partially recover in 2022. 
    The Spanish economy registered a record contraction of 22.7% in the first half of 2020. With the public deficit likely to rise above 10% of GDP this year, the government faces some difficult decisions, notably on the terms and conditions of its temporary layoff scheme (ERTE). The recovery in industrial production since the easing in lockdown restrictions in May is encouraging. However, this only partially compensate for the slow pick-up in activity in other sectors. The final quarter of 2020 will be a pivotal moment. A substantial programme of support for employment and investment (under the recovery package announced this autumn) is needed, while narrowing down support more specifically towards the sectors lastingly affected by the crisis.
    Economic activity contracted less than in the neighbouring countries (-8.5%). Hard data confirm a rebound in Q3, although social distancing rules are weighing on activity, in particular in services. Thanks to the substantial financial buffers, the government can cope with the considerable costs caused by the Covid-19 pandemic. In 2021, the deficit is projected at around 5% of GDP and the debt ratio may end up just above 60%. The centre-right coalition is likely to lose the majority at the next general election in March 2021. If the social democrats and greens do well, a purple coalition would be possible.  
    We expect the Belgian economy to lose 7.5% of its size this year and grow by 4.6% next year. Consumption is on course for a strong recovery but corporates remain hesitant to invest, with government interventions expected to pick up some of the slack. Government formation talks are likely to have entered a final phase. The new coalition will have its work cut out for it, as both supportive measures in the short term and a deficit-reduction program in the medium term are needed.  
    Finland’s economy was showing signs of weakness even before the Covid-19 pandemic started – indeed, GDP contracted a bit in the fourth quarter of 2019. In spite of that, the economy has been one of the most resilient in Europe. That is notably because the pandemic has been relatively contained, allowing the authorities to impose softer restriction measures. Another reason is the substantial support provided by the government.
    Despite managing well the epidemic, Portugal has experienced a severe economic shock in Q2. Real GDP plunged by 13.9%, pulled down by sharp falls in goods and services exports (-36.1% q/q) and private sector consumption (-14.0% q/q). Investment dropped (8.9% q/q). The country has been heavily impacted by the collapse in tourism inflows and foreign activity, particularly in Spain. External factors could also hamper the recovery, particularly given the surge in new Covid-19 cases in Spain. Nevertheless, the improvement in public finances operated in recent years should translate into a government deficit for 2020 smaller than in other European countries – around 7.0% of GDP according to government estimates. This provides relatively more leeway to support the recovery.
    While UK GDP has bounced back since May and has made up half of lost ground caused by the Covid-19 pandemic, the economic crisis is still far from being over. In particular, concerns are mounting over the labour market, as the government’s furlough scheme will be terminated in the next few weeks. Meanwhile, the end of the transition period that maintains the UK in the EU single market and customs union is coming up fast. Disagreements during the negotiations raise fears about the UK leaving without a trade agreement, which could have an even bigger impact on the economy in the long term than the current crisis.
    Not only was Norway affected by the Covid-19 pandemic, but the country also had to face a big fall in the price of its main export: oil. Nevertheless, these two shocks have been cushioned by the structure of the Norwegian economy and the authorities’ fiscal and monetary response. The country’s economy is now one of the best positioned to return to its pre-pandemic levels. Indeed, it is already showing signs of improvement.

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