Renewed fears drive fall in commodities prices at the beginning of the year
February 3, 2016
The Eurozone economy decelerated somewhat during the fall of 2015, partly due to sagging growth in the external sector. GDP increased 0.3% quarter-on-quarter in Q3, which was the slowest pace of growth in four periods. Data showed that growth in exports of goods and services dwindled in Q3 and its contribution to overall economic growth was the smallest since Q1 2013. This, in turn, did not offset steady growth in imports, which acted as a drag on GDP growth. Exports were weaker in Q3 due in part to a relatively-strong euro and a slight downturn in global demand. That said, domestic demand, particularly private consumption—supported by low oil prices and favorable financing conditions—remained solid and continued to be the engine that has propelled the Eurozone economy. For the end of 2015, the Eurozone’s GDP is set to have grown around 0.4% quarter-on-quarter in Q4, which would bring economic growth to 1.5% in the full year 2015. Looking at the major economies in the region, economic activity in 2015 was somewhat disappointing in Germany and still lagged—although it did recover gradually—in France and Italy. Conversely, economic activity in Spain firmed up last year.
At the outset of the year, negative economic news arose from global financial market turbulence, the deceleration in the Chinese economy and a larger-than-expected fall in the Eurozone composite PMI in January, which should sharpen awareness of downside risks in the coming months. Apart from the most recent PMI data, the Eurozone economy remains at a critical juncture and a combination of risks, both domestic and external, are looming over the medium-term horizon.
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The influence of populist parties, both from the right and the left, is gaining momentum in Europe and their national political agendas represent a risk to Eurozone policies. Moreover, country-specific risks are reappearing. In Italy, the banking sector was at center stage in recent weeks, as the government and the European Commission found a partial solution to deal with the management of non-performing loans. However, the solution is seen as incomplete, which could potentially dampen business and consumer confidence going forward. Meanwhile, the governments of Spain and Portugal will face headwinds in the coming months. In Spain, the formation of a government after an inconclusive election in December is not finished and it looks increasingly unlikely that it will occur in the coming weeks, which means that fresh general elections will have to be called for the spring. In Portugal, a left-wing alliance minority government has replaced a conservative pro-reform government and, despite being dubbed an “anti-austerity government”, new Prime Minster António Costa has reassured the country’s external creditors and international institutions that his government will respect Portugal’s obligations. Nonetheless, when it comes to economic policy, the contrast between the former government and the current one could hardly be larger, and this could lead to economic reforms being halted.
On a European level, the heated political debate on how to handle the ongoing influx of refugees has reappeared. Chancellor Angela Merkel’s position is no longer uncontested and this has the potential to raise uncertainty over political and economic policy in the region. Moreover, growing concerns this year stem from further weakness in emerging economies as well as the fact that the United Kingdom’s referendum on whether to exit the European Union (Brexit) could become a real possibility later in the year.
Conditions remain in place for the economy to continue to recover
Last year, the economy benefited from strong private consumption, which, according to more recent data, contributed around two thirds of GDP growth. As the region embarked on the new year, the conditions for the recovery observed in 2015 remained in place: low oil prices, a weak euro, ultra-loose monetary policy and fiscal policy no longer acting as a drag on growth. However, in 2016, the region will continue to face the challenge of very low inflation, still-high unemployment and the impact from slower economic growth in key emerging economies.
Against this backdrop, the Consensus view of analysts surveyed this month by FocusEconomics is that the recovery in the Eurozone will continue in 2016 and they expect the economy to expand 1.6%. Nonetheless, as rising external risks are becoming a real threat to growth in the common-currency area, analysts cut the 2016 GDP growth forecast by 0.1 percentage points over the previous month. Looking forward, the Eurozone economy is expected to virtually maintain that pace of growth in 2017 and is seen increasing 1.7%.
Looking at the economies in the Eurozone, analysts maintained the 2016 economic outlook for 14 of the 19 countries in the region. Analysts cut the GDP growth forecasts for Estonia and Finland, while forecasts for Cyprus, Greece and Malta were raised.
GERMANY | Economic growth picks up somewhat and fiscal surplus widens in 2015
German economic growth ticked up from 1.6% in 2014 to 1.7% in 2015. The slight pickup came largely on the back of outstanding private consumption, which recorded the largest gain in 15 years, fueled by a buoyant labor market, low oil prices, low inflation and the ECB’s expansionary monetary policy. Surging public spending, which was partly related to the strong influx of refugees last year, also supported growth. Conversely, fixed investment slowed and performance in the external sector was subdued, partly due to faltering demand from emerging markets. In addition, Germany’s fiscal surplus widened slightly last year and fiscal reserves were built up in order to cope with the expected increase in expenses for accommodation, food and integration measures for refugees in the coming years. More recent indicators sent somewhat mixed signals at the outset of 2016. Consumer confidence was healthy in January and February, but business sentiment fell to a nearly-one-year low in January and the composite PMI moderated. Regarding political developments, the assaults in Cologne have heightened unease about immigration and Chancellor Angela Merkel remains under pressure over the handling of the surge in refugees.
This year, GDP growth will likely tick up a notch. Private consumption will remain the backbone of the economy, benefiting from similar dynamics as last year. Public spending is projected to remain relatively strong and fixed investment will recover. Nevertheless, the external sector—once the traditional motor of growth—will remain weak over feeble demand from China and other emerging markets. Our panelists see GDP growth picking up to 1.8% in 2016, which is unchanged from last month’s forecast. For 2017, analysts expect the economy to expand at a broadly-steady pace of 1.7%.
FRANCE | Economic growth recovers in 2015 and starts the new year on a positive note
France’s economy decelerated over the previous quarter in Q4 compared to Q3. The moderation was due to softer domestic demand, which more than offset a less negative contribution from the external sector. However, the French economy accelerated significantly overall in 2015 compared to 2014. Latest indicators paint a positive picture of the economy at the start of this year. Indeed, in January, the composite PMI and consumer confidence both recorded slight increases, with the latter reaching its highest level since October 2007. Meanwhile, the country was shaken by a wave of nationwide strikes at the end of January, with taxis, air traffic controllers and schools simultaneously protesting for various economically-driven reasons. On 25 January, President François Hollande announced a EUR 2 billion plan to revive the labor market through subsidized job creation and declared that the country was in a “state of economic and social emergency”. However, critics see the move as purely political and question the real impact such a package could have on the economy. Indeed, Hollande had vowed repeatedly to run for president in 2017 only if unemployment had seen a significant downturn through his first mandate, and it is currently standing at an 18-year high of 10.6%.
Despite a challenging economic and social context, a weak euro and low energy prices are expected to keep France on a modest but steady recovery pace. FocusEconomics panelists expect the economy to expand 1.4% in 2016, which is unchanged from last month’s forecast. Panelists expects GDP to grow 1.5% in 2017.
ITALY | Italy reaches a deal with European Commission to support ailing banks
Italy’s economic growth moderated over the previous quarter in seasonally- and working-day adjusted terms in Q3 2015. While domestic demand remained stable, a deterioration of the external sector’s contribution to growth weighed on the economy, resulting in the softest expansion since Q4 2014. Latest indicators paint a mixed picture of the economy at the start of 2016. While consumer confidence climbed to a record high in January, business confidence fell to its lowest level in almost a year. Meanwhile, after almost a year of negotiations with the European Commission, Italy has finally reached a deal to help Italian banks sell their non-performing loans. Under the agreement, the government will now be able to provide partial guarantees that should support sales of bad loan portfolios as bonds to private investors. While analysts warn that the plan is an incomplete solution, it will significantly reduce potential losses and relieves a worrying situation. Indeed, non-performing loans on the balance sheets of Italian banks are estimated to be worth around EUR 350 billion, equivalent to about 17% of GDP.
Ongoing structural reforms and fiscal consolidation, coupled with broad-based economic recovery in the Euro area, should lead to modest but steady growth both this year and next. FocusEconomics panelists expect the economy to expand 1.3% in 2016, which is unchanged from last month’s forecast. For 2017, the panel sees economic growth at 1.3% as well.
SPAIN | Political uncertainly looms on the horizon
Spain’s economy grew at the fastest pace since 2007 last year, as the country remains firmly entrenched on a growth path following years of recession. Strong domestic dynamics, underpinned by the lowest unemployment rate in over four years in Q4 and a less tight fiscal position, have allowed the economy to outperform many of its European peers. On the political front, the country remains at an impasse after the 20 December election yielded a fragmented Congress and no clear governing coalition. The King—who has to propose a candidate for prime minister—remains in talks with party leaders over who will try to form a governing alliance. However, it remains unclear who the King will propose first and if any party leader can muster the support needed to win a confidence vote in Parliament. Fresh elections must be called two months after Parliament holds its first confidence vote, however, with no time limits on when the first vote has to take place the country could be at a political standstill for months.
Despite the cloudy political outlook, Spain’s growth prospects are stable. An improving labor market and greater confidence should fuel robust domestic demand this year. FocusEconomics panelists expect the economy to grow 2.7% in 2016, which is unchanged from last month’s forecast. For 2017, the panel sees the growth moderating to 2.4%.
INFLATION | Inflation remains subdued in 2015 and the early signs of a turnaround are weak
December saw inflation in the Eurozone holding at November’s 0.2%. In the full year 2015, average inflation in the region was zero. The flat reading came in below an average inflation of 0.4% in 2014 and marked the slowest inflation rate in the history of the common-currency area. Inflation remained stubbornly low in 2015 mainly due to a marked decline in energy prices, primarily resulting from the fall in global oil prices. Starting the new year, an early estimate showed that inflation ticked up just to 0.4% in January, which, although this is an increase compared to the previous month, showed that inflation in the Euro area is still weak and that it is in what ECB President Mario Draghi called the “danger zone” of below 1.0%.
Eurozone monetary authorities remain concerned that downside risks to the inflation outlook prevail. Following a round of monetary stimulus in December, the ECB announced in January that it would leave its monetary policy interest rates unchanged and signaled no further changes to its asset purchase program. The ECB did, however, maintain the prospect of further easing in March in response to increasing downside risks, amid heightened global financial volatility and uncertainty regarding the economic outlook of key emerging economies, as well as due to geopolitical risks.
Following a very weak reading in 2015, inflation in the common-currency zone is expected to rise slightly in 2016. The Consensus view from our panel of analysts is that inflation in the Eurozone will average 0.7% in 2016. The projection was cut by 0.3 percentage points from last month’s Consensus. Looking forward, the majority of analysts agree that inflation in the Eurozone will gradually return to levels that are below, but close 2.0%, and average 1.5% in 2017.
Written by: Ricardo Aceves, Senior Economist
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