Eurozone economy starts 2016 on high note

Despite heightened uncertainty at the start of 2016, amid volatile financial markets and rising concern over the slowdown in China, the Eurozone economy began the year on a high note and picked up pace notably in Q1. According to a new, timelier, preliminary estimate, the economy grew a seasonally-adjusted 0.6% in Q1 over the previous quarter, which was double the pace of Q4’s growth. Although a breakdown by components is not yet available, leading indicators suggest that the domestic healing, which has driven the recovery so far, likely firmed up in the first quarter. An improving labor market, low energy prices and easy monetary policy are expected to have fueled consumption, while the external sector is likely to have remained a drag on growth.    

The strong start to the year is positive news for the bloc, which is slowly returning to its pre-financial crisis shape. However, the Eurozone is still facing a number of challenges and performing below potential. High debt levels, a fragile banking sector and a persistent lack of inflationary pressures continue to pose headwinds to the recovery in many economies. In Italy, the government and the financial sector took a step in the right direction to address banking concerns in April and created Atlante, a private investment fund to backstop troubled banks’ capital increases and buy non-performing loans. The fund has already had to rescue one distressed lender, Banca Popolare di Vicenza, who was unable to fill even 10% of shares put up for offering. While the creation of Atlante is positive news and comes along with a number of reforms the Italian government is making progress on, critics are skeptical if the size of the fund is sufficient given Italy’s banking sector’s woes.

On top of economic fragilities, home-made problems are threatening to interfere with the region’s recovery and the bloc’s unity as a whole. The still unsolved Greek crisis as well as growing Euroscepticism and support for nationalist political parties continue to cloud the outlook. In the political sphere, Spain will head to the polls for the second time in six months after no coalition government was able to be formed following the most fragmented election outcome in recent history. The political impasse has stalled policy implementation and early polls suggest that fresh elections will not yield a clearer result. In Ireland, the two main political parties were able to reach an agreement and break the political deadlock that has dominated in recent weeks. However, a weak minority government could pose a challenge to reform implementation going forward. Meanwhile, mounting Euroscepticism and support for nationalist political parties is taking place in many countries across the region, including in Austria, where the far-right Freedom Party candidate won the most votes in the first round of the presidential election in April.  

On a broader scale, the United Kingdom’s upcoming vote on whether to remain in the EU on 23 June is adding to uncertainties. The decision to stay is far from certain and a vote to leave the EU would have significant economic repercussions for both the United Kingdom and the Eurozone. On top of this, still unsolved migrant and Greek crises persist in the region. In Greece, the first bailout review remains delayed—stalling debt relief negotiations and the release of much-need funds—as the country continues to battle with its creditors over the needed reforms. In the face of a number of ongoing uncertainties, the FocusEconomics panel sees growth slowing in Q2 and the economy expanding 0.4% quarter-on-quarter.       

See the Full FocusEconomics Euro Area Report

Growth expected to remain stable in 2016

The conditions that led to last year’s recovery remain largely in place and the Eurozone economy is expected grow steadily this year. Tailwinds from an improving labor market, low oil prices and ultra-loose monetary policy should fuel the recovery, however, diminished prospects for the global economy continue to weigh on the outlook. Analysts polled by FocusEconomics held the outlook for the Eurozone economy stable after last month’s downgrade and see growth of 1.5% in 2016. Looking forward to 2017, growth is expected to inch up to 1.6%.

Regarding the economies in the Eurozone, analysts left their 2016 GDP projections unchanged for 12 of the 19 countries in the region, including major players France, Germany, Italy and Spain. Meanwhile, analysts’ forecasts were more positive for five countries, while GDP growth forecasts were cut for the remaining two economies. 

GERMANY | Leading indicators point to steady growth

Germany likely continued on a fairly steady growth track in the first quarter of the year, with growth mainly driven by domestic demand. April’s drop in the unemployment rate, the ECB’s loose monetary policy stance and the rise in consumer confidence in May bode well for private consumption. Exports rebounded in February after a drop in January as demand from EU countries more than offset sluggish demand from emerging markets. Industrial production started the year on a high note, but the moderation in both the PMI and business sentiment that was observed from February to April suggests that output will likely tally a somewhat softer increase in Q2 than in Q1. In the political landscape, the EU-Turkey deal on migration eased some of the pressure on Chancellor Angela Merkel. Moreover, following March’s local elections, which led to a broad loss of votes for the two main parties, CDU and SPD, new coalition groups are being formed. This will broaden coalition options for the next federal election scheduled for 2017.

Germany is set to record another robust expansion this year, with private and public spending as the main growth engines. Conversely, exports will likely be a soft spot in the economy due to weakness in emerging markets. Our panelists see GDP expanding 1.6% in 2016, which is unchanged from last month’s forecast. For 2017, analysts also expect 1.6% growth.

FRANCE | Economy picks up notably in Q1

Preliminary data show that the French economy expanded 0.5% over the previous quarter in Q1, which nearly doubled the growth rate seen in Q4. The acceleration in the first quarter came on the back of stronger domestic demand, which more than offset a negative contribution from the external sector. Recent indicators, however, paint a mixed picture of the economy. In April, the composite PMI crossed into expansionary territory, while business confidence surged to a seven-month high. On the other hand, soft readings in consumer confidence from February to April is a source of concern. Meanwhile, on 28 April, rail workers joined student protestors and staged the seventh general strike since March. Rail workers staunchly oppose Europe-wide deregulation that will reduce protective work practices in the rail industry.

A weak euro and low energy prices are expected to keep France on a modest but steady pace of recovery, yet the country’s rigid and highly-regulated labor market will continue to weigh on growth unless structural reforms are implemented. FocusEconomics panelists expect the economy to expand 1.3% in 2016, which is unchanged from last month’s forecast. Panelists expect GDP to grow 1.5% in 2017.

ITALY | Government unveils rescue fund to shore up banking sector

Italy’s economy slowed in the last quarter of 2015 and data for the first months of 2016 remain lackluster. The economy is burdened with a fragile banking sector characterized by a heavy load of non-performing loans (NPLs), whose gross amount at the end of February tallied almost EUR 200 billion. To shore up the banking sector, on 11 April, the Italian government announced the creation of Atlante, a government-backed private rescue fund. Atlante’s capital stock of nearly EUR 4.3 billion was provided by a number of banks, insurers, bank-related foundations as well as by the state-controlled Cassa Depositi e Prestiti bank. The fund will act as a buyer of last resort for unsold shares of distressed banks and will also buy NPLs, with the goal of kick-starting a market for these assets. However, critics are skeptical if the fund is large enough given the state of Italy’s banking sector.

Eased financing conditions as well as healthy private consumption—sustained by low inflation and stable labor market conditions—should be mildly supportive to growth. On the other hand, weak external demand—especially from BRIC countries—could hold back growth. FocusEconomics panelists expect the economy to expand 1.0% in 2016, which is unchanged from last month’s forecast. For 2017, the panel sees economic growth at 1.2%.

SPAIN | Fresh election called to end political stalemate

Preliminary data show that Spain’s economy outperformed its regional peers again in the first quarter despite the political deadlock that has characterized the country for the last four months. GDP growth held steady at the previous quarter’s 0.8% increase. Similar to the final quarter last year, in Q1, the economy has likely benefited from the ECB’s accommodative monetary policy and from low oil prices. Following another round of coalition talks in which the party leaders failed to strike a deal, King Felipe VI announced new elections will be held on 26 June. According to recent opinion polls, support for the parties remains broadly unchanged since December suggesting that June’s election will not bring about fundamental changes to the political landscape.

Looking forward, there are concerns that a continuation of the political stalemate beyond June might negatively impact the economy, in particular investment, and hinder plans to cut one of the Eurozone’s largest fiscal deficits. Our panelists expect the economy to grow 2.7% in 2016, which is unchanged over the previous month’s estimate. For 2017, the panel sees growth moderating to 2.3%.

See the Full FocusEconomics Euro Area Report

INFLATION | Consumer prices return to negative territory

Harmonized consumer prices returned to negative territory in April, falling 0.2% on an annual basis. The result followed March’s flat growth and comes amid an environment of subdued energy prices. The result is a setback for the European Central Bank (ECB), which unveiled a comprehensive and widely unexpected package of policy measures in March to ease monetary conditions and stoke inflation. Inflation in the Euro area is in what ECB President Mario Draghi called the “danger zone” of below 1.0% and at its 21 April meeting, Draghi hinted that further easing measures could be announced going forward.

Inflation is expected to return to the common-currency zone this year, although it will remain timid overall. Our panel of analysts cut their inflation projections by 0.1 percentage points in May. The Consensus view from our panel of analysts is that inflation in the Eurozone will average 0.3% in 2016. Looking forward, the majority of analysts agree that inflation in the Eurozone will rise gradually and average 1.4% in 2017.

Written by: Angela Bouzanis, Senior Economist

Today's Top News

Sample Report

Get a sample report showing all the data and analysis covered in our Regional, Country and Commodities reports.

Download

FocusEconomics Video

Improve your economic forecasting. This 1-minute video shows you how.

Play Video

Search form