Euro Area Economic Outlook February 2018

Economic Snapshot for the Euro Area

Euro Area: Economic Snapshot for the Euro Area

January 31, 2018

Growth ends 2017 on a high note 

A stream of positive data continues to flow in for the Eurozone economy, suggesting that the recovery remained in a high gear in the final quarter of 2017. Economic sentiment hit a new multi-year high in December, exports grew at a solid rate in November and the unemployment rate fell to a multi-year low in October. Furthermore, in a sign that the ECB’s ultra-accommodative monetary policy stance is bearing fruit, corporate lending in the bloc hit a post-crisis high in December. FocusEconomics analysts project that GDP expanded a robust seasonally-adjusted 0.6% quarter-on-quarter in the fourth quarter, a notch below the third quarter’s result.  

The positive momentum from 2017 is expected to have carried over into the new year, and the outlook for the Eurozone economy remains bright. Business sentiment remained at multi-year highs in France and Germany in January, while preliminary composite PMIs for both countries for the same month signaled that their economies continue to grow robustly. The Euro area economy is enjoying the strongest period of economic growth in more than a decade, despite lingering political uncertainty.

In Germany, a government has yet to be formed following September’s elections. On 21 January, a special Social Democratic Party congress supported Martin Schulz’s initiative to open talks with Chancellor Angela Merkel's conservatives to form a coalition government. However, Schulz’s victory was slim, and he is demanding further concessions on immigration and healthcare by the conservatives. The final deal will have to be ratified by the 440,000 party members for a coalition to be formed.

Political unrest remains high in Spain following the victory of separatist parties in the 21 December regional election in Catalonia. Although the central government is effectively ruling the region after Prime Minister Mariano Rajoy invoked Article 155, and there are doubts as to whether former Catalan President Carles Puigdemont will be able to head the new Catalan government, a separatist government with a solid parliamentary majority will likely be formed in the coming days. Moreover, the clock is ticking for the Spanish government to secure support for the 2018 budget. The government plans to reach an agreement before the end of March. However, the Catalan crisis and the fallout from corruptions cases are thwarting the government’s ability to garner enough support to pass the spending bill.

All eyes are on Italy’s general elections scheduled for 4 March; this is the next political hurdle that the Eurozone needs to clear. Former Prime Minister Silvio Berlusconi’s coalition is topping the polls, followed by a neck-to-neck race between a coalition of center-left parties and the populist Five Star Movement. All polls project a highly-fragmented parliament, and tough negotiations will be needed to form a new government, which will have to deal with an ailing financial system and relentless weak economic growth.

Head on over to our Euro Area page for more recent economic news on the region.

Euro area’s stellar growth trajectory boosts economic outlook for 2018

The tailwinds that propelled economic growth in 2017 remain strong and are expected to shore up economic activity this year. Low inflationary pressures should allow the ECB to maintain its ultra-loose monetary policy stance, while robust global growth will support the external sector. Nevertheless, political noise remains high, especially in Germany, Italy and Spain. 

The FocusEconomics panel raised its GDP growth forecast for the fourth consecutive month and now sees the Eurozone growing a strong 2.2% in 2018, which is up 0.1 percentage points from last month’s forecast. Next year, growth is seen slowing to 1.9%.

Most of the Euro area economies experienced an upgrade this month to their growth prospects for 2018, including France, Germany and Spain. Cyprus was the sole economy to have its outlook downgraded, while Belgium, Greece, Italy, Lithuania, Luxembourg, Portugal and Slovakia saw no changes to their forecasts.

Ireland, Latvia and Malta are forecast to be the fastest-growing economies in the Euro area this year, expanding at rates of 3.8% or above. Conversely, Italy will be the region’s slowest-growing economy, with a forecast of 1.4% growth. Regarding the other major economies in the region, Spain will outperform the rest, with a 2.7% expansion. Germany’s economy is seen increasing 2.3%, followed by France’s at 2.0%. 

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GERMANY | Grand coalition parties strike deal for talks 

Data recently released by the German government showed that the economy grew 2.2% in 2017. Domestic demand was the main pillar of growth last year, underpinned by a buoyant labor market with strong employment and wage growth. Although the full-year growth rate was released without hard data for the final quarter of the year, the economy likely moderated slightly in Q4. In November, industrial production rebounded strongly in month-on-month terms from a contraction a month prior. Exports also rebounded in November from the previous month. Moreover, indicators suggest that the momentum in 2017 spilled over into Q1 2018. Consumer confidence rose in January, while the PMI remained strong in the same month. On 21 January, the SPD party congress voted in favor of entering formal coalition negations with Angela Merkel’s CDU. While an agreement is expected to contain some tax reductions and increased public spending, it will likely be devoid of structural reforms or ambitious EU initiatives. 

Domestic demand is expected to keep economic growth afloat this year as private consumption benefits from strong labor market dynamics, and fixed investment should be encouraged by a robust manufacturing sector. Household spending could also benefit from any fiscal stimulus plans of the new government. Meanwhile, the political risk to economic growth has likely decreased. However, a strong euro could still drag on exports. Analysts see GDP growth at 2.3% in 2018, up 0.1 percentage points from last month’s estimate, and 1.8% in 2019.

FRANCE | Economy enters 2018 on solid footing

The French economy is on a solid growth track, with GDP growth in 2017 expected to have expanded at the fastest rate since 2012. Benefitting from the strong economic growth recorded in the first three quarters of 2017 and the positive impact of the labor reform approved in 2016, the unemployment rate inched down to the lowest rate since August 2011 in November. Buoyant economic activity has also boosted confidence: Numerous survey-based indicators have exceeded their long-term averages in recent months. In January, business confidence improved, and the composite PMI edged up to one of its highest readings in the survey’s history on the back of solid growth in client demand and output. Strong economic confidence reflects optimism around the impact of the Eurozone’s economic recovery on France’s external sector and the effects of President Emmanuel Macron’s reform drive on the economy.

The economy is expected to grow at a healthy pace this year on the back of solid domestic demand and improving demand from overseas. Low unemployment and high consumer confidence will boost growth in private consumption, and the EUR 50 billion investment plan to be launched by the government in 2018 will support growth in fixed investment. Panelists participating in the FocusEconomics Consensus Forecast expect GDP to grow 2.0% in 2018, which is up 0.1 percentage points from last month’s forecast. For 2019, the panel sees growth of 1.8%.  

ITALY | Economic recovery solidifies in Q4 

The economic recovery remained relatively solid in the last quarter of 2017, according to recent indicators. In December both business and consumer sentiment were upbeat, while the manufacturing sector continued to benefit from expansionary conditions. The labor market also sent positive signals: In November the employment rate returned to levels last seen in 2008, dropping to an over five-year low. However, annual growth in industrial production in the first two months of Q4 moderated from the strong readings recorded in the third quarter. Additionally, recently published data shows a further deterioration in house prices in Q3, with prices falling in both quarter-on-quarter and annual terms. This does not bode well for the troubled banking sector and the construction sector; in the construction sector, production has almost halved from its pre-crisis level.

This year the economy is expected to maintain a reasonable pace of growth. Low inflation and further improvements in the labor market will support household spending, while fixed investment should continue growing thanks to favorable financing conditions. Upside risks come from stronger-than-expected growth in the Eurozone and further improvements in the banking sector. On the other hand, possible political turmoil following elections in March could generate some financial instability. FocusEconomics Consensus Forecast panelists project growth of 1.4% in 2018, which is unchanged from last month, and 1.2% in 2019.

SPAIN | Growth buoyant in Q4 despite political unrest

The economy likely made significant progress in the final stretch of 2017 in spite of heightened political noise. High-frequency indicators for the quarter suggest that growth was buttressed by favorable external conditions and resilient consumer spending amid an improving labor market and low borrowing costs. Survey-based data also paints a bright economic picture early this year, with December’s services and manufacturing PMIs pointing to solid activity in Q1 2018. On the back of an upbeat economic panorama, improving fiscal metrics and ample private deleveraging, on 19 January Fitch Ratings upgraded Spain’s long-term foreign currency rating to A- from BBB+. In the political arena, however, political uncertainty persisted through January. On 17 January, Catalonia’s parliament elected a new board with an independentist president and majority. Secessionist parties have also agreed to re-elect Carles Puigdemont—who fled to Belgium in October—as president of the region, but constitutional hurdles impede the way for his election.

Economic growth will continue to moderate but remain resilient through 2018 as employment growth slows and fiscal constraints continue to hamper public sector activities. In addition, political uncertainty stemming from Catalonia’s attempt at gaining independence will continue to weigh on the outlook. The FocusEconomics panel sees growth at 2.7% next year, up 0.1 percentage points from last month’s estimate. For 2019, our panelists see the pace of economic expansion slowing further, to 2.3%. 

MONETARY SECTOR | Inflation moderates in December

Comprehensive data corroborates that inflation in the Euro area inched down from 1.5% in November to 1.4% in December. It therefore remained below the ECB’s target of just under 2.0%, as volatile service prices and a strong euro continue to limit any sharp upswing in consumer prices. Despite the stream of positive economic figures in the Euro area, ECB President Mario Draghi restated that inflation remains subdued, and that the Bank will hold interest rates at their current low levels for the foreseeable future.

The FocusEconomics panel expects inflation to be broadly steady this year and average 1.5%, up 0.1 percentage points from last month’s forecast. For 2019, inflation is seen rising slightly to 1.6%.

Get the full FocusEconomics Consensus Forecast Euro Area

Written by: Angela Bouzanis, Senior Economist

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