Weak Euro, Oil Price Slump and New Stimulus Improve Outlook
Developed Europe ended the fourth quarter and the year 2014 on a surprisingly encouraging note as the Euro-zone reported a series of positive data for December. For instance, data provider Markit’s Composite Purchasing Managers’ Index (PMI), which measures activity in both the manufacturing sector and the services sector, improved slightly between November and December, easing fears that the Euro-zone economy would remain stagnant for an extended period of time. Alongside this data, improved readings for new industrial orders and employment signaled that the oil price slump and a weaker euro were likely reviving business confidence in the region. Indeed, this appears to be the case as the composite PMI rose in January too, beating expectations and touching its highest level in five months.
In sharp contrast to these upbeat trends, deflationary conditions have seemingly worsened in the region. The European Union statistics office Eurostat has estimated that the annual rate of inflation in the 19-country Euro-zone plunged to -0.6 percent in January after falling to -0.2 percent in December. A negative rate of annual inflation implies an actual fall in prices over a period of one year. Notably, this is the first time since 2009 the Euro-zone has recorded a negative rate of inflation.
Fortunately, though, the European Central Bank (ECB) has finally decided to launch its much awaited government bond purchase program, which is expected to provide a significant stimulus to the Euro-zone economy. Beginning in March, the ECB will buy euro-denominated investment-grade securities worth €60 billion every month for an indefinite period in order to push up inflation and encourage businesses to increase investment and hiring.
How soon this stimulus jumpstarts the Euro-zone economy remains to be seen. But a key risk for the single currency bloc now is its standoff with Greece’s new government. Having come to power with the promise of renegotiating agreements with its lenders and getting a portion of Greece’s debt written off, the new government is refusing to renew its bailout package. However, the Euro-zone’s largest economy Germany and the ECB have rejected leeway for Greece. If the standoff continues, Greece faces an acute financial crisis, which in turn may create fresh problems for the Euro-zone economy.
At a Glance
Germany: The economy grew a modest 0.25 percent during the fourth quarter. In 2014, the country’s GDP expanded 1.5 percent, in line with analysts’ expectations and significantly more than the 0.1 percent growth seen in 2013.
U.K.: The British economy expanded 2.6 percent in 2014, clocking its quickest pace of growth since 2007. GDP growth slowed down to 0.5 percent during the fourth quarter compared with the third-quarter rate of 0.7 percent.
France: The country’s central bank said GDP likely inched up 0.1 percent during the fourth quarter. Private sector activity declined in all three months of the fourth quarter. The number of French people seeking jobs reached a new high in December.
Italy: According to the central bank, Italy likely remained in recession during the fourth quarter and shrunk around 0.4 percent last year. Manufacturing activity fell all through the quarter, while services sector activity suddenly dipped in December after two months of growth.
Spain: According to the Bank of Spain, the economy expanded 1.4 percent in 2014, and 0.6 percent between the third and the fourth quarter. A Financial Times report said the 2014 Christmas season turned out to be the best for Spanish retailers since the beginning of the crisis and car sales jumped 18 percent last year.
GERMANY: MODEST GROWTH THANKS TO ROBUST DOMESTIC SPENDING
A preliminary estimate by the Federal Statistical Office (FSO) indicates Europe’s largest economy grew a modest 0.25 percent between the third quarter and the fourth. The comparable GDP data for the third quarter was 0.1 percent. During 2014, German GDP expanded 1.5 percent, in line with analysts’ expectations and significantly more than the 0.1 percent growth seen in 2013. According to the FSO, strong domestic demand played a key role in raising GDP between September and December. This is a welcome sign for Germany, given that exports, the country’s traditional growth driver, have been weakening lately. Exports account for nearly half of Germany’s economic activity and 50 percent of the exports are sold within the Euro-zone.
Not surprisingly, therefore, the country’s exports have been lackluster in recent times amid the deep slowdown in the Euro-zone. The FSO reported that in November, German exports dropped for the second month in a row, falling 2.1 percent. Many economists expected better export data for the month since a sharply weakened euro and the sustained fall in oil prices are believed to be helping exporters in the region. Against this backdrop, the German economy has been propped up by robust domestic spending, which has been strengthening due to rising employment, accelerated wage growth and greater disposable income for consumers amid the oil price slump.
In 2014, which was the eighth consecutive year of employment growth in Germany, the number of employed Germans reportedly swelled 0.9 percent. On an equally positive note, January saw a measure of German consumer sentiment surging to its highest level in more than 13 years. In fact, emboldened by the strong consumer sentiment and the likelihood of global oil prices staying at an average of $59 a barrel this year, Germany’s Economy Ministry raised its 2015 growth outlook to 1.5 percent in January from the 1.3 percent forecast made in October. The ministry has predicted that in 2015, household spending will increase 1.6 percent and the number of employed people will touch a new high, while export growth will slow down further.
THE U.K.: STRONG CONSUMER CONFIDENCE KEEPS OUTLOOK POSITIVE
The latest data from the U.K. paint a mixed picture of the economy during the fourth quarter. In its first assessment of the fourth quarter, the Office for National Statistics (ONS) has reported that the British economy expanded 2.6 percent in 2014, clocking its quickest pace of growth since 2007 and surpassing the 1.7 percent growth registered in 2013. However, ONS said GDP growth slowed down to 0.5 percent during the fourth quarter compared with the third-quarter rate of 0.7 percent. Thus, while the annual figures underscore the country’s robust recovery over the past year, the quarterly data suggest a slight loss of momentum.
According to ONS, Britain’s dominant services sector remained buoyant, growing 0.8 percent from October to December. On the other hand, the construction sector contracted 1.8 percent and manufacturing activity expanded merely 0.1 percent during the last three months of 2014. These data suggest the moderate fall in the growth rate during the fourth quarter is likely temporary, given that construction activity tends to be volatile and the manufacturing sector is believed to have been affected a bit by the slowdown in the Euro-zone, Britain’s main trading partner.
Nonetheless, it must be said that with the fourth-quarter results, the U.K. economy has been pushed back slightly in its effort to rebalance toward manufacturing and investment. Britain is a services-driven economy and over the past 50 years, the contribution of factory output to national GDP has more or less remained in a downtrend. However, beginning 2009, this trend has showed signs of reversing, signaling a much desired rebalancing of the economy. Against this background, the fourth-quarter data show that growth in Britain is now largely being driven by retail and consumer spending. Indeed, retail sales grew at their fastest pace in 12 years between the third quarter and the fourth, rising 2.3 percent thanks to a bumper Christmas. The good news is that riding on solid wage growth and a steep decline in inflation, consumer confidence is expected to remain strong.
FRANCE: PRIVATE SECTOR ACTIVITY CONTINUES TO DECLINE
Recent data and news reported from France suggest the economy likely remained sluggish in the fourth quarter, without any material change in momentum. Markit’s France Composite PMI for each of the three months of the quarter showed a consistent decline in private sector activity, although the pace of contraction slowed down in December. Similarly, industrial production fell for the second consecutive month in November, on a year-over-year basis. Adding to the pessimism, the number of people seeking jobs rose 0.2 percent in December, reaching a new high. Between 2013 and 2014, the number of unemployed people is estimated to have increased by 189,100.
As these trends indicate, France continues to find itself trapped in a cycle where high unemployment is keeping domestic spending subdued while businesses are reluctant to hire freely due to muted demand at home. Further, structural problems and rigid labor laws have affected the investment climate in the country. Late in the fourth quarter, the French government introduced measures that include opening up regulated sectors to competition and increasing the number of businesses operating on Sundays. However, the new steps have been opposed by several citizen groups, politicians and lawmakers, and it remains to be seen if they will be implemented fully.
In another effort to prop up the economy, the government has decided to discontinue its 75 percent tax rate on annual incomes above €1 million. This “supertax”, which was introduced in 2012, has become extremely unpopular and controversial as it is perceived to be driving away investors and ultra- rich citizens out of the country. On another note, both the IMF and France’s central bank have estimated that GDP likely inched up 0.1 percent during the fourth quarter.
ITALY: ECONOMY REMAINS SLUGGISH AMID TENTATIVE REFORM STEPS
Italy’s central bank has projected that the southern European economy, which has not registered a single quarter of growth in the past three years, likely remained in recession during the fourth quarter and shrunk around 0.4 percent last year. Manufacturing activity fell all through the quarter, while services sector activity suddenly dipped in December after two months of growth. Given that persistently weak domestic demand has been one of Italy’s key concerns for a while now, national statistics office ISTAT’s consumer morale index stayed in a downtrend all through the fourth quarter. In line with this trend, the country’s annual rate of consumer price growth fell to 0 percent in December.
On the positive side, though, Italy has started 2015 on an encouraging note. The country’s unemployment rate, which had stubbornly remained in an uptrend from June to November, dropped to 12.9 percent in December from 13.3 percent in the previous month. What’s more, consumer confidence unexpectedly jumped in January after consistently declining all through the second half of 2014. If the unemployment rate continues to fall in the coming quarters, consumer sentiment should improve further and provide a boost to business confidence.
To add to the optimism, Italy appears to be taking tentative steps toward the critical structural reforms necessary to revive growth. For instance, in late January, Prime Minister Matteo Renzi’s government resisted enormous political opposition to change the shareholder voting rules of Italy’s cooperative banks, a move that is expected to help reform and consolidate the banking sector. However, it remains to be seen if the change will be allowed to stay without being challenged. The Italian Economy Minister has also reportedly promised a comprehensive package of reform steps in the near future. The package is expected to include measures to reduce regulatory risks for foreign investors and fiscal measures to support small businesses.
SPAIN: ROBUST DOMESTIC CONSUMPTION SUSTAINS GROWTH MOMENTUM
Spain further consolidated its recovery during the fourth quarter, sustaining the optimism surrounding its economy since its emergence from a double-dip recession in 2013. In a recent review of Spain’s outlook, the first official estimate of the country’s performance last year, the Bank of Spain (central bank) said that the economy expanded 1.4 percent in 2014 and 0.6 percent between the third and the fourth quarter. According to the central bank, the Spanish economy grew 1.9 percent in the fourth quarter compared with the fourth quarter of 2013.
To put these figures in perspective, the third quarter of 2014 had seen Spain growing 1.6 percent compared with the year-ago period and 0.5 percent from the second quarter. Nonetheless, the most encouraging aspect of the central bank’s review is that domestic consumption remained the key source of growth during the fourth quarter. The early part of Spain’s recovery was almost entirely fuelled by exports, but subsequently, domestic consumption surpassed external demand as the primary growth driver. Given that the demand for Spanish exports has been weakening lately in important markets, particularly Europe, the country’s increasing reliance on domestic demand for growth is reassuring.
Indeed, according to a Financial Times report, the 2014 Christmas season turned out to be the best for Spanish retailers since the beginning of the crisis and car sales jumped 18 percent last year. Overall, private consumption is believed to have risen more than 2 percent in 2014. Notably, Spain has experienced a spurt in consumption despite deflationary conditions in its economy. The country’s annual rate of inflation has remained in negative territory since August 2014 and in December prices declined as much as 1 percent from a year ago.
This trend – falling prices and rising consumption – is unusual given that typically consumption tends to weaken when prices are in a downtrend as consumers defer purchases to take advantage of lower prices later. Economists believe that Spanish households have not been postponing purchases because after years of paying off debt, they now feel more inclined to spend, especially since their country’s economic outlook has improved and an estimated 400,000 jobs have been added to the labor market over the past year
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