Euro area outlook stabilizes, ending streak of four consecutive downward revisions

FocusEconomics panellists kept their growth projections for the region unchanged this month, ending the streak of four consecutive downward revisions. Panellists expect the Euro area economy to contract 0.6% in 2013. In 2014, the Eurozone economy is expected to experience a moderate recovery, with a projected output growth rate of 0.9% (unchanged from last month’s forecast).

Ireland experiences strongest downward revision, Cyprus still expected to be worst performer in the region

Forecasters cut their GDP projection for nine economies in the region, prospects for seven economies were left unchanged and the only country that experienced an upward revision was Luxembourg. Ireland experienced the strongest downward revision (-0.5 percentage points) as recent data show that the country’s economic recovery remains more fragile than expected. Cyprus is still expected to be the worst performer in 2013 with a 9.9% contraction, followed by Greece (-4.6%). FocusEconomics panellists cut forecasts for two of the region’s four major economies. In Italy, the outlook was cut by 0.1 percentage points to minus 1.8%; in France, the forecast was also cut by 0.1 percentage points to the current minus 0.3%. Panellists also forecast a contraction in Spain (-1.6%), while they see positive growth in Germany (+0.4%).

photo by Aurelien Calonne

photo by Aurelien Calonne

Political events in Portugal and Spain take centre stage

Political events in the peripheral countries of the Euro area made the headlines this month. In Portugal, the ruling center-right coalition nearly split due to internal disagreement regarding the implementation of the bailout program. This turn of events threatened to cause a political crisis that would have put the country yet again at the center of the region’s debt crisis. A government reshuffling that gave more power to the coalition’s junior party cooled the crisis and helped calm tensions in financial markets. Meanwhile, in Spain, a corruption scandal involving illegal cash payments threatens the survival of President Mariano Rajoy’s government. Rajoy had long refused to debate the scandal in parliament but finally bowed to pressure and announced that he will appear in parliament to face questions over the allegations in early August.

Euro area economy remains weak, forward looking indicators point to improving conditions

Recent economic indicators paint a mixed picture of the Euro area economy. In May, industrial production declined 0.3% over the previous month, which was larger than the 0.2% contraction expected by the markets. On a positive note, forward-looking indicators point to improving conditions in the coming months. The Markit Flash Eurozone PMI moved into expansionary territory, up from 48.7 in June to 50.4 in July. This is the highest reading in 18 months and suggests that the Euro area economy could pull out of the recession in Q3. FocusEconomics panellists currently expect that the Euro area economy will expand 0.1% in the third quarter; this would mark the region’s first expansion after six consecutive contractions (the longest recession in its history).

photo by KimManleyOrt

photo by KimManleyOrt

European Central Bank adopts forward guidance, marking milestone for Euro area’s monetary policy

Higher energy and food prices have affected recent price developments. According to more detailed estimates for June, Eurozone inflation rose to 1.6% (May: 1.4%), marking the second consecutive pick-up. That said, inflation remains below the ECB target of “below, but close to, 2%.” Panellists expect inflation to average 1.5% in 2013, which is unchanged from last month’s estimate. For 2014, panellists also project inflation to average 1.5%.

Meanwhile, at the 4 July policy meeting, European Central Bank (ECB) President Mario Draghi announced that the ECB will keep interest rates, “at present or lower levels for an extended period of time.” The announcement marked a milestone in the Eurozone’s monetary policy, as this is the first time the ECB has ever given forward guidance. With the adoption of this communication strategy, the ECB aims to strengthen the impact of its already accommodative policy stance. By providing an indication of what the prevailing policy stance will be in the future, European monetary authorities expect to put downward pressure on longer-term interest rates, thereby lowering the cost of credit for households and businesses.

Note: This is an excerpt from the FocusEconomics Consensus Forecast Euro Area – August 2013, published July 30, 2013. The full report (156 pages, covering all 17 Eurozone member states is available for immediate download at the FocusEconomics Online Store). For more information and a free sample of the report please visit our website.

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