Euro Area: Economic Outlook Stabilizes Following Two Deteriorations

The outlook for Euro area 2014 GDP stabilized this month as FocusEconomics panelists kept their projections at the 1.1% that they forecast a month ago. The result reflected diverging trends among the 18 Euro area economies. Six countries experienced upward revisions (Cyprus, Germany, Ireland, Luxembourg, Slovakia and Spain), whereas projections were revised downward for eight economies (Austria, Estonia, Finland, France, Italy, Latvia, Netherlands and Portugal). The outlook was unchanged for the remaining four economies. Panelists expect the Euro area economy to accelerate slightly in 2015 and forecast a 1.5% expansion in GDP, which is also unchanged over last month’s projection.

Eurozone Recovery Stutters as Economies Lose Momentum

Cyprus is expected to be the worst performer in 2014 with a 4.4% contraction, followed by Slovenia, where economic growth is expected to be flat. At the other end of the spectrum, Latvia and Luxembourg are expected to be the strongest performers in 2014, expanding 3.8% and 2.5% respectively. Among the region’s major economies, Germany is projected to grow at the fastest pace with a 2.0% expansion, followed by Spain with a 1.1% expansion and France with 0.8% growth. Italy is expected to experience a meager 0.4% expansion.

Recent indicator releases painted a mixed picture of the Euro area economy as the ongoing recovery is failing to gather sufficient momentum. Detailed GDP data confirmed that the economy expanded a seasonally-adjusted 0.2% over the previous quarter in Q1, marking a deceleration over the 0.3% expansion recorded in Q4 2013. On a positive note, industrial production expanded a seasonally-adjusted 0.8% over the previous month in April, which marked both a rebound over the 0.4% contraction recorded in the month prior and the strongest expansion in five months. Moreover, the unemployment rate declined for the first time in five months. At 11.7%, the unemployment rate inched down from the 11.8% recorded in March and marked the lowest level in seventeen months. That said, the unemployment rate is only 0.3 percentage points shy of the region’s all-time record of 12.0%.

ECB Launches Bold Measures to Boost Eurozone

Survey-based indicators provided evidence that the recovery may actually be losing steam. The Markit Composite PMI Output Index flash estimate fell from 53.5 in May to 52.8 in June, marking the lowest reading in six months. The reading was underlined by weakness in the region’s core economies, with French private-sector activity contracting for a second consecutive month and German companies reporting the slowest output expansion in eight months. Corroborating the PMI reading, the European Commission economic sentiment index also dropped in June, slowing from the 102.6 recorded in May to the current 102.0.

Against this backdrop, the ECB announced decisive action to prop up the Eurozone economy and to quell concerns that persistent low inflation may cripple the incipient recovery. This announcement came at the ECB’s most recent meeting, which took place on 6 June. The ECB cut the main refinancing rate by 10 basis points to the current 0.15%, which marks a new record low. In addition, the Bank cut the deposit rate from zero to minus 0.10%, thus becoming the first major central bank ever to adopt a negative deposit rate. The move on the deposit rate is aimed at boosting lending to the real economy, as it will now be costly for banks to hold funds at the ECB. Besides the interest rate cuts, the ECB announced a series of cheap long-term loans for banks under a scheme called “Targeted Long-Term Refinancing Operations” (TLTRO). The program links the amount that banks can borrow to the amount they loan to households and businesses.

Inflation Rate Holds at Lowest Level in Nearly 5 Years

Recent inflation figures continue to be the basis of concern. In June, annual inflation was at 0.5%, which was in line with the reading recorded in May and equals the lowest level since October 2009. Inflation has now been below 1.0% for nine consecutive months, a range which ECB President Draghi defined as the “danger zone”. Within this setting, FocusEconomics Consensus Forecast panelists lowered their inflation projections this month. They expect inflation to average 0.7% in 2014, which is down 0.1 percentage points over last month’s forecast. In 2015, inflation is expected to accelerate to 1.2%, which is also down 0.1 percentage points from last month’s projection.

Note: This is an excerpt from the FocusEconomics Consensus Forecast Euro area – July 2014, published July 1st, 2014. The full report (170 pages, covering all 18 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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