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European Economics Weekly

US recession fears won’t deter ECB

Fears about a possible US recession have prompted investors to revise their ECB interest rate expectations down this week, but we have pushed ours up to show the deposit rate peaking at 2%. While next week we expect the euro-zone economic sentiment indicator to add to the evidence that growth slowed in June, we think that policymakers at the central bank will be more concerned by the inflation data, which look set to reach a new record high.

24 June 2022

European Data Response

German Ifo Survey (Jun.)

The renewed decline in the German Ifo Business Climate Index for June provides further evidence that weaker demand is starting to affect manufacturing output. With inflation set to remain high and the country’s gas supply looking increasingly precarious, the chances of the country falling into recession this year have risen considerably.

24 June 2022

European Data Response

Euro-zone Flash PMIs (June)

June’s euro-zone PMI surveys showed a further slowdown in the services sector, while activity in the manufacturing sector now seems to be falling outright. With the price indices remaining extremely strong, the euro-zone appears to have entered a period of stagflation.

23 June 2022

Key Forecasts

Main Economic & Market Forecasts

%q/q(%y/y) unless stated

Latest

Q1 2022

Q2 2022

Q3 2022

Q4 2022

2021

2022

2023

2024

GDP

+0.6(+5.4)

+0.6(+5.4)

-0.3(+2.9)

0.0(+0.5)

+0.3(+0.6)

+5.3

+2.3

+1.8

+1.8

Household Spending

-0.7(+7.5)

-0.7(+7.5)

-0.3(+3.2)

0.0(-1.2)

+0.5(-0.5)

+3.6

+2.1

+2.3

+2.2

HICP (%y/y)*

+8.1 (May)

+6.2

+8.0

+8.5

+7.3

+2.6

+7.5

+3.3

+1.5

Unemployment Rate (%)

6.8 (Apr)

6.8

6.8

6.8

6.8

7.7

6.8

6.8

6.5

Depo Rate, end period (%)

-0.50

-0.50

-0.50

+0.25

+1.25

-0.50

+1.25

+2.00

+2.00

10yr Bund Yield, end period (%)

+1.47

+0.55

+1.49

+1.87

+2.25

-0.18

+2.25

+2.00

+1.50

$/euro, end period

1.05

1.11

1.03

1.02

1.00

1.14

1.00

1.10

1.15

£/euro, end period

0.86

0.84

0.84

0.85

0.85

0.84

0.85

0.88

0.85

Sources: Bloomberg, Capital Economics; *year averages


US recession fears won’t deter ECB

European Economics Weekly

26 June 2022

Our view

The euro-zone looks set for a year of stagflation. We expect the economy to more-or-less flatline for much of the year as high inflation and low confidence knock consumption, uncertainty weighs on investment and weaker foreign demand reduces export growth. Further increases in core and food inflation look set to drive the headline rate further above 8%, prompting the ECB into action. We expect the ECB’s rate hike cycle, which will begin in July, will see the deposit rate rise to +1.25% by the end of this year and +2.0% by mid-2023. Against this backdrop, there is a risk that yield spreads widen markedly, compounded by market disappointment at progress on the ECB’s pledged “anti-fragmentation instrument”.

Latest Outlook

European Economic Outlook

A year of stagflation

The war in Ukraine has delivered a shock to Europe just as it was coming out of the pandemic. Higher energy prices will keep inflation elevated, squeeze household incomes and dent business confidence. We think the euro-zone economy will do no more than flat-line during the second and third quarters of this year, despite a rebound in tourism. Headline inflation should fall back later this year but will be much higher than the consensus expects for the year as whole. With underlying price pressures rising, the ECB will soon end net asset purchases and start raising interest rates, lifting the deposit rate into positive territory by the end of the year. We expect interest rates to peak at around 1.5% next year, also well above the consensus forecast. The possibility of the ECB re-starting its asset purchases should mean that the increase in peripheral bond yields is manageable.

22 April 2022