Virus data cloud Q1 outlook, Italian politics in turmoil - Capital Economics
European Economics

Virus data cloud Q1 outlook, Italian politics in turmoil

European Economics Weekly
Written by Jessica Hinds

While the economic data published this week were fairly encouraging about the euro-zone’s performance at the end of last year, the deterioration in the virus situation and associated tougher measures being imposed bode ill for Q1 GDP even if the vaccine rollout points to an improvement from Q2 onwards. Meanwhile, the ECB is likely to sit on its hands next week after last month’s decision to keep policy very loose for longer.

In contrast to the relentlessly grim epidemiological numbers, the economic data for the euro-zone published this week have been fairly positive. The 2.5% m/m increase in euro-zone industrial production in November points to output rising in Q4, helping to offset weakness in the services sector.

Meanwhile, Germany’s economy “only” contracted by 5% last year, a smaller fall than in 2009. Admittedly, the country’s statistics office said yesterday that the economy probably stagnated in the final three months of the year. But this is not to be sniffed at, given the lockdown and the likely contractions that we expect for the other major euro-zone economies in Q4.

But even if the evidence is now pointing to a slightly better Q 4 than we had anticipated, the current virus situation is casting a shadow over Q1. France’s government is imposing a 6pm curfew throughout the country from tomorrow for at least two weeks. In Germany, too, politicians are discussing tighter restrictions, with chancellor Angela Merkel suggesting earlier this week that the current measures could be in place until Easter. And in Spain, where new cases are surging, regional authorities are also taking action, with some now asking the national government to impose stay-at-home orders. All this suggests that euro-zone economic activity will contract again in Q1.

Authorities (and economists) are therefore pinning their hopes for an economic recovery on the vaccine rollout. We wouldn’t read too much into France’s slow start (see here), and we assume that most countries will have finished vaccinating their vulnerable groups in Q2. This will allow governments to lift the majority of economically-important restrictions in May and June. (See here.)

Italy’s government teeters

Italian politics is once again back in the limelight, with former prime minister Matteo Renzi pulling his party out of the ruling coalition and bringing Giuseppe Conte’s government to the brink. Collapse is not a foregone conclusion, but the latest upheaval will have reminded investors of the inherent uncertainty in Italian politics. In response, the yield spread of Italian 10-year government bonds over German Bunds widened a touch this week. (See Chart 1.) But it is still very low, suggesting that the ECB’s implicit yield control continues to dominate investors’ calculations.

Chart 1: Italy-Germany Bund Yield Spread (%)

Sources: Bloomberg, Capital Economics

ECB in agreement

The account of the ECB’s December meeting published yesterday confirmed that the Governing Council was in consensus over the policy changes made last month. We expect no changes at next week’s meeting, with the Governing Council content to warn that rising virus numbers pose a risk to the recovery. (See our latest ECB Watch here.)

The week ahead

Besides the ECB meeting, we expect the flash PMIs for January remain below 50 and flash consumer confidence for the same month to fall, supporting our view that the economy made poor start to the year. Meanwhile, Saturday’s election of a new leader of Germany’s ruling CDU party marks the first step towards a Europe without Angela Merkel. The three candidates are Armin Laschet, Friedrich Merz and Norbert Röttgen. Mr. Merz is also more eurosceptic than Merkel, suggesting he would be less willing to accept steps towards further European integration.


Data Previews

Euro-zone Consumer Confidence (Jan.) Thu. 21st Jan.

Forecasts

Time (GMT)

Previous

Median

Capital Economics

Consumer Confidence

15.00

-13.9

-15.0

-16.0

A bleak start to the year

The European Commission’s (EC’s) measure of euro-zone consumer confidence probably fell in January as vaccine cheer was offset by fears of new virus variants and lockdown extensions.

Consumer confidence rose to -13.9 in December (from -17.6 in November), despite the tightening of virus containment measures in many countries.

With the virus spreading quickly and a new threat emerging from the UK variant, sentiment looks set to have fallen back at the start of the year. The timelier TR/Ipsos Primary Consumer Sentiment Indices show that sentiment deteriorated in Spain and Germany, which have seen the biggest increase in virus cases in recent weeks, but rose in Italy, France and Belgium in January. A weighted average of these indices points to the EC measure remaining more or less unchanged. But these surveys will not have captured the most recent surge in cases in Spain, earlier nationwide curfew in France or the political uncertainty in Italy. We have therefore pencilled in a fall to -16.0. (See Chart 2.) All told, the recent extension of lockdowns across the bloc suggest that after (probably) contracting in Q4, spending is likely to have fallen at the start of this year too.

Chart 2 : Euro-zone EC Consumer Confidence

Sources: Refinitiv, Capital Economics

Euro-zone Flash Composite PMI (Jan.) Fri. 22nd Jan.

Forecasts

Time (GMT)

Previous

Median

Capital Economics

Composite PMI

09.00

49.1

54.5

48.0

Lockdown extensions to drag activity down further in Q1

Continued strict virus containment measures will keep the PMIs below 50 in January.

Despite the lockdowns that were in place, the Composite PMI rose in December due to a pick-up in the manufacturing and services indices. Nevertheless, it remained below 50, which implies that activity continued to fall.

Given that lockdowns have been extended into the new year, the PMI is sure to have stayed in contraction territory. The rules in Germany have even been tightened. But the new restrictions in Germany mostly relate to social rather than economic activity. And in Italy, most regions have been moved into the lowest of its three-tier system.

Meanwhile, the Sentix investor sentiment indicator has in the past been a pretty good leading indicator of the PMI, and it rose in January. But the association between the two variables has been much weaker since the start of 2020. (See Chart 3.)

On balance, we don’t expect a big move in the PMI, so we have pencilled in a small decline to 48.0.

Chart 3: Euro-zone Composite PMI
& Sentix Investor Sentiment Indicator

Sources: Refinitiv, Markit


Economic Diary & Forecasts

Upcoming Events and Data Releases

Date

Country

Release/Indicator/Event

Time CET

Time (GMT)

Previous*

Median*

CE Forecasts*

Mon 18th

Ita

CPI (Dec, EU Harm., Final)

10.00

(09.00)

+0.2%(-0.3%)p

+0.2%(-0.3%)

EZ

Eurogroup Video Conference

14.30

(13.30)

Tue 19th

Ger

CPI (Dec, EU Harm., Final)

08.00

(07.00)

+0.6%(-0.7%)p

+0.6%(-0.7%)

+0.6(-0.7%)

Ita

Trade Balance (Nov, nsa, EUR)

10.00

(09.00)

+7.6bn

EZ

ECB Bank Lending Survey (Q4 2020)

10.00

(09.00)

Ger

ZEW Economic Sentiment (Jan)

11.00

(10.00)

55

55

EZ

Construction Output (Nov)

11.00

(10.00)

+0.5%(-1.4%)

Wed 20th

EZ

CPI (Dec, Final)

11.00

(10.00)

+0.3%(-0.3%)p

+0.3%(-0.3%)

+0.3%(-0.3%)

Thu 21st

Fra

INSEE Business Confidence (Jan)

08.45

(07.45)

91.0

Spa

Trade Balance (Nov, nsa, EUR)

10.00

(09.00)

-651mn

EZ

ECB Interest Rate Announcement

13.45

(12.45)

-0.50%

-0.50%

-0.50%

EZ

Flash Consumer Confidence (Jan)

16.00

(15.00)

-13.9

-15.0

-16.0

Fri 22nd

Fra

Markit Composite PMI (Jan, Prov.)

09.15

(08.15)

49.5

49.0

Ger

Markit Composite PMI (Jan, Prov.)

09.30

(08.30)

52.0

49.5

51.5

EZ

Markit Composite PMI (Jan, Prov.)

10.00

(09.00)

49.1

54.5

49.0

EZ

Markit Services PMI (Jan, Prov.)

10.00

(09.00)

46.4

45.0

46.5

EZ

Markit Manufacturing PMI (Jan, Prov.)

10.00

(09.00)

55.2

48.3

55.0

Selected future data releases and events

Mon 25th

Ger

Ifo Survey (Jan)

10.00

(09.00)

92.1

Thu 28th

EZ

EC Economic Sentiment Indicator (Jan)

11.00

(10.00)

90.4

Ger

CPI (Jan, EU Harm., Prov.)

14.00

(13.00)

Fri 29th

Fra

GDP (Q4, Prov, q/q(y/y))

07.30

(06.30)

+18.7%(-3.9%)

Ger

GDP (Q4, Prov, q/q(y/y))

08.00

(07.00)

+8.5%(-3.9%)

Aus

GDP (Q4, Prov, q/q(y/y)

09.00

(08.00)

+12.0%(-4.0%)

Spa

GDP (Q4, Prov., q/q(y/y))

09.00

(08.00)

+16.4%(-9.0%)

EZ

M3 Money Supply (Dec)

10.00

(09.00)

+0.7%(+11.0%)

Bel

GDP (Q4, Prov., q/q(y/y))

11.00

(10.00)

+11.4%(-4.5%)

*m/m(y/y) unless otherwise stated. p=provisional. Sources: Bloomberg, Capital Economics

Main Economic & Market Forecasts

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

Latest

Q4 2020

Q1 2021

Q2 2021

Q3 2021

Q4 2021

2019

2020

2021

2022

GDP

+12.5(-4.3)

-3.0(-7.3)

+0.8(-2.9)

+2.9(+13.2)

+2.7(+3.3)

+0.8(+7.3)

+1.3

-7.5

+5.0

+4.0

Household Spending

+14.0(-4.6)

-4.0(-8.5)

+1.6(-2.6)

+3.5(+15.0)

+2.2(+3.2)

+0.7(+8.2)

+1.3

-8.2

+5.6

+3.6

HICP (%y/y)

-0.3 (Dec)

-0.3

0.0

0.7

0.9

1.3

+1.2

+0.3

+0.7

+0.7

Unemployment Rate (%)

8.3 (Nov)

8.5

9.3

9.1

8.9

8.6

7.6

7.8

9.0

8.0

Depo Rate, end period (%)

-0.50

-0.50

-0.50

-0.50

-0.50

-0.50

-0.50

-0.50

-0.50

-0.50

10yr Bund Yield, end period (%)

-0.54

-0.58

-0.53

-0.52

-0.51

-0.50

-0.19

-0.50

-0.50

-0.50

$/euro, end period

1.21

1.22

1.22

1.23

1.24

1.25

1.12

1.20

1.25

1.30

£/euro, end period

0.89

0.89

0.89

0.89

0.89

0.89

0.85

0.89

0.89

0.90

Sources: Bloomberg, Capital Economics


Jessica Hinds, Europe Economist, jessica.hinds@capitaleconomics.com