ECB Watch 6th November 2014 AIB Treasury Economic Research Unit ECB examining further easing measures As expected, the ECB left policy on hold at today’s Council meeting. It cut rates at both its June and September meetings and is still in the process of fully implementing some of the non-standard easing measures announced in September. These include the purchase of non-financial private sector assets, consisting of assetbacked securities and covered bonds, as well as a TLTRO programme. Hence, policy is seen as staying on hold while it continues with the implementation of these measures over the balance of the year. The ECB hopes that the asset purchases will ease the stance of monetary policy and when combined with the TLTRO programme, will have a sizeable impact on the size of its balance sheet. Early indications, ECB Refi Rate (%) 5 though, suggest that the measures may not be as successful as the ECB hopes. This has sparked talk 4 that the ECB may have to adopt new measures in early 2015 to loosen monetary policy further. This 3 might involve a full-blown QE programme that would include the purchase of government bonds. 2 Weak trends in the economy were the reason 1 behind the policy easing over the summer. The latest data show the economy remains 0 Nov-02 Nov-04 Nov-06 Nov-08 Nov-10 Nov-12 Nov-14 very weak. The HICP inflation rate is very low, Nov-00 Source: Thomson Datastream standing at 0.4% in October. Meanwhile, the recovery in economic activity remains anaemic and fragile. GDP rose by a meagre 0.2% in Q1 2014 and 0.1% in Q2. The latest data suggest that the economy has remained very weak in H2 2014. For example, the key Composite PMI stood at 52.1 in October, just above a 10-month low of 52.0 reached in September. The continuing weakness of inflation and activity indicators is reflected in the latest set of bi-annual European Commission economic forecasts published this week. These contained large downward revisions to both the HICP and GDP forecasts for the Eurozone. The EC now sees inflation averaging Eurozone HICP Inflation (%YoY) 5 0.5% this year compared to 0.8% previously. It cut the 2015 HICP forecast from 1.2% to 0.8%, 4 still way below the ECB’s 2% target rate. The EC Headline 3 also slashed it growth forecasts. The economy is now expected to grow by 0.8% in 2014 compared 2 to 1.2% previously, while it cut next year’s GDP 1 forecast to 1.1% from 1.7%. Core 0 Not surprisingly, then, pressure is mounting on the ECB to ease policy further. In this -1 Oct-05 Oct-06 Oct-07 Oct-08 Oct-09 Oct-10 Oct-11 Oct-12 Oct-13 Oct-14 regard, the ECB retains an easing bias as reflected Source: Thomson Datastream in the fact that it still views the risks to the economic outlook to be to the downside. Furthermore, President Draghi repeated again today that the Governing Council is unanimous in its commitment to use additional unconventional measures should it become necessary to further address risks of too prolonged a period of low inflation. This is taken by some to mean a fullblown QE programme that involves the purchase of government bonds. ECB staff and Eurosystem committees have been tasked with doing preparatory work on further measures in case they are needed. Meanwhile, interest rates in the Eurozone are expected to remain at virtually zero for a long time. The market is not discounting any rate increases until end 2017 at the earliest, and rates are not seen rising to 1% until late 2020. Oliver Mangan Chief Economist [email protected] John Fahey Senior Economist [email protected] www.aibeconomicresearch.com Dara Turnbull Economist [email protected] Eurozone economy continues to struggle The Eurozone economy has grown only very modestly since it emerged from recession in the second quarter of last year. The most recent GDP data show that the economy grew by 0.1% in Q2 2014. On a year-on-year basis, growth slowed to 0.8%, from 1.0%. Euro GDP Growth and PMI % 1.5 62 Composite PMI (RHS) 1.0 58 0.5 54 0.0 50 -0.5 46 -1.0 42 GDP(% QoQ) The survey data for Q3 indicate that growth -1.5 38 in the Eurozone remained meagre, at best, in -2.0 34 the quarter. The key Eurozone composite PMI -2.5 30 averaged 52.8 in the quarter, down from 53.4 in -3.0 26 Q3 2005 Q3 2006 Q3 2007 Q3 2008 Q3 2009 Q3 2010 Q3 2011 Q3 2012 Q3 2013 Q3 2014 Q2. Meanwhile, the European Commission Source: Thomson Datastream sentiment indices also indicated that the Eurozone continued to struggle in Q3. The ‘headline’ economic sentiment index averaged 100.9 versus 102.2 in the second quarter. Furthermore, national survey data (e.g. German Ifo, French INSEE, Italian ISTAT) indicated that activity in the Eurozone's ‘big three’ economies remained weak in Q3. In terms of more timely Eurozone surveys, data for October suggested that the pace of growth in the currency bloc may have edged up slightly at the start of the fourth quarter. The PMI rose marginally to 52.1 from 52.0 in September. The EC economic sentiment index also rose at the start of Q4, increasing from 99.9 to 100.7 in October. Overall, though, these October readings remain below the average levels in Q3. Turning to the latest ‘hard’ data releases, retail sales rose for a third consecutive quarter in Q3. However, the pace of growth slowed to 0.2%, from 0.4% in Q2, with very weak data for September. Meantime, industrial production continued on its downward trend in August, with the 3mth/3mth rate falling by 0.6%. Unlike earlier on in the year, where falling energy output was the main drag on overall production, we are now seeing year-on-year declines in almost all the major categories of output (e.g. durable goods, capital goods). Meanwhile, monetary aggregates remain very weak. Growth in M3 money supply averaged just 2.1% yearon-year in Q3. This is a long way from the ECB’s target value of 4.5%. Loans to the private sector remain in decline, falling by 1.4% in Q3, although the pace of contraction is easing. Nonetheless, continued deleveraging, especially in the corporate sector, remains a major headwind to economic recovery. Turning to the labour market, there have been some signs of improvement. Employment rose by 0.4% AIB Treasury Economic Research Unit year-on-year in Q2 after a rise of 0.1% in Q1. Meanwhile, the employment component of the composite PMI has been above the job growth 50 level throughout most of the year. The unemployment rate has also fallen to 11.5% from a peak of 12% a year ago. However, this still represents a very high jobless rate and it has also been stuck at 11.5-11.6% since April. Eurozone Unemployment Rate (%) 13 12 11 10 9 8 Overall, the Eurozone recovery remains weak and uneven. The economy is still facing 7 Sep-06 Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Sep-13 Sep-14 many headwinds. The on-going deleveraging by Source: Thomson Datastream the private sector, tight fiscal policy, restrictive credit conditions and high unemployment, are likely to continue to act as restraints on the pace of economic growth. There is also a marked reluctance in some key economies to implement structural reforms that would boost growth. Thus, the recovery is expected to continue at a subdued pace and lag well behind elsewhere. GDP growth is expected to be below 1% in 2014. The European Commission in its latest update published this week, is forecasting GDP growth of just 1.1% for the Eurozone in 2015, after growth of 0.8% in 2014. This publication is for information purposes and is not an invitation to deal. The information is believed to be reliable but is not guaranteed. Any expressions of opinions are subject to change without notice. This publication is not to be reproduced in whole or in part without prior permission. In the Republic of Ireland it is distributed by Allied Irish Banks, p.l.c. In the UK it is distributed by Allied Irish Banks, plc and Allied Irish Banks (GB). In Northern Ireland it is distributed by First Trust Bank. In the United States of America it is distributed by Allied Irish Banks, plc. Allied Irish Banks, p.l.c. is regulated by the Central Bank of Ireland. Allied Irish Bank (GB) and First Trust Bank are trade marks used under licence by AIB Group (UK) p.l.c. 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