Big Picture: The eurozone economy grew by just 0.1% in Q3 following a 0.3% rise in Q2, with euro strength holding back exports. We do not think that this means the recovery is fizzling out, as business and consumer surveys have continued to improve through to October. However, it does signal that the upswing is currently rather slow. The pace of recovery certainly does not look strong enough to push inflation back up to the ECB’s price stability goal. The eurozone is left lagging behind other major advanced economies, such as the US, the UK and even Japan, where monetary policy has been more proactive. Further ECB action remains likely.
Interest rates: Janet Yellen, the nominee to become the next Chair of the Federal Reserve, set the bar to stimulus withdrawal at a high level in her testimony to the Senate Banking Committee. Her comments suggest a tapering of asset purchases in December is unlikely and leave us more comfortable with our call that a March move is more probable. In addition, we now think that tapering of asset purchases will be accompanied by a lowering of the unemployment rate threshold that would trigger the first rate hike. All this suggests that the Fed will stay on hold for even longer. We have as a result revised down our US and eurozone bond yield forecasts.
FX: The euro has surprisingly recovered in the aftermath of the ECB’s rate cut earlier this month. The EUR/USD has been very resilient reflecting expectations that the Fed will not taper its asset purchases until next year and will keep interest rates low for longer. We expect the EUR/USD to decline as US data continue to improve and the ECB takes further action to push down expectations of eurozone short-term interest rates. Therefore, the balance of risks to our year-end forecast for the EUR/USD is titled to the downside.