- The eurozone PMI unexpectedly declined but link with GDP growth seems to have weakened…
- …we expect the economy to gradually firm in coming months
- US inflation depressed by energy, though underlying inflation pressures picking up
Unexpected decline in eurozone PMI
In contrast to expectations, the eurozone composite PMI fell from 52.1 in October to 51.4 in November. The weakness of the report was in the services sector. The services sector PMI fell by a full point (to 51.3 from 52.3), while the manufacturing PMI declining only modestly. The consensus forecast was for a rise in the composite PMI to 52.3. Consequently, gloom about the eurozone economy returned, after optimism has been fuelled on Tuesday by the publication of an unexpectedly sharp rise in Germany’s ZEW sentiment indicator in November. Still, the composite PMI has remained above the boom-bust level of 50, and at its current level it is consistent with GDP growth of around 0.2% qoq.
Link between PMI and economy has weakened
That said, it appears that the link between GDP growth and the composite PMI has weakened since the start of 2013 (see graph) and that GDP growth has actually been leading changes in the composite PMI since then. Therefore, the decline in the PMI in November might still partly reflect the weakness of GDP in Q2-Q3.
Details of PMI report hint at better exports
The details of the PMI report gave some mixed signals. For instance, the manufacturing output index increased in November and the new export orders index was roughly stable, whereas the total manufacturing new orders index declined. This suggests that foreign demand is currently supporting the eurozone manufacturing sector, which seems to be tentative evidence that the depreciation of the euro in recent months and the strengthening global economy (led by the US) are starting to support the eurozone economy. Indeed, we think this will be an important factor behind GDP growth picking up in the coming months. Another promising detail of the PMI report is that the composite employment index increased to 50.1 from 49.8. Therefore, the moderate labour market recovery that started around the middle of last year seems to have remained on track.
October’s US inflation report more than meets the eye
Although inflation was unchanged in October, we see that underlying inflation pressures picking up. The US consumer price index, released yesterday, was unchanged in October after increasing by 0.1% the previous month. Over the past year headline inflation increased by 1.7%. In October fuel prices dropped by 6.5% yoy. Declining energy and commodity prices are keeping inflation below the central bank’s 2% target. However, core inflation, which strips out of energy and food, increased by 0.2% mom. On a year on year basis core inflation increased 1.8% yoy after rising 1.7% the previous month. Most categories of non-energy inflation continue to show firm growth, including transportation and shelter.
US inflation to gradually increase to Fed’s 2% target
Despite the more solid growth of the US economy and the diminishing slack in the labour market, we expect headline inflation in year on year terms to continue trending downward in the coming months. This is a result of the strengthening of the dollar and lower energy prices. With resource slack expected to diminish we think the path of inflation and core inflation will pick up gradually in the second half of 2015, to around 2%. This is in line with the Fed’s objective. The Fed is anticipating that inflation will be held down in the near term, but it expects inflation to return to the 2% target. It is the Fed’s medium term view of inflation that will drive policy, therefore we remain of the view that it will start to slowly raise rates in the middle of next year.