Global Daily – Macro downgrades roll in…more to come

by: Nick Kounis , Bill Diviney

Euro Macro: Downgrades so far may not go far enough – Official institutions in Europe announced downgrades to their economic growth outlook for 2019 today. The European Commission got the ball rolling for countries across the EU, while the BoE (see below) followed afterwards. Indeed, the European Commission heavily downgraded its growth forecasts for 2019 in its Winter interim update. Eurozone economic growth is now seen at 1.3% this year (previously: 1.9%) on the back of weaker global demand, uncertainty hitting confidence, as well as some specific temporary domestic factors. The biggest downward revisions were for Germany (1.1% from 1.8%), Italy (0.2% from 1.2%) and the Netherlands (1.7% from 2.4%).

We think there are a number of important take-aways. First of all, despite the large downgrade in economic growth forecasts, they probably do not go far enough, and further revisions are likely. For instance, the EC still projects economic growth of 0.3% qoq in the current quarter and 0.4% in Q2, while business surveys are consistent with a much weaker trajectory in the near term. Our own for forecast for eurozone GDP growth is 1.1%, while we are reviewing the outlook, with a view of reducing our projection lower. Second, the central bank will likely follow the EC. The ECB currently expects growth of 1.7% for this year and we are likely to see a significant revision to this number. This will also have knock on effects to its views on inflation. The EC did not publish forecasts for core inflation, but it suggested in the written text that core inflation would not embark on an upward trend until 2020. These macro downgrades should see the ECB signalling that rates will be on hold for even longer, while it will probably also introduce another TLTRO. Third, the downgrade to Italy’s growth forecast points to worse public finance outcomes, which will trigger renewed tensions with the European authorities. As we noted in this publication on Tuesday, Italy’s budget deficit will more likely be closer to 3% this year on the current path for the economy and fiscal policy. (Nick Kounis)

BoE View: Less tightening likely, regardless of Brexit outcome – The Bank of England kept monetary policy on hold today, but in its Quarterly Inflation Report, it significantly downgraded its 2019 growth forecast to 1.2% from 1.7%. While medium-term inflation forecasts were kept broadly unchanged, the conditioning assumption it uses for its forecasts – market-based Bank Rate expectations – have declined significantly, suggesting less tightening will be required than previously thought necessary to keep inflation at target. Indeed, market-based expectations for further tightening have fallen by at least a full rate hike for the next two years, to one hike from two hikes previously. As such, while the Bank kept its forward guidance that it expects ‘an ongoing tightening of monetary policy over the forecast period, at a gradual pace and to a limited extent’, its forecasts suggest less tightening than was indicated in the November Inflation Report. Naturally, the uncertainty over Brexit means considerable uncertainty over the UK macro outlook, and therefore monetary policy. However, we think that even in our base case scenario of an orderly Brexit (based on some variation of PM May’s deal), slowing growth and the weaker outlook globally makes further tightening of policy this year unlikely. As such, we no longer expect a rate hike in 2019, though we maintain our expectation of a 2020 hike. What would the BoE do in the case of a disorderly Brexit? While Governor Carney has continued to suggest rates could rise in that scenario, due to the supply shock, we think this would be unlikely, and that the MPC’s bias would if anything be for an easing of policy. (Bill Diviney)