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NOTOS NEWS | GLOBAL ECONOMY

Euro Area’s economic condition remains poor, especially in the manufacturing sector. This has led ECB to firmly re-establish its ultra-loose monetary policy. By contrast, the US economy is in a better shape, but gradually weakening. Still, US Fed is ready for its third rate cut this year. For the world economy, OECD and IMF have both revised downwards their growth forecasts for this year and the next.

EURO AREA’S ECONOMIC INDICATORS POINT SOUTH
Latest indicators for the Euro Area do not paint a reassuring picture of its economic condition.

Business sentiment remains poor: The latest IHS Markit Composite PMI stood at 50.2 points, just slightly above the 50-point-mark which separates growth from decline. The weakness in the manufacturing sector continued. Production shrank by 2.7 percent y-o-y in August (see graph below), and the Manufacturing PMI is at its seven-year low and deep in the recession zone. Especially the German manufacturing sector proves a burden as it suffers from the uncertainty concerning international trade conflicts and Brexit.
 
The services sector performed better as the PMI remained in expansion territory. Still, it is considerably below the levels seen during the course of this year.

HIGH RISK OF CONTAGION
The good news is that the unemployment rate in the Euro Area continued to drop, reaching 7.4 percent in August, the lowest level since May 2008. This supported consumer confidence in the Euro Area for quite a while.

However, the Consumer Confidence Indicator in the Euro Area sharply fell to -7.6 in October, from -6.5 in the previous month. As the job growth in the second quarter of this year eased to 0.2 percent q-o-q, the lowest rate since 2014, fears have increased that the weakness of the manufacturing sector and foreign trade could spread to the services sector and private households. This would erode Euro Area’s economic prospects even further towards the end of this year.

ECB’S ULTRA-LOOSE MONETARY POLICY FIRMLY ESTABLISHED
ECB’s Governing Council in its most recent meeting in October confirmed the comprehensive package of ultra-loose monetary policy measures. Thus, the key interest rates are kept unchanged - the main refinancing rate at zero and the deposit rate at -0.5 percent - and the net bond purchases will be restarted.

This meeting was the last one directed by ECB President Mario Draghi. In a brief review: What remains after his eight years term? We definitely appreciate that he managed to ease the financial crisis in the Euro Area by announcing and resolutely implementing the ‘whatever-it-takes’-policy in 2012.
 
However, more than seven years thereafter, the key interest rates have not been raised once. Mr. Draghi has not been able to lead ECB back to a ‘normal’ monetary policy stance. We do not regard the current economic weakness in the Euro Area as sufficient to shift ECB’s policy to full-crisis-mode now. In case of another veritable crisis or further economic deterioration, ECB’s tool set may prove largely exhausted. We hope that in such case, ECB’s credibility will still suffice to weather the storm.

GRADUALLY WEAKENING US ECONOMY
The US economy is gradually developing more modestly. Real GDP expanded by 2.3 percent y-o-y in the second quarter of this year. This is a satisfying growth rate but the lowest in two years. Signals on business and consumer sentiment are mixed. The ISM Manufacturing PMI fell to 47.8 in September, its sixth drop in a row. Global trade tensions were identified as the most obstructive issue. By contrast, the IHS Markit Composite PMI slightly rose to 51.2 points in October, supported by both the Manufacturing and the Services PMI. Still, manufacturing production declined by 0.9 percent y-o-y in September, its third consecutive decrease (see graph below).

Consumer spending - which has a higher share in the US economy than in the Euro Area - diligently supports growth in the US. This is helped by the ultra-low unemployment rate of 3.5 percent, the lowest for 50 years. But while consumer sentiment according to the University of Michigan is still strong, the Conference Board Consumer Confidence sharply edged down in September.

The financial markets, at least, signal easing recession risks as meanwhile 10y treasuries have started to pay higher rates than 3m treasury bills.

FED READY FOR THIRD RATE CUT
We and most market participants expect the Fed to cut its key interest rates for a third time this year at its next meeting on 30 October 2019, in response to the softening growth prospects and increased uncertainty. Still, we believe that there is no urgent need to do so. Thus, we hopefully assume that in case consumer sentiment remains robust and the uncertainty about the trade conflicts is allowed to abate, this month’s rate cut may be the last one for a longer period of time.

BIG PICTURE: FURTHER WEAKENING GLOBAL GROWTH
While the aforementioned reflects the most recent development in the Euro Area and US, we look at OECD’s and IMF’s most recent growth updates for a broader view.

Both institutions in their publications of September and October revised their growth forecasts downwards. Accordingly, OECD and IMF predict global growth at 2.9 percent and 3.0 percent, respectively, for 2019 (see graph below). This is a 0.3 percentage point downgrade from the respective projections in Spring.
 
With regard to global expansion next year, OCED is more pessimistic than IMF, expecting the world economy to grow only marginally more at 3.0 percent while IMF assumes world output to increase by 3.4 percent.

OECD made a large downwards revision to its forecast for the US, assuming a moderate 2.4 and 2.0 percent expansion for 2019 and 2020, respectively. Also, OECD projects 2020 growth in Germany at 0.6 percent, 0.6 percentage points lower than previously. Here, the IMF is much more confident with an assumed rise at 1.2 percent.

Interestingly, both OECD and IMF see economic expansion in China recede to 6.1 percent for 2019 and 5.7 (IMF: 5.8) percent for 2020. This is below the growth target range of 6-6.5 percent announced by the Chinese government this year.

RISING UNCERTAINTY DARKENS PROSPECTS
OECD sees global economic growth subdued while trade is declining. The trade tensions weigh on business activity, especially the manufacturing sector, impeding confidence and investment. Geopolitical tensions in the Middle East and Brexit increase uncertainty and financial volatility.

Further to this, IMF adds the normalization of expansion in the US; new car emission standards in Europe, affecting particularly Germany; weaker country-specific factors in a couple of key emerging markets; and softer growth in China as a result of stricter financial regulation and the trade conflict.

POLICY RECOMMENDATIONS
Monetary policy accommodation should be accompanied by fiscal support in advanced economies according to OECD, acknowledging that the US have more scope but less need to ease their monetary policy compared to the Euro Area and Japan. Countries with elevated public debt are advised to enhance the effectiveness of their fiscal policy. IMF highlights the importance to reduce trade tensions and reinstall multilateral co-operation.
 
Our impression is that governments are recommended more insistently than before to reverse uncertainty and invest more. What formerly was predicted to be an economic dent has developed into a substantial and sustained weakness. If governments tackle the self-inflicted issues, much may be gained for themselves - and finally the world economy. That is called a win-win situation. Obviously, this is not in everybody’s interest.

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