Last week, the European Central Bank (ECB) roiled global equity markets when it released its latest economic forecast, which included sharp cuts to the bank’s 2019 and 2020 forecasts. The central bank is now projecting that eurozone real GDP will grow by 1.1% in 2019 (cut from December’s 1.7% forecast) and 1.6% in 2020 (1.7% in December). The bank cited the impact of both domestic and external factors on the short-term outlook, stating that, “a combination of global uncertainties (such as threats of an escalation of protectionist measures and the possibility of a disorderly Brexit) as well as adverse domestic factors in some euro area countries are likely to continue to weigh on euro area activity.” The forecast update also included the announcement of a new stimulus program for eurozone banks, as well as updated guidance on monetary policy, with rates now expected “to remain at their present levels at least through the end of 2019.”
Just the day before, the Organization for Economic Cooperation and Development (OECD) published its Interim Economic Outlook, which also featured lower economic growth projections than the organization was forecasting just four months ago. Growth forecasts have been revised down for most of the world’s major economies, with particularly large downward revisions in the eurozone. The OECD’s March 2019 forecast has the eurozone growing by just 1.0% in 2019, 0.8 percentage points lower than the 1.8% projection from November 2018. This follows 2018 growth of 1.8%, the eurozone’s slowest expansion in four years.
Early 2018 Optimism Quickly Faded
In early 2018 there was significant optimism regarding the region’s growth prospects following 2017’s surprisingly strong 2.5% expansion. However, as 2018 progressed, the outlook gradually dimmed.
Business and industrial indicators for the eurozone have been particularly weak. Business confidence fell steadily in 2018 according to the European Commission, falling from an all-time high of 1.62 in January to 0.86 in December, its lowest level since early 2017. Similarly, eurozone manufacturing PMI peaked at a series high of 60.6 in December 2017 before tumbling to 51.4 one year later, its lowest reading in nearly three years. The index has continued to plummet so far in 2019, with the February value slipping below 50, the threshold which indicates expansion vs. contraction, for the first time in nearly six years.
Industrial production growth for the region slowed steadily throughout most of 2018, falling sharply at year-end. In December 2017, total industrial production was up 5.0% on a year-over-year basis; by December 2018, the index was down 4.2% from a year ago. In the fourth quarter of last year, Eurostat reports that eurozone output was down 1.9% year-over-year due to significant declines in the four largest countries in the monetary union: Germany (-2.7%), France (-1.4%), Italy (-2.2%), and Spain (-2.8%). Germany’s situation is expected to improve in 2019, as the 2018 problems largely stemmed from manufacturing difficulties in adjusting to revised auto emission standards, but weak global demand will continue to have a negative impact on factory output.
In addition to the internal economic challenges, the largest eurozone countries are also facing political troubles. In Germany, it is still not clear what shape the government will take as Chancellor Angela Merkel prepares to leave her leadership position in 2021. In France, President Emmanuel Macron faces increasing pushback as he attempts to institute economic reforms. At the same time, Italy’s ongoing political instability has depressed private consumption and investment, leading to negative GDP growth in the last two quarters of 2018, constituting a technical recession.
External Challenges Remain
Beyond the domestic economic and political challenges, the eurozone also faces some major external challenges, largely stemming from the possibility of a “Hard Brexit” and the risk of a global economic slowdown.
The UK is currently scheduled to leave the European Union (EU) on March 29, but there is still no deal in place that would prevent an abrupt and messy break. If Parliament can’t agree on a solution by this date, the UK will face so-called Hard Brexit, where the UK would lose its preferred access to the EU, in theory establishing WTO trade terms with all member countries. The looming deadline is creating significant uncertainty for UK companies who import/export goods to/from the rest of the world, as well as European companies operating in the UK who rely on the easy movement of both people and goods. All eyes will be on Prime Minister Theresa May and the British parliament this week to watch the results of key votes on the issue.
External demand is the other factor that will impact European economic growth. The concerns are focused on the Chinese economy, whose growth rate is expected to slow dramatically in 2019 and 2020. The OECD is forecasting 6.2% growth in 2019 and 6.0 % growth in 2020, considerably slower than 2018’s 6.6% expansion. Meanwhile, this month China’s Premier Li Keqiang announced that the Chinese government’s growth target for 2019 is 6.0-6.5%. As the OECD points out, “A sharper slowdown in China would hit growth and trade prospects around the world.” The eurozone runs a trade surplus with the rest of the world, so a deterioration in global trade flows could have a significant impact on the region’s GDP growth, especially for Germany’s heavily export-led economy.
Interestingly, the medium-term ECB outlook assumes that these risks fade away. “In particular, the baseline assumes no disorderly exit of the United Kingdom from the European Union and that the current level of uncertainty regarding global trade and domestic policies in some euro area countries gradually normalizes.” If either of these scenarios turn negative, expect more downward revisions to the forecast.
As the final results from the fourth quarter of 2018 have come in, along with early indications of how the first quarter of 2019 is shaping up, forecasters have been forced to drastically cut their 2019 economic outlooks. Just in the last few days, we have seen significant downgrades in the projections for Europe from both the ECB and OECD. The only thing for certain is that economic prognosticators and policy makers alike will continue to closely monitor developments as 2019’s growth path takes shape.
VP, Associate Director, Thought Leadership and Insights
Sara Potter is responsible for developing applications that facilitate the analysis of global markets at a macro level, highlighting FactSet’s vast benchmark and economic content sets. Since joining FactSet in 1999, Ms. Potter has also managed the economic database development team, where she was responsible for the integration of third-party economic content as well as the development of FactSet Economics data. Ms. Potter received a M.A. in International Economics and Finance from Brandeis University and holds a B.A. in Economics and French from Dartmouth College. She is a CFA charterholder.