On Wednesday, the International Monetary Fund warned that Europe needed “contingency plans” to avoid a protracted decline. Today, the European Commission itself went one step further, cutting its eurozone growth target all the way through 2021.
The EU’s 2019 growth outlook started the year with some optimism. In the spring, it saw continuing growth, though at a “moderate pace.” By the summer, that growth was “clouded.” Now, in the autumn report, published today, it’s warned of “a protracted period of subdued growth and low inflation in the context of high uncertainty,” as bruising trade wars, a slowing global economy and a looming Brexit have combined to hit nearly every sector of the economy.
The EU now sees real GDP growth of 1.1 percent (down from 1.2 percent) and inflation of 1.2 percent this year. In contrast, the U.S. economy, while also slowing, is expected to grow at twice that rate, at 2.2 percent.
For Europe, the outlook stays nearly as bad over the next two years with forecasted GDP growth running at 1.2 percent in both 2020 and 2021. Inflation won’t nudge up again until 2021, reaching 1.3 percent, still far below the bloc’s target of closer to 2 percent or higher.
The euro, which started the day trading higher against the dollar, fell into negative territory following release of the bloc’s revised outlook. The irony is that not even a weak euro—the report forecasts an additional 1% decline in the value of the common currency this year— can help lift the export-heavy bloc out of its protracted slump. To wit, poor data from construction, industrial production, financial services, automotive and retail sectors all contributed to the decision to lower the outlook.
If you were paying attention to Europe’s bond market in recent months you’d have known something was deeply amiss when usually rock-solid investments like German bunds went negative. “The perception of a deteriorating outlook, expectations of a prolonged period of very accommodative monetary policy, and a further decline in the term premium put pressure on sovereign yields,” the report said.
That created a domino effect. Europe’s AAA-rated nations started seeing yields fall into negative territory as investors piled into the market seeking safe-haven assets. The demand for these bonds exceeded the supply, and now “a substantial part of sovereign bonds in Europe is trading at negative yields.”
Elsewhere, the negative rates phenomenon has sent borrowing costs down for homebuyers and businesses, as well, but not enough to spur investment, consumer spending and boost growth.
It’s also clobbering Europe’s retail banking sector. For Europe’s biggest lenders, low interest rates and flattening yield curves are making it exceedingly difficult to grow the bottom line through the traditional commercial banking operations of lending and attracting new accounts.
Banco Santander, Deutsche Bank and HSBC have all announced job cuts this year to reduce costs and weather the storm.
Europe’s automotive industry hasn’t fared much better. Demand for new cars has stalled across the bloc just as the industry begins a heavy investment into developing electric and more autonomous driving vehicles. Also, the proliferation of car-sharing and ride-hailing apps is depressing car ownership among the younger demographics. Add it up, and car manufacturing is well below 2015 levels.
The report is likely to trigger calls for greater fiscal spending to boost GDP growth, a suggestion that so far Germany and its spendthrift northern European allies have rebuffed at every turn.
Marco Buti, Director General of Economic and Financial Affairs, took a different tack in the argument on Thursday, saying negative and low interest rates actually provides a unique opportunity for the bloc to spend its way out of a downturn. “Very low or negative financing costs provide an opportunity to bring forward projects with a high social, environmental and economic return.” Buti said. “This window of opportunity should be used now.”
Your move, Germany.
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