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Economic activity expanded by 2.9% y/y in August. However, the seasonally adjusted data were much less positive, with activity shrinking by 0.1% on the month and up just 1.5% y/y.
Looking forward, we continue to expect seasonally adjusted growth to rebound to 1% q/q in Q3, implying a significant recovery after a 0.2% q/q contraction in Q2. For 2016 as a whole, we forecast GDP growth at 2%.
Durable goods orders remain on a disappointing trend. Weak foreign demand, a strong dollar, and depressed oil & gas activity will continue to drag on business investment.
The relative rankings in the EM vulnerability scorecard have not changed much over the last six months. Turkey, South Africa and Brazil remain at the bottom of the rankings i.e. the most vulnerable, while Thailand, the Philippines and Korea score as the least vulnerable.
South Africa's relative position has weakened the most over the last six months, scoring worse because of the continued deterioration in its growth outlook relative to other EM, and the bounce in the real exchange rate since earlier in the year (thereby offering more scope for a setback in the future)
Brazil's ranking has improved slightly, reflecting greater hopes of its recession ending, combined with decreasing risk in its banking system and more protection from higher real short-term interest rates (because of falling inflation).
China's score has improved slightly over the last six months, in part because of the fall in its real exchange rate over that period (less scope for it to fall in the future). However, its credit indicators continue to 'flash' red.
September’s Eurozone money and credit data offer a mixed picture. Although overall loan volumes continue to recover despite the uncertainty created by the UK’s Brexit vote, lending to corporates – which we see as essential to a future recovery in investment – remained flat for a second consecutive month. While this is unwelcome news for the ECB, we do not think it necessarily justifies further QE at its current pace, but rather additional measures to boost lending.
Unemployment in Spain fell to 18.9% in Q3, the lowest level since Q4 2009. The figure marks a continuation of the overall trend of strong job creation that began in 2014 and provides PM Mariano Rajoy a further boost as he prepares to face another investiture vote. Rajoy will be re-elected as prime minister in a second vote on Saturday after the announced abstention by the Socialist Party.
Thus far the economy has displayed impressive resilience to the referendum result, exceeding even our above-consensus expectations. The only negative from today’s data was the enduring weakness outside of the services sector.
The monthly data suggests that the economy carried solid momentum heading into Q4. The economy is not out of the woods yet, and will face a major challenge next year when higher inflation begins to bite the consumer. But even so, we are likely to revise up our above-consensus forecast for 2017 GDP growth following today’s data.
New home sales increased 3.1% in September, but there were downward revisions to sales in prior months. Despite large downward revisions, new home sales remain on a positive trajectory.
Over the last year or so, there has been a notable tightening in bank liquidity which has been an important transmission mechanism in driving non-oil GDP growth lower. But we believe that these liquidity (and funding) pressures will ease somewhat over the coming months and further out, aided by heavy borrowing on the international bond market, as well as from a gradual pick-up in oil prices and a progressive easing in fiscal tightening from 2017. The partial sale of Saudi Aramco, mooted for 2018, could also dramatically improve liquidity. But liquidity pressures will remain an issue in the coming year at least.
The tightening in bank liquidity has been driven by the plunge in oil prices and fiscal tightening. It has been reflected in a number of ways. Deposit growth has fallen from a recent peak of 10.1% in June 2015 to -2.9% in August. Growth in lending to the private sector has slowed only modestly to 7.6% in August, aided by liquidating other assets. Even so, the loan-to-deposit ratio surged by nearly 6 percentage points to 90.8% this year, while banks’ ratio of liquid assets to total assets has fallen too. Furthermore, interbank rates have risen, with three-month SAIBOR reaching 2.4%, up from less than 1% between 2008 and 2015.
Meanwhile, Saudi’s debut international bond issue – the largest ever emerging market bond sale at $17.5bn – was highly successful and improved investor sentiment towards the country. The issue was heavily oversubscribed enabling an increase from the planned US$10-15bn and a tightening in the pricing, that left the 10-year notes yielding just 3.25%, only 30bps above higher-rated Qatar and 150bps above US treasuries. Its success and the increased prospect of further such bond issues over the next three to four years, will reduce the need for domestic bond issues and reduce the pace of decline in net foreign assets.
But it should still be emphasised that Saudi Arabia faces massive challenges in implementing post-oil plans, with many events that could evoke a market reaction.
It took longer than expected, but the recession seems now to be over. According to the GDP proxy, the Argentine economy expanded by 0.2% m/m in August after four consecutive monthly falls. Real bank credit has stopped falling, while the construction sector is also starting to recover on the back of public works being reactivated. Finally, the weakness in retail sales now seems to be moderating, and declining inflationary pressure coupled with improving consumer sentiment should secure a recovery in this area of the economy in the coming months.
After shrinking by 1.2% this year, the economy is expected to rebound to 3.6% growth in 2017, boosted by a recovery in real salaries, increased FDI inflows and a pick-up in Brazil, the country's biggest trade partner.
However, some old challenges persist. With mid-term elections due next year, the government will take a more gradual approach on its fiscal consolidation plan. Indeed, it has recently increased its primary deficit target for 2017. But given the country's bad track-record on this front, foreign investors may not be prepared to give President Macri the benefit of the doubt for another year.
The European Commission has asked the Italian government for clarification over its 2017 budget. But the numbers involved are marginal and PM Renzi will use this to fuel anti-EU rhetoric to try to win votes in the referendum.
Yesterday, Monte dei Paschi di Siena unveiled its new business plan. The plan still entails some significant risks, including low private appetite for the capital increase and bond-to-equity conversion if the ‘no’ side wins the referendum.
The Japanese economy continues to struggle to gain any momentum and Q3 GDP is likely to ease on the back of weaker household spending. And while industrial production and goods export volumes both reported solid increases in Q3, this momentum is unlikely to be maintained given the outlook for the yen.
We suspect that the BoJ will take a cautious approach to any adjustments to its monthly asset purchases going forward as it juggles keeping the 10-year yield within a tolerable range while being aware that any perception that its actions amount to tapering could lead to renewed yen appreciation. We still look for an increase in asset purchases, although this is expected to be more geared towards non-JGBs.
Consumer confidence fell 4.9 points to 98.6 in October, retracing gains of the past two months. Consumers are likely responding to negative rhetoric surrounding the election.
Current conditions fell 7.3 points to 102.6, six-month expectations down 3.3 points to 83.9.
In recent years, the questions regarding India’s ability to repeat China’s record of sustained, fast growth have become more persistent. At the same time, the Modi administration appears determined to put India on the global manufacturing map. We outline the path that India needs to take to realize its industrial aspirations, but are of the view that it is poorly positioned to achieve these, given current trends.
The National Manufacturing Policy (NMP) aims to raise the share of manufacturing in India’s GDP to 25% by 2022 and create 100mn additional jobs in the sector. To realize this vision, the Modi government has launched the “Make in India” campaign that encourages global companies to use India as a manufacturing export hub.
However, manufacturing’s share in GDP has fallen by 1 percentage point since the NMP’s launch in 2011 and the sector’s job creation has been just 1.6% per year. The recent underperformance is partly because of weak demand. But at the heart of India’s industrial malaise is poor productivity, aggravated by the hangover of ill-judged policies of previous decades.
We do not think that India has the luxury to follow a sequential approach to industrialization à la China. We would suggest a multi-pronged strategy targeted at boosting FDI, raising productivity and diverting rural labour towards industry, maximizing the advantages of competitive labour costs and a vast domestic market.
Indeed, the latter provide India with an edge in the current environment, when the viability of an export-led manufacturing model is increasingly being questioned.
But India fares poorly on most parameters that we think are necessary to boost manufacturing output (such as the investment climate). In line with this, we expect manufacturing growth to stagnate around 7% pa over the next 15 years, leaving its share in GDP at just 17%. As a result, GDP growth may dip to around 5% by 2030.
The dramatic fall in sterling threatens to push up inflation and squeeze consumers’ purchasing power. But it also offers upsides and not just via the conventional channel of a boost to net exports.
Sharp declines in the exchange rate in 1992 and 2008 were followed by sizeable gains to GDP from net trade. There is little reason to think that this won’t be repeated. And the likelihood that sterling will remain depressed for some time should reduce the odds of the boost to output being subsequently eroded.
Admittedly, evidence on the sensitivity of UK trade volumes to the pound’s value is mixed. While goods exports appear fairly responsive, the opposite is true for imports. And the elasticity of services exports to the exchange rate is low, bad news for an economy where services account for 40% of total overseas sales.
But if UK firms respond to the lower pound by raising their sterling prices, revenues will increase irrespective of any rise in export volumes. A look at the historical performance of export volumes and values suggests that such ‘pricing to market’does take place.
Those extra revenues will provide firms with the resources to pay higher dividends and wages and/or increase investment. So sterling’s fall could boost GDP via multiple channels.
The nature of UK outward and inward investment means that the cheap pound is also bolstering the UK’s external balance sheet. Q3 is likely to have seen the country’s net foreign asset position move into positive territory for the first time since 2009.
Nonetheless, the lower pound is set to be a mixed blessing for the economy. Not least, the direct consequences for the all-important consumer sector are gloomy. And given the unprecedented situation facing the UK, any reassurance from historical falls in sterling needs to be taken with more than the normal degree of caution.
Following yesterday’s very strong PMI readings, today’s Ifo release confirms that the German economy is holding up well despite an initial post-Brexit vote slump.
Meanwhile, French business confidence moderated slightly in October, but still suggests quarterly growth of 0.3% in Q4, in line with our forecasts of annual growth of 1.3% for this year.
The national oil company decided to proceed with the swapping of 39% or US$2.8bn of its US$7.1bn bonds maturing in 2017 by scrapping its self-imposed 50% participation threshold, as we had expected.
The operation spares the country US$1.9bn of payments over the next 15 months, which will likely allow the company to muddle through for another year. However, the risk of default will persist, increasing again in Q4 2017 when US$2.0bn in amortizations will come due.
Q3 GDP growth surprised on the upside, growing by 0.7% on the quarter, with the increase driven by consumption and another large rise in construction investment. Year-to-date growth performance warrants an upward revision to our current full-year growth forecast of 2.7%. But we are cautious about the momentum continuing in Q4.
On the back of the US Fed's inaction in September and relatively calm financial markets, Bank Indonesia has cut its policy interest rate by a total of 50bp in consecutive cuts in September and October. In its latest comments, BI views global growth as uncertain and assesses that the domestic economic recovery is limited. As such, against the backdrop of fewer rate hikes in the US, we believe that the BI will continue to support growth. Thus, further rate cuts cannot be ruled out. However, the BI has unloaded a total of six cuts this year and we want to wait for the Q3 growth data (published in early November) before deciding whether BI will ease policy again.
September monthly economic data were slightly downbeat as nominal export growth fell back into negative territory after recording the first annual rise in nearly two years in August. Meanwhile, the private consumption indicators were patchy, with retail sales growth staying robust but motor vehicle sales growth losing momentum. However, the latest data do yet not warrant a change in our growth forecast for 2016. We maintain our view that the economy will grow by just over 5% pa in 2016 and 2017.
‘Flash’ Eurozone PMIs surprised on the upside in October, with the composite indicator rising to its highest level since the start of the year. A sharp rise in new orders and backlogs of work bodes particularly well for the economy at the start of Q4. Today’s release is consistent with our view that growth in the region will remain at 0.4% in Q4, where we estimated it increased to in Q3. Moreover, rising price pressures support our view of QE tapering after March 2017.
Meanwhile, Spain seems to be set to get a new government later this week, while the CETA negotiations are reaching “crunch time”. Given the news following this weekend’s “emergency meetings”, it seems unlikely that the EU-Canada summit will be held this week.
The BCB cut the Selic policy rate by 25bp to 14% this week – the first rate cut in four years. We believe the Copom will lower the policy rate by an additional 50bps in November as inflation will continue to fall and the government is likely to approve a 'spending cap bill' in Congress before their next meeting.
With both inflation and economic activity falling at the margin, we forecast a total loosening cycle of 300bp by Q2 2017, taking rates to 11.25%. Meanwhile, we only expect inflation to converge to the 4.5% target by Q2 2018.
Canadian policy makers are facing mounting opposition to trade deals in their top two foreign markets. Failure to ratify new trade agreements will limit the potential upside of export growth in coming years.
The consumer took centre stage this week. September’s retail data saw sales volumes remain flat for a second successive month, though over the course of Q3 as a whole sales were up 1.8%, the strongest outturn since late-2014. This will help to ensure that next week’s preliminary estimate for Q3 GDP growth remains comfortably in positive territory.
Both the retail sales and inflation releases suggested that price pressures are on the turn. We expect CPI inflation to accelerate sharply from this point onwards, averaging 2.7% in 2017. This will severely squeeze household spending power and cause spending growth to slow sharply.
The labour market release was a mixed bag, with the level of unemployment rising slightly compared with three months earlier, but employment also increasing.
After the volatility of the previous couple of weeks, financial markets have been calmer over recent days. But with sterling now 18% below 23 June levels against the dollar, November’s MPC decision is no longer a foregone conclusion.
We judge the risk of recession to be unchanged from last week at 20%.
The ECB’s survey of professional forecasters showed that short-term inflation expectations have edged down further. Economists now see 2018 inflation at only 1.4%, rather than 1.5% previously, as they expect 2018 growth to be weaker (1.6% rather than 1.7%) and the output gap to close more gradually.
The controversial EU-Canada comprehensive trade agreement (CETA) has hit another roadblock, as the Walloon government in Belgium continues to reject the deal. This makes it highly unlikely that the deal can be ratified before the EU-Canada summit on 27 October. Meanwhile, we expect DBRS – the only agency that rates Portugal above junk status, thereby ensuring its eligibility to QE – to reaffirm its rating today.
A fiscal deficit of £10.6bn in September was the highest for that month in two years and left borrowing in the fiscal year-to-date only 5% down on the level in the same period in 2015-16.
So the OBR’s expectation for borrowing this fiscal year is looking more unattainable even before a likely downgrade to its growth forecast in the Autumn Statement. But with gilt yields still exceptionally low and the private sector at risk of retrenching, the case for a fiscal stimulus remains strong.
The central bank of Turkey (CBRT) unexpectedly paused its easing cycle today, leaving all its rates unchanged for the first time in eight months.
President Draghi was very tight-lipped at the ECB’s latest press conference and some long monologues on the detail of the recent Bank Lending Survey were reminiscent of a US Senate filibuster. While Draghi did not rule out any action in December, the reluctance to provide guidance on the form of any policy action at the next meeting is perhaps a sign of large divisions within the Governing Council over what the next step should be.
Based on Draghi’s latest communications, the ECB remains in data-dependent mode. We remain comfortable with our out-of-consensus assessment that the ECB will taper QE beyond the current March 2017 termination date.
Against our expectations and those of the markets, Bank Indonesia (BI) lowered its new policy tool – the 7 day reverse repo rate – to 4.75% at the October policy meeting. The move, the sixth rate cut this year, was facilitated by calm financial markets and low inflation but also perhaps spurred by concerns about the strength of the domestic economy.
However, going forward, we continue to expect that Indonesia's policy path will be largely determined by the US policy outlook. And as we expect the Fed to hike in December, we think that BI will now keep interest rates on hold.
Today’s fall in the euro dollar exchange rate suggests markets are expecting ECB President Draghi to signal decisive action in December later today. Our expectation is for more QE in the form of tapering from next March, less than the market is expecting.
The Eurozone current account surplus rose to €29.7bn in August due to further rises in the trade surplus and FDI inflows.
Though retail sales were flat in September, over Q3 as a whole they were up by 1.8%, the strongest performance for seven quarters.
But the strength in retail sales volumes has been largely founded on deep discounting. We are now moving away from this environment, with the sharp depreciation of sterling increasingly feeding through to prices. This is likely to mean that the strong Q3 data represented one last hurrah for the high street.
Our analysis of long-term potential output suggests that Chile, Colombia and Peru are best-placed to deliver the strongest catch-up stories in Latin America. On the other hand, we have downgraded our long-term outlook for Mexico on the back of lower potential growth in the US. As such, we now see the region's second largest economy stuck in a sort of middle-income trap.
Meanwhile, Brazil and Argentina, the other two large economies in the region, are expected to catch up only very slowly with the more advanced economies in the coming two decades. Their inability to maintain a stable macro framework and to use the commodity-related revenues from the 'boom' years to boost their capital stock and total factor productivity (TFP) mean that these two countries have actually damaged their potential growth. Thus, although we forecast some catch up from current levels, their GDP per capita relative to that of the US will still be lower in 2036 than it was at their respective peaks of the early 2010s.
Venezuela is in a league of its own. A prolonged period of disastrous economic policy has undermined the potential of both the oil and non-oil sectors. So much so that by 2036 it may be the poorest of the major Latin American countries, having been the richest nation in the region in the 1990s.
Overall, our new estimates put Latin America's potential growth at 2.3% per year in 2017-26, which represents a marked slowdown from the 3.2% pace seen in 2005-14. Weaker growth from key trade partners, such as the US and Europe, and smaller gains from terms of trade will constrain TFP and capital accumulation in the coming decades. However, the key factor behind the slowdown in potential output in the long term will be demographics, as most LatAm countries will not be able to add as many workers to the labour force going forward as they did in the past two decades.
On the back of a downward adjustment to our forecast for total factor productivity (TFP) growth in 2016-25, we have lowered our estimate for Dutch potential output growth over the next decade from 1.4% to 1.1%. As a result, we have also cut our GDP growth forecasts by a similar amount.
Since its nasty "double-dip" recession, the Netherlands has staged a relatively robust recovery. Here, we take stock of the permanent damage to potential growth from the "Great Recession" and assess the medium- and long-term growth prospects.
There seems little evidence to suggest a rise in the structural unemployment rate or a permanent decline in labour supply following the crisis. Furthermore, demographic trends up to 2025 are slightly better than the Eurozone average. This should ensure that labour's contribution to growth picks up over the next decade.
Since the global financial crisis, capital has boosted potential GDP growth by a solid 0.6pp a year. Looking ahead, we expect fixed investment growth to ease after the recent period of strength. But more importantly, the depreciation rate will remain high by historical standards, meaning that the capital stock will grow at a slower pace than in 2008-15 and boost potential output by only 0.4% per year.
Finally, we expect the sustained weakness of TFP growth, which was a feature of the economy even before the onset of the global financial crisis, to continue. We now expect TFP's contribution to annual potential growth over the next decade to be 0.4pp on average, down from our earlier estimate of 0.7pp. But this still represents a modest improvement from the weak contribution of 0.1pp between 2007 and 2015.
Policymakers could raise potential growth via growth-enhancing reforms. But the easiest option, namely labour market reform, has been largely exhausted and on balance the risks to our forecasts still lie to the downside. Secular stagnation, which implies no rebound in productivity, could mean that the potential growth might even be below the already-low 1.1%.
The Bank of Canada left the policy rate at 0.5% but marked down its growth forecast. We expect the Bank will keep the policy rate on hold through 2017 to support stronger growth. We continue to expect that the next move will be a rate hike in Q1 2018.
Yesterday, in a widely expected move, the board of the Chilean central bank (BCCh) decided to leave its key policy rate on hold at 3.5%.We maintain our call that interest rates will remain at 3.5% in the final two months of 2016 and throughout 2017 – provided that the economy does not show further signs of weakness and inflation expectations remain well-anchored.
The latest monthly indicators have been mixed, indicating that the recovery is still shaky. External trade data, though dragged back by temporary factors, took a turn for the worse in September, while the manufacturing PMI fell to its lowest level in 14 months. However, consumer confidence remained quite solid in September, which points to continuing robust retail sales growth.
The economy faces several headwinds. In addition to the uncertain external situation, the ongoing corporate restructuring in parts of industry could have unexpectedly serious fallout (such as a protracted rise in the unemployment rate which would have the potential to weigh on consumer spending). Thus, while we do not expect the central bank to cut interest rates in the coming months, any serious derailing of the domestic recovery would trigger further easing from the central bank.
Although the ECB’s October meeting is the focus of attention in the Eurozone this week, trade ministers from EU member states are meeting in Luxembourg in an attempt to ratify the CETA trade deal with Canada. But due to ongoing opposition from Belgium, any decision has been pushed back to Friday.
Meanwhile, construction recorded a monthly contraction in August, declining by 0.9%. However, as the fall follows a sharp 1.5% jump in July, it does not alter our view of relatively strong growth in the Eurozone in Q3.
Real GDP growth held steady again at 6.7% y/y in Q3 and nominal GDP growth increased. In addition, investment momentum has improved in recent months amid a stronger property sector. However, industrial production slowed in September, underscoring that downward pressures on growth remain.
While the GDP growth target for this year is “in the bag”, the big question going forward is whether the authorities will eventually start to rein in the pace of credit expansion. While there are no signs of this happening yet, we do think that the likelihood of a shift in macro policy will rise over time. This would mean lower but more sustainable growth in the coming years.
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