ECB: How to burn ammunition for nothing

In Sintra, at the ECB seminar, Mario Draghi stressed the risk on growth and the difficulties of converging to the inflation target (close but below 2%).

If additional risks materialize then the ECB could reduce its rates and restart an asset purchase procedure. The idea is to take back and accentuate what has been the success of the ECB since 2013. (Low rate = less incentive to defer its wealth over time given the low return associated with it.it has been strong support for a stronger momentum for the domestic demand)

At the same time, Draghi called for an active economic policy. On this point, the failure to implement a euro area budget reflects non-homogeneous behavior in the euro zone. As a consequence there will be no common fiscal policy in the euro area. One can not therefore imagine a two-component euro-zone policy.

A major rule of the theory of economic policy is that it requires as many instruments as objectives. There are two objectives (growth and inflation) and one instrument, monetary policy.

This will not work especially with a series of negative external shocks. In 2016/2017, monetary policy benefited from a favorable international context even if fiscal policy was not active. Today, the environment is no longer as buoyant and the absence of fiscal policy will make it difficult to cushion external shocks. The ECB will act alone and becoming more accommodating it will burn ammunition for a poor result.

Lower ZEW index implies turmoil in Germany

The drop of the #ZEW survey increases the downside risk for the #German economy. It is linked with the rapid slowdown of the world trade. As no agreement is expected rapidly (even with the Trump/XI meeting at the G20), the risk of recession is increasing for Germany.

The current conditions index is far from its recent highs but the June important fact is the strong change in expectations.The 1st component reflects the drop in German exports(-5% in April vs March and -3% in real term since Dec 2018).The momentum will not improve (expectations)
Mario Draghi said in Sintra that the ECB will ease if necessary. It may be sooner than usually expected

What to expect next week ? (June 17 – June 21, 2019)

Highlights

  • The main focus this week will be the Fed’s meeting. I don’t expect a announcement for a rapid drop in the Fed’s rate.
  • The Fed must show its independence when macro data are still robust while the inflation rate remains low.
  • The inversion of the yield curve will continue and I expect a drop in the Fed’s rate next fall as macro data will be weaker.
  • The US housing market is key in the short term dynamics. Existing home sales is a proxy for a wealth effect on this market. Its recent downside trend may be consistent with a slower consumption pace on consumers’ side
  • Flash estimates of the Markit survey will highlight the depth of the US slowdown in the manufacturing sector and the profile of New Export Orders which are consistent with the world trade momentum
  • The ZEW and the Markit survey for June in Germany will reflect the impact of the world trade slowdown. It has already been important on exports. More may be expected.

The document can be found here NextWeek-June17-June21-2019

Strong Labor Market in France

French employment is growing rapidly. 92 800 jobs have been added during the 1st quarter 2019. It’s more than the most optimistic forecasts and this figure is close to those strong numbers seen in 2017 when growth was stronger than now. Labor market reforms have been efficient.

With the strong economic policy measures on purchasing power that have been taken by the government, French growth is more autonomous and able to cushion the negative shock from world trade.

The French economy is becoming more robust

What to expect next week ?

Highlights
  • Chinese trade figures, industrial production and retail sales for May are key to see how China cushions the negative international trade shock. Weak number would imply new measures to support domestic demand
  • The US economy is slowing down on industrial side. This was shown by the ISM manufacturing index in April and the industrial production index is trending downward since the beginning of the year. A negative figure on industrial production for May (June 14) may accelerate the Fed’s monetary policy change (next meeting June 19).
  • This change in the Fed’s strategy may also reflect a lower inflation rate. CPI figure will show a lower headline inflation (2% in April) and stable core inflation rate. Retail sales (June 14) are volatile reflecting a weaker domestic demand. This could add up to CPI and industrial production in the Fed’s decision in June.
  • After weak figures in the in April, the Euro Area industrial production index (June 13) will be down. May be is it the signal Draghi mentioned yesterday in his press conference to move the ECB monetary policy on a more accommodative ground

The document is available here NextWeek-June10-June14-2019

The ECB monetary policy is too tight

Mario Draghi said the ECB was ready to act if necessary.

But there is something I don’t understand: the ECB revised down its forecasts for growth and for inflation for this year and the 2 years to come. Growth will barely converge to 1.4% in 2021 and the inflation rate is expected to be at 1.6% for the same year(way below the ECB target).

Can it be satysfying ? No, this level of forecasts are too low.

This means that the Euro Area has not been able to cushion the external negative shock. If there is still leeway on monetary policy side this means that the current stance is too tight. Today’s forward guidance on future monetary policy measures is not sufficient to reverse the trend. Need more