Mario Draghi surprised us again. Just months after unprecedented easing measures including the introduction of negative interest rates, the European Central Bank announced last week that it would cut rates even further while also launching fresh programs to make open-market purchases of asset-backed securities and bonds. The plan isn’t as aggressive as the Federal Reserve’s quantitative easing program, but it was still more far-reaching than anticipated. Clearly, the ECB is willing to try anything it can to fight low inflation and stimulate lending.
The only problem? Nothing they’ve done to this point has had a lasting effect. After several quarters of mild recovery from the 2011-12 recession, the Eurozone economy registered zero growth last quarter. Germany, long considered the continent’s most reliable growth engine, saw its economy shrink 0.2 percent, while France flat-lined and Italy shrank as well. Not surprisingly, inflation fell to 0.4 percent in July, the lowest level in more than four years and a far cry from the bank’s target of 2 percent. Draghi admitted during a September 4 news conference that the medium-term inflation outlook was worsening and August data showed the recovery was losing momentum.
So has the Europe-in-recovery play run its course? No it hasn’t, says Credit Suisse. For starters, even if the headline data doesn’t look too good, it’s not bad enough to push Europe into a triple-dip recession. A key reason is that the current weak economic data is more a function of a drop off in external demand than homegrown weakness. A higher sales tax in Japan, for example, hurt global goods demand in the second quarter, which impacted European exports. The conflict in the Ukraine and Russia has impacted Europe too, since exports to Russia represent 0.9 percent of euro area GDP. These factors will help keep Europe’s economy weak in the third quarter, but they shouldn’t hold back growth so much in the fourth quarter or next year. Why? Because languishing demand from some corners of the globe is likely offset by the U.S., where consumer confidence is the highest since 2007 and unemployment dropped to 6.1 percent in August. The U.S. purchases 12 percent of euro zone exports, far more than any other non-European Union country.
But it’s not just the U.S. that promises to be a better customer to Europe: Global growth is expected to accelerate in 2015—from 3.1 percent this year to 3.5 percent next—and the situation in Ukraine may improve after the country signed a cease-fire with pro-Russia separatists on September 5. All told, Europe will grow 0.8 percent this year and 1.3 percent next year, according to Credit Suisse forecasts. “We still expect economic activity to slowly improve towards the end of the year,” says Björn Eberhardt, head of global macro research at Credit Suisse’s Private Banking and Wealth Management division.
Indeed, domestic demand remains in good shape despite all the woeful news. Retail sales in the euro area increased 0.8 percent in July from a year earlier. Car sales in Western Europe rose 1.2 percent in August, the 12th straight monthly increase, according to LMC Automotive figures. The euro zone’s Purchasing Managers’ Index indicated higher manufacturing and services output for the 14th straight month in August. And while the bloc’s unemployment rate remains much higher than in the U.S., it fell to 11.5 percent in June from 12 percent the same month last year. “Overall, the labor market is improving, which supports consumption going forward,” Eberhardt says.
Another positive for the region’s economy has been the weakening of the euro, which has fallen 7 percent versus the dollar over the past four months, a decline fueled in large part by the ECB’s loose monetary policy. That should help European exporters, and the central bank’s latest measures should help keep the currency headed in the same direction. And if the most recent measures prove ineffective as well? Draghi has left the door open to further stimulus. No surprise there.