Erik Nielsen's Latest European Stick Save Attempt
Before heading off to a week of meetings in Washington, New York and Boston, here are my thoughts on Europe from hot and wonderful Chiswick:
- Another week of market discomfort, starting with renewed concerns about European (mostly Spanish) banks (which I don’t fully share), and ending with “contagion” from the US.
- Meanwhile, European real-economy data continue to come in just fine; the latest Euro weakness will contribute to more of the same.
- The new Hungarian government claimed that the inherited deficit is bigger than expected and that they are on the brink of default, crazy statement for domestic consumption, but utterly irresponsible in the present market environment.
- Merkel and Medvedev spent the last two days talking about German contributions to Russia’s further modernisation – as well as foreign policy issues.
- This coming week will see the first hard data for Q2 – industrial production for April - in several countries, including several Euro-zone members; we expect a general easing in the growth rates, but still good.
- The ECB meets on Thursday (no big news) and further work on the SPV will take place Monday-Tuesday.
- The UK also publishes April IP numbers; probably down a tad after recent months’ strong gains.
- Sweden is also set to print a small slowdown in industrial production after a very robust March.
- Norway will publish manufacturing production (we expect a small decline) and we’ll get Norges Bank’s regional survey.
- The great battle between, on the one side, nervous financial markets, and on the other side, good improvements in the real economy and policymakers working to restore confidence, continued this past week. But as illustrated by the price action yesterday, this is not just a European problem; rather yesterday’s sell-off was clearly triggered by the weak job data out of the US. Before that, financial markets here in Europe seemed to get increasingly nervous again about European banks in spite of further progress on mergers in Spain and new promises of further stress tests by July. I maintain my view that markets are overly concerned about Spanish banks (and about Spain in general) and that people tend to underestimate the recent acceleration in the changes in this space. This past week’s mergers of cajas is only one such illustration; I expect a month or two of rapid (positive) change among Spanish banks. Also, we got pretty good news out of G20 in Korea with reports of broad agreement on the need to delay the new banking rules (although disagreement remains on several technical aspects.) All said and done, we are in one of those phases where I just don’t really get the equity market. As my colleague Peter Oppenheimer has illustrated, European equities are pretty cheap if you employ just a minimal degree of common sense in terms of staying away from those most exposed to domestic demand in the periphery. Meanwhile, German government borrowing costs reached new lows, and while other sovereign spreads – now focused on the bigger and better rated ones – widened, absolute funding costs for the sovereigns remain at very low levels. There is tons of liquidity out there, there are plenty of good real economy stories of improving demand, and yet, investors prefer negative real returns. This cannot last.
- A number of people explained to me that Friday’s stock market action was caused by the lack of job creation in the US. Well, I noted the timing, but has the market totally forgotten that job creation is a lagging indicator of growth and earnings? Moreover, here in Europe we are through another week of pretty good data on the macro side. Euro-zone GDP and the good PMIs for May were broadly confirmed. Bank lending to households continued to increase very nicely in April, while lending to non-financial corporate still sit pretty flat in line with historical evidence of lending coming out of recession. And when it comes to the drag from fiscal consolidation, as Natacha Valla and Jeremie Cohen-Setton illustrated in Thursday’s European Weekly Analyst, this will easily be outweighed by the weaker Euro. But just as I struggle with the equity market, I don’t get the FX market these days. While I understand the technical and position-based arguments for the FX levels, on fundamentals, I don’t know why the Euro has remained overvalued for so long. That said, the triggers for moves are amazing: On Thursday, markets basically ignored the man with the world’s single biggest portfolio, Chinese central bank governor Zhou Xiaochuan, when he expressed full trust in Europe’s ability to deal with its debt crisis, while going into a virtual panic sending EUR/USD below 1.20 for the first time since March 2006 when the wire services botched the simple job of translating French PM Fillon’s statement on the FX. But here is the most fundamental of questions: How can one be bearish on both the Euro and on Euro-zone growth? Beats me – I assume you know which camp I am in.
- But while good policymakers work hard to restore the necessary confidence in markets, others make me really nervous. On Thursday, the Hungarian government pulled that same old trick out for a new government that we most recently saw employed in the UK, and multiplied it many times over, by declaring that things are much worse than expected. Fidesz vice-president Kósa claimed that Hungary stands on a brink of a sovereign default due to its precarious budget situation and continuously appearing 'skeletons' in the fiscal accounts. And in spite of the predictable market reactions, a spokesman for PM Orban basically repeated the same assessment yesterday. As Magda Polan argued in her note, these comments were clearly intended for domestic consumption and were used to build a dramatic backdrop that would let Fidesz backtrack on a large share of its campaign promises and broadly continue with the fiscal policies of the previous government. The larger deficit-to-GDP numbers they referred to were not generated by measurably greater HUF-denominated deficit projections, but by (unrealistically) lower GDP numbers. In my opinion, these were rather irresponsible statements, and unless they get clarified, in addition to raising the government’s funding costs, and adding to their debt levels (via the FX depreciation) – talking about shooting yourself in the foot, anyone? - next week might well see an unnecessary revival in market anxiety about Austrian banks etc. Seen from a broader pan-European perspective, this is just the latest in a series of unfortunate statements by the new Hungarian government; on the back of earlier “patriotic” (read: nationalistic) statements, the FT’s Tony Barber discusses in his excellent Brusselsblog the uncomfortable prospects of Hungary taking over the EU presidency in six months.
- Yesterday and today saw the latest of the regular meetings between the heads of state of Germany and Russia. Merkel and Medvedev met at Schloss Meseberg north of Berlin. Following weeks of meetings with her European partners all focused on getting Germany to lend and guarantee hundreds of billions of German taxpayers’ Euros to keep the European project on track, it must have been a relief for her to meet with Medvedev who basically came to seek a framework for a substantial increase in Russian purchases of German knowhow and products to help modernize Russian public infrastructures. As far as I understand, policy wonks are busy trying to link such commercial interests between the two sides with a host of human rights and foreign policy objectives. (Reportedly, the Middle East, Iran and North Korea were also discussed.) I am all for greater policy coordination towards the world’s hotspots as well as global respect for human rights the way most of us Europeans and Americans think of this important issue, but expanding commercial interactions is indeed a great way of getting started. As I have argued before, this space of German-Russian interactions is worthwhile watching rather carefully, and never more so than now when intra-EU relations are stressed.
Looking at this coming week:
- The Euro-zone will see its first hard data for Q2 roll in this coming week, namely in the shape of national industrial production numbers for April; they all have EMEA-Map relevance scores of 5. Our leading indicator of IP for the Euro-zone as a whole suggests some general slowing of momentum at the present robust level, although this will likely be reflected to varying degrees in the individual countries. Spain already reported flat April IP growth on Friday (following the 2.1%mom gain in March; not so bad for an economy most people think is falling off the edge of the cliff). The rest of the national numbers starts on Tuesday with Germany where we expect a handsome +2.0%mom (after +4.0% in March) In France and Italy (both out Thursday), we foresee a gain of +0.2% mom, down from April’s +1.0% rise in France, but up from a weaker March reading in Italy.
- On Tuesday, the ECB will reveal its sovereign debt purchases for this past week. Up until a week ago they had bought €40bn (reportedly all in Greece, Portugal and Ireland) with slightly less each week since the start. I am guessing that they bought €5-8bn last week, but we’ll see. In the bigger scheme of things, it surely continues to be peanuts, but I suspect that they’ll begin to more seriously phase out the purchases once the SPV is functional, probably in some three weeks (meetings Monday-Tuesday to sort out technical details). On Thursday we’ll have the regular monthly ECB meeting. I’ll watch it (from NY), but I suspect it’ll be pretty boring: There’ll be no change in policies, of course. They’ll probably revise marginally higher their growth and inflation forecast for 2010 and 2011, and Trichet will mention the words “exit strategy” several times, but I very much doubt that he’ll give anything concrete away at this stage – why should he? Finally, the German constitutional court will decide within the next week or two whether to impose an injunction against the €123bn German contribution to the SPC following the filing by CSU MP Gauweiler. The court has not said when they’ll decide on the issue of an injunction, and I am no legal expert so I won’t make a prediction what they’ll do. But as Dirk Schumacher has noted, the court rejected an injunction against the EU package to Greece, so it might be somewhat surprising if they were to stop the SPV contribution while they decide on its legality. The final ruling on both the Greek package and the SPV contribution will likely take several months.
- In the UK, the MPC also meets on Thursday and will (also) leave policy (rates and QE) unchanged. Apart from that we have three ONS releases and two surveys this coming week. Like in the Euro-zone, the main release will be industrial production in April, on Friday. After two blowout months in February and March, when output grew by 3.7%, we expect a small drop in April (-0.1%mom), despite the continuing strength of surveys; consensus is at +0.5%mom. Trade data are similarly noisy and, after a dip in services exports and a rise in goods imports in March, we expect a partial reversal in April (the numbers are released on Wednesday) and a drop in the goods and services deficit from £3.6bn to £3.0bn (consensus expectation £3.0bn). Also out on Friday, at the same time as the IP numbers, are producer prices for May. These have shot up in recent months (by 3% since the start of the year), not least because of the weaker sterling, but also as a result of higher global commodity prices. We are just about in line with the consensus view on “core” output prices (+0.5%mom versus +0.4%mom) but, thanks to the decline in oil prices, below it on headline inflation (-0.1%mom versus +0.5%). Finally, we’ll be keeping an eye out for the two surveys this week, the BRC Retail Sales Monitor and Markit’s Report on Jobs. Ben Broadbent has observed that the latter, which has performed well as a leading indicator in its (admittedly limited) history, remains extremely strong, consistent with accelerating rates of pay, growing vacancies and annualised jobs growth in excess of 1% in the private sector. But he is wondering if this can continue. The Report on Jobs is out on Wednesday. The BRC survey is published earlier that morning and is particularly important to watch following the sharp drop in the other main retail survey in May, the CBI Distributive Trades Survey (the main balance fell from +13 to -18). A CBI reading of -18 equates, on past correlations, to a like-for-like BRC sales figure of around +0.5%.
- It’ll be a relatively quiet week in Sweden. Following a very strong rise last month, we expect IP data (Wednesday; EMEA-MAP relevance score of 3) to come in a little below consensus (+0.5%mom vs. 1.0%mom). We are in line with consensus on the CPI data (Thursday – 2.8%yoy).
- There are three data points of note in Norway this coming week. First, manufacturing production (E-Map 4) for April on Monday should show a small contraction (-0.2% mom, consensus +0.2%mom). Manufacturing activity has expanded for the last two months, and so a flattish print would be consistent with moderate growth. Second, as important will be the latest Norges Bank Regional Network Report on Wednesday. There is no consensus survey for this, but we expect to see a picture of accelerating, but still moderate, activity growth – the previous report in March showed a slowdown in activity at the start of the year. This report is an important input into Norges Bank’s view of real activity in Norway. Finally, we’ll get inflation for May on Thursday. We expect CPI-ATE inflation to decline to 1.5% from 1.7%; consensus expects a slightly more modest decline to 1.6%.
… and that’s the way Europe looks to me on this gorgeous Saturday evening under my cherry tree in my backyard (no, they are still far from ripe yet.)