Eurozone growth picture shows why ECB unfazed by slowdown

Frankfurt - European Central Bank (ECB) policy makers are starting their two-day meeting in Frankfurt on Wednesday relatively relaxed about what appears to be a sharp eurozone slowdown.

A close read of the numbers suggests they’re right.

Bloomberg calculations show the ECB’s prediction for a 2.4% economic expansion this year already factors in weaker underlying momentum. That helps explain why officials including President Mario Draghi have done nothing to counter market expectations that their bond-buying programme will end this year, despite a raft of data that has missed economists’ estimates.

“Notwithstanding the latest economic indicators, which suggest that the growth cycle may have peaked, the growth momentum is expected to continue.”- Draghi at the International Monetary Fund meetings, April 20

Draghi’s optimism is backed by Bloomberg analysis that breaks economic growth down into two components. The underlying rate of expansion this year is estimated at 1.4%, down from 1.7% in 2017. That’s still above the bloc’s long-term potential rate of about 1.2%, meaning spare capacity will be eroded and inflationary pressures will eventually pick up.

The balance is a statistical quirk known as the carryover, which reflects real growth but is carried over from the previous year. Because of the euro area’s exceptional performance in 2017, that measure is the highest in a more than a decade.

The IMF is also apparently sanguine about the eurozone’s surprise slump in production and confidence in the first quarter. Its economic outlook this month raised the prediction for 2018 growth to 2.4% from 2.2%. The ECB will update its own projections at its June policy meeting.

Alternative measures show that the slowdown, while real, isn’t dramatic. Comparing fourth-quarter gross domestic product with same period in the previous year avoids the carryover effect.

Average quarterly growth offers another indication that momentum will be weaker this year, but remain well above the average since the early days of the single currency.

The initial estimate of eurozone GDP for the first quarter still has the potential to change the ECB’s thinking. That report is due on May 2, with Bloomberg Economics predicting quarterly growth will slow to 0.5% from 0.7%.

Economists surveyed by Bloomberg this month continue to predict bond buying will end this year, though they pushed back their estimate for when such an announcement would be made. Respondents said the ECB should be more worried about global trade prospects than softer economic data.

Policy makers see scope to wait until their July meeting to announce how they’ll end the programme, according to euro-area officials familiar with the matter. Purchases are currently scheduled to run until at least September.

What Bloomberg economists say

“It’s worth recognising that 0.5% is still a little above the currency bloc’s trend growth rate. This means the ECB probably won’t need to sound the alarm on growth. And so long as the economy keeps expanding at above-trend rates, cost pressure will continue to build. A substantially weaker reading would catch the ECB’s eye.”- Jamie Murray and David Powell, Bloomberg Economics

Still, Governing Council members have lined up recently to express their confidence that growth will remain robust and inflation will gradually pick up toward their goal.

“We have witnessed the strengthening of broad-based growth and steadily declining unemployment, providing conditions for inflation convergence to our objective,” Governing Council member Vitas Vasiliauskas said in an article published on Wednesday in the Eurofi magazine. “This has increased my confidence that it is time to transition from the asset purchase programme.”

Executive Board member Yves Mersch said in the same publication that the recent slowdown in inflation has been weaker than the ECB predicted.

Their comments follow remarks from chief economist Peter Praet, who has said the current moderation should be seen in the context of several quarters of “very strong” growth. French Governor Francois Villeroy de Galhau said “underlying momentum remains solid,” while Germany’s Jens Weidmann argued that the past quarter didn’t mark a turning point.

“We still have excellent conditions: the labour market is improving, wages are beginning to rise and consumers aren’t concerned about inflation,” said Andreas Scheuerle, an economist at Dekabank in Frankfurt. “Despite increased risks, the domestic economy is well-placed.”

* Sign up to Fin24's top news in your inbox: SUBSCRIBE TO FIN24 NEWSLETTER