This week, data releases were volatile-to-slightly disappointing in EMU, strong in the US and rather weak in China.
While European policymakers now need to reassure investors that the Greek default will remain singular, periphery countries do have to fully deliver on reforms to avoid further setbacks. That painful reforms will ultimately pay off is clearly demonstrated by Ireland, which we analyze in our first contribution.
Since approving the EU/IMF program in late 2010, Ireland mostly outperformed its fiscal and banking sector targets. Although still vulnerable, the economy is now showing signs of bottoming out. With the referendum on the Fiscal Compact likely to be passed and a possible restructuring of promissory notes, we expect Ireland to return to market issuance later this year.
Next week, the UK's 2012 Budget should be the major event in Europe. While we expect Chancellor Osborne to prioritize the pursuit of fiscal targets, he will make a number of minor adjustments, hoping that they will make the headlines as measures aimed at growth and social concerns, as we argue in our second focus piece.
The Week in RetrospectWith the Greek PSI deal done, the CACs delivered & CDS triggered (without causing major disruptions) and the second EU/IMF bail-out package finally signed, policymakers can now focus their efforts on making Europe more resilient against future market turmoil. By pushing ahead with structural issues like the firewall, the implementation of the Fiscal Compact and other aspects of the EMU's fundamental architecture, they have a good chance to reassure market participants that the Greek default will remain a singular event within Europe. But as we do not expect final decisions here over the next few weeks or months and with the risk that Greece does not fully deliver on reforms, investors' contagion fears may resurface from time to time affecting again other countries, predominantly Portugal. But for the time being, investors seem to be pleased (also helped by generous global liquidity as well as the positive US newsflow), prompting more and more doomsday protagonists to revise their European picture and raise their targets.
Renewed confidence – EU shares are up to an eight-month high – even ignored recent rather volatile-to-slightly disappointing data releases for the eurozone. EMU-wide January industrial production, though marginally up mom after two negative readings, came in below expectations – depressed by substantially contracting activity in Spain and Italy. Less momentum in both countries at the beginning of this year is reflected in weaker-than-expected private consumption and poor consumer sentiment. Together with the negative carry-over from 4Q11, this led us to fine-tune downwards our growth forecasts. We now expect EMU-wide GDP to expand by 0.3% this year. But our picture of sequential qoq growth is roughly unchanged: after a flat start to the year, we expect the economy to gradually recover (for details please see Marco Valli's Economic Flash as of last Friday). We, therefore, remain constructive for Europe, with our 2012 GDP forecast above consensus expectations, and further upside potential for equities and spread tightening in the sovereign debt market. slowed substantially in February on a yoy basis, but were also well below consensus expectations. Exports even dropped last month, pushing the trade balance deeply into the red to USD -31.5bn – a deficit not seen over more than three decades, as imports skyrocketed last month. However, Chinese data in the first two months of a year are heavily distorted by the Lunar New Year and the notorious yoy figures mask short-term dynamics. Also, soaring imports reflect the authorities' efforts to restock strategic base metal inventories (at favorable prices) rather than increased demand for near-term production purposes. Nevertheless, the Chinese growth slowdown will continue over the next few months due to both external and internal headwinds. We are still confident that the slowdown will bottom out during the spring, a view supported by the back-to-back increases in PMI figures. But recent weak numbers do not only highlight the downside risks to our China call – risks we have to monitor closely, they also show the need for further (selective) fiscal and monetary accommodation as well as a more constructive global environment. We expect further cuts of the reserve requirement ratios of 100-150 bp starting soon. The resumption of disinflation will lend a helping hand.
On the other side of the Pacific, the US economy continues to plough ahead, helping the USD to firm vs. the EUR and especially the JPY (11M high). February retail sales in the US jumped by a more-than-expected 1.1%, with the figures for the two previous months revised up solidly. Thus, 4Q real GDP growth might be revised up to 3½% from the currently reported 3%. Moreover, the numbers reveal that consumer spending entered 2012 with stronger momentum than assumed so far. The brighter outlook for the US economy is also mirrored in the improved NFIB survey tracking more labor-intensive small- and medium-sized enterprises. Even the Fed backpedaled from its cautious economic assessment in its FOMC statement this week, further reducing the likelihood of more policy accommodation. That means that “sterilized quantitative easing”, which apparently had been discussed internally as a potential successor of “Operation Twist”, probably won't be necessary. A lower chance for additional easing, however, does not mean that the Fed is getting ready to tighten its policy reins any time soon. While the first rate hike might occur a bit earlier than in late 2014 – as reiterated by the Fed –, it is unlikely to happen before 1H14.