Light at the end of the tunnel increasingly brighter
|On the COVID front most European countries are seeing improvement but governments across Europe are walking a tightrope where cases will likely rise again if restrictions are eased. Most analysis so far have found that the vaccines are effective against new variants – and close to 100% efficacy against severe cases, increasing the probability that reopening later this year will be for good. Still one of the major tail risks is if vaccines turn out to be ineffective against new mutations, which would imply a significant setback in risk sentiment with investors currently pricing in a very positive outlook.
In New Zealand, life is pretty much back to normal except for some very strict travel restrictions. We have taken a closer look at post-COVID consumption in New Zealand. The good news for businesses currently struggling with the pandemic is that consumers quickly revert to normal patterns of consumption after reopening. The bad news is that many do no more than that.
In the Euro Area, Q4 GDP contracted -0.7% q/q. Positive growth in Q1 is beginning to look unrealistic given the continuation of the national lockdowns expected to last through most of the quarter. We see the two-speed economy reflected clearly in the GDP figures with countries such as France (-1.3%), Italy (-2%) and Austria (-4.3%) contracting the most. While the more manufacturing-heavy country Germany was virtually unchanged (0.1%) and smaller countries such as Latvia (1.1%) performed significantly better.
Core inflation increased to a 5-year high in the euro area in January as the temporary VAT cut in Germany fell out and CO2 pricing is kicking in. Besides, the new set of CPI weights will be a source of increased inflation volatility this year. All in all, we think it is too early to conclude anything about the fundamental strength of inflation. Markets also took little notice, and we expect the tone from the ECB to remain unchanged even on the back of this.
In Italy, former ECB president Mario Draghi was asked to form a caretaker government. Markets took the news of such a pro-EU PM representing Italy in EU negotiations as a good sign and BTPs-Bund spread tightened. Whether Draghi actually can change the structural problems of Italy remains to be seen.
The Bank of England meeting drew more attention than usual as they assessed the question of negative rates. While the BoE does not rule out negative rates all together, it does not seem to be the strategy for now, supporting our expectations of no cut into negative.
We see fading economic momentum in China as both manufacturing and service PMIs declined in January. We expect the manufacturing sector is losing steam due to a mix of fading catch-up effect, easing stimulus and lower export growth related to slower growth in goods consumption in US/Europe. This is rubbing off on the service sector as well, which is also affected by the recent outbreak of COVID and less activity related to Chinese New Year.
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