Strategy: Strong economy and low rates continue

Economic data still strong

As we argued in our semi-annual global outlook The Big Picture – Global economy still on a roll, 4 December, the world economy is in good shape. Growth across regions is quite strong compared with previously in this cycle, inflation remains muted, central banks are tightening monetary policy only gradually and there are not many risk factors to worry about near term. We expect the global expansion to continue in coming years. Economic data and events over the past week have supported this view.

In the euro area, PMI manufacturing and PMI services rose and PMI composite now indicates 0.8% q/q GDP growth in Q4, which would be one of the strongest quarters since the 2011-13 European debt crisis. Although soft economic indicators have had a tendency to overestimate hard economic data recently, 2017 is still the strongest year since the crisis in terms of economic growth in the euro area. Labour market data show euro area employment was 1.7% higher in Q3 17 than in Q3 16 (the strongest employment growth rate since the crisis).

In the US, NFIB small business optimism rose to one of the highest levels ever recorded, as tax reform is moving closer, although not a done deal yet. Combined with strong consumer confidence, it suggests the expansion will continue in coming years and that growth will become more balanced, driven by both consumption and investments. Retail sales in November indicate private consumption growth is strong here in Q4. Despite the expansion having lasted longer in the US than in Europe, it is interesting that inflation remains muted in the US. CPI core was once again weaker than expected (0.1% m/m versus 0.2% m/m expected), implying a CPI core inflation rate of just 1.7%.

In terms of political risks, it is good news that last Friday the UK and EU reached an agreement on the first phase of Brexit negotiations (divorce bill, Irish border and citizens' rights). Although EU leaders have not yet officially said the deal is ‘sufficient' to move negotiations forward to transition and the future relationship, we believe this should be a formality. While it is too early for markets to price out the Brexit premium in GBP yet, as uncertainty remains high on what Brexit really means in terms of the future economic relationship, the better negotiating environment is promising for reaching a final deal eventually. This is one reason we expect EUR/GBP to move lower on Brexit clarification in 6-12M.

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