Euro Area May Have Retrurned To Growth In Q2

Data published this week was very positive for overall growth in the Euro area. In the second quarter the pace of the contraction of the Italian and Spanish economies both slowed, the French economy returned to growth and the pace of the expansion in the German economy accelerated. This news combined, points to a return to growth for the Euro area economy in Q2 having contracted for six consecutive quarters; the data due next week is expected to show an increase in GDP of 0.2%. It is important to remember that GDP is still 3% shy of its peak in 2008, meaning there is considerable spare capacity in the economy. The Euro zone’s recovery continues to lag behind that of the US and the UK; this is evidenced by the high unemployment rate of 12%.

It is because of this that the ECB expects its key interest rates “to remain at present or lower levels for an extended period of time”. This commitment, in turn, is due to the subdued outlook for inflation into the medium term. Inflation currently stands at 1.5%, well below the target of ‘below but close to 2%’. This suggests that interest rates will remain low well into next year at the very least, and probably into 2015.

UK – Bank of England announces striking policy departure

This week brought the much anticipated announcement regarding the framework for forward guidance by the Bank of England. The BoE made a contingent commitment to keep the Bank rate at the current 0.5% until the unemployment rate drops back to 7%. The unemployment rate is currently 7.8% and is expected to decline to 7.3% by mid 2016. The forward guidance framework is subject to three ‘knockouts’ – a rise in inflation expectations, a forecast inflation rate in excess of 2.5% (current target is 2%) and a threat to financial stability.

The market was unimpressed with this news; sterling rallied and expectations on the timing of the first rate increase were left unchanged at around mid 2015. This negative reaction, regardless of the three caveats, was due to the Inflation Report which incorporates an upward revision of GDP but has left inflation projections unchanged. The main data releases this week were stronger than expected, including an increase to 60.2 in the July services PMI and a 1.1% increase in industrial production.

United States – Poor week for the dollar

The dollar endured a tough week, losing ground against all of the other major currencies (the euro, sterling and yen). The catalyst for this seems to be a delayed reaction to last week’s below expectation Employment Report, which showed a smaller than expected increase in ‘payrolls’ for July (162k v 185k). However, the weakness of the dollar seems surprising when all of the recent data is considered. Employment rose by 175k on average over the last three months, enough to nudge unemployment down further. Further, a number of Fed members over the past week have cited the continuing improvement in the labour market and have not ruled out the commencement of asset tapering in September. Moreover, it seems as if GDP for the second quarter will be revised upwards to 2.5% perhaps, from 1.7%. All in all, this recent weakness may just be a minor blip and it is reasonable to expect the current upward trend of the dollar to remain intact. The prospect of reasonably strong economic growth, lowering unemployment and a slowing in the pace of asset repurchasing may all push the currency higher for the remainder of the year.

Ireland – Inflation unchanged while car sales soar

Industrial production jumped by 8.7% in June marking a 3.3% increase for the second quarter. Car sales benefitted enormously from the new double registration scheme, soaring by 51% on an annual basis. Surprisingly the CPI fell by 0.1% in July, leaving the annual inflation rate unchanged at 0.7%.