17 January 2019
Eurozone: The best is now (firmly) behind us

Peak growth is now behind us and while there are still positive drivers that make it too soon to call the end of the expansion, growth in 2019 is likely to come out much lower than last year. We forecast 1.4% GDP growth in 2019 and 1.3% in 2020 but the risks are skewed to the downside. In these circumstances, the probability of an ECB rate hike is melting away

2018 ended on a soft note

After a strong start, the eurozone economy lost momentum throughout 2018. To be fair, with capacity constraints showing up, the eurozone could simply not maintain a growth pace above 2%. But other headwinds explain the growth deceleration. The uncertainty provoked by the trade wars, the strong euro exchange rate in effective terms, the slowdown in the emerging world, the uncertain Brexit outlook and the clash between Italy and the European Commission all contributed to a loss of confidence. Not to mention some very specific problems in the German car industry that resulted in a GDP contraction in the third quarter with only limited improvement in the fourth quarter.

Germany seems to have avoided a technical recession, but it still looks possible in Italy

Sentiment indicators weakened further; the European Commission’s economic sentiment indicator fell back from 109.5 in November to 107.3 in December 2018. The social unrest in France, initiated by the so-called 'yellow vests,' has probably shaved at least 0.2 percentage points off French 4Q GDP growth. Because of that, we expect eurozone 4Q GDP growth to be only 0.2% on a non-annualised basis, and even that might turn out to be too optimistic. While Germany seems to have avoided a technical recession, it still looks possible in Italy.

Germany: Maybe it’s time (to let the old ways die)

From stellar growth to the brink of a recession within less than a year. Germany needs more than good luck to return to the European pole position

Only a year ago, German growth forecasts were being revised upwards almost daily. No end to the ten-year supercycle was in sight. Instead, another year of stellar performance was on the cards, driven by strong domestic demand and rebounding exports on the back of a weak euro.

Now, it seems as if Germany’s growth prospects are diminishing by the day. A disappointing second half of 2018, bringing the economy close to a technical recession, has returned swan songs on the German Wirtschaftswunder, or economic miracle if you prefer. The truth, as so often in Europe, is probably somewhere in the middle.

France: Yellow Fever

2018 ended with unprecedented grassroot protests throughout France, which impacted the main growth indicators. Consumer confidence was particularly hit in 4Q18. The impact of this domestic crisis will be felt across all sectors. We believe there'll be an uptick in the coming months, but see GDP growth limited to 1.3% this year

2018: the lost year

The second half of 2018 has been a disappointment on many economic and political fronts in France. The President’s approval rating dropped from 42% in the first half of the year to a mere 23% in December (Source: Elabe) on the back of the 'yellow vest' crisis which paralysed the country during major shopping weekends at year end, hurting growth in the worst manner (see below). The crisis interrupted the debates on crucial reforms (institutional, pensions, unemployment rights). Now that the government has put in place some measures to support the still ongoing purchasing power growth and to organise a national debate, the polls seem to be turning. The President’s approval rating slightly rebounded by 2 percentage points in January, to 25%, which is as low as François Hollande’s rating after his first 21 months in office. It is still very fragile though, and very dependent on the success of the national debate the government is currently putting in place.

This national debate could have virtues though. The formula led to success in the past; spending months on the road to listen to the French in 2016 allowed Mr Macron to establish the political programme that brought him to power. The national debate could be a way to validate the main reform needs he identified two years ago, notably for the pension system. We believe that it will be tough and that French institutions, in general, will continue to be under solid pressure but that there is no other way to regain support. Moreover, it will also be a platform for the European Parliament elections at a time when campaigning ‘as usual’ looks difficult for traditional parties given the high level of political defiance among the French. We doubt that it will be enough to avoid another victory by the far-right Rassemblement National in May’s European elections but it could help the President’s party, LREM, to have a presence on the European stage, only two years after its foundation in April 2016.

2018 will end on a humbling note

The window for reforms is closing fast though: the current economic slowdown, exacerbated by the ‘yellow vest’ crisis, will make reforms increasingly difficult in 2019. Indeed, on the economic front, the rebound that was expected in the second half of 2018 never really happened, with the fourth quarter being particularly affected by the ‘yellow vest’ crisis, while the third only showed half of the expected rebound, with GDP growing by 0.3% QoQ. Given that the first half of the year had already been slowed down by weeks of strikes that notably affected the transport sector in April and May, 2018 will end on a humbling note. The potential for a 2.0% GDP growth, which was in place at the beginning of the year, vanished and has turned into 1.5% at best. Given the weaker European economic context that is expected in 2019 and 2020, we believe GDP growth will return to potential, or 1.3% YoY, in both years. If domestic demand should recover slightly, it is indeed likely that external trade will weigh on growth (as it usually does) as the euro catches up some ground against the US dollar over the next two years and less dynamic world trade affects demand for French exports. Note that on this front, all forecasts are made under a ‘no hard Brexit’ assumption.

Italy: Still looking vulnerable

A likely technical recession in 4Q18 will be followed by highly uncertain developments, with the European election campaign possibly impacting the domestic political debate. Over 2H19, handouts foreseen by the budget might help support consumption, but will not prevent a soft annual GDP growth reading

The PM managed to reach a compromise with the EU on the 2019 budget

The budget-challenge-opposing Italian populist government and the EU Commission ended up with a compromise. After defining its 2.4% deficit call as undisputable, the Italian government bowed to Brussels’ requests and reduced the deficit target to 2% of GDP (or, to be precise, to 2.04% to make it sound similar to the original proposal), while trimming the untenable original growth forecast for 2019 to a more reasonable yet extremely optimistic 1%.

In the process, PM Conte, who had started his adventure in government with a notarial role, settled into the driving seat and played a central role in negotiations with the EU Commission. Political leaders Di Maio and Salvini, for their part, tried to ring-fence their respective strongholds, the (temporary) loosening of pension rules and the citizenship income from the tightened constraints of fiscal discipline.

The Netherlands: Not done growing yet

A less rosy global growth picture, fewer housing market transactions and increasing labour market tightness cause Dutch growth to fall to 2.0% in 2019. Domestic momentum remains strong enough to handle a small external shock, but major foreign risks remain. Wage growth finally increased. Inflation rises primarily due to higher VAT and energy taxes

The Netherlands not immune to (global) slowdown; gradual return to potential growth rate

Dutch GDP growth fell from a strong 0.8% QoQ in 2Q18 to a meagre 0.2% QoQ in 3Q18 while a wide range of survey indicators have clearly come off their peak in 2018. Yet, based on our estimate that the output gap is only mildly positive, the Dutch economy is still growing. Domestic demand continues to be self-sustaining, after eighteen quarters of positive growth in a row. We expect growth to have rebounded somewhat in 4Q18 and forecast it to slow from an annual figure of 2.6% in 2018 to 2.0% in 2019. In 2020, we forecast a return to the potential growth rate of around 1.7%.

Greece: Defying external headwinds

Domestic demand is now taking the token of growth as the external background deteriorates. Ongoing employment recovery represents a short-term hedge, helped by the first mildly expansionary budget in a decade. Beware upcoming elections

Growth unsynchronised with the rest of the eurozone, for the time being

The Greek economic recovery continues at a decent pace, irrespective of intensifying signals of a slowdown coming from peer eurozone countries. Apparently, the combined effect of a ‘clean exit’ from the third ESM programme and the positive effect of the recovery on employment have been supporting consumer confidence, which posted a relative high in December. Unsurprisingly, confidence in retail held up decently well as did confidence in service sectors, backed by a strong performance from the tourism sector. Only, confidence in the export-related manufacturing sector has fallen sharply since August, reflecting an ongoing deterioration of the international backdrop.

Spain: Shifting into a lower gear

The economy slowed in 2018 and we think that it is bound to slow further. In part, this is a normal process of the business cycle, but it also has to do with a weaker external environment and political uncertainty 

A slowing economy

Survey data started to show a downward trend in early 2018, but stabilised in the third quarter and even recovered a bit after that. Following a few stable months, survey data reverted to a downward trend in December. The Economic Sentiment Indicator even dropped by three points, the sharpest decline in the Eurozone.

Hard data also disappointed, as industrial production contracted by 2% year on year - the worst growth figure since August 2013.

Belgium: Waiting for elections in May

In 2018, Belgian economic growth remained below the eurozone average, which was partly due to weak household consumption growth. This year the economy is expected to make only modest progress, while the collapse of the government in December and the upcoming elections scheduled for May will limit any new economic policy initiatives

Moderate growth

In 2018 economic growth reached 1.4%, which is well below the euro area as a whole (1.9%). One reason for this poor performance is the sluggish growth in household consumption. In the third quarter, it actually contracted by 0.2% quarter on quarter, probably on the back of higher oil prices sapping purchasing power. Even assuming a rebound in the fourth quarter, household consumption is expected to grow by only 0.8% for 2018 as a whole.

This is all the more surprising as the job market continues to perform well. For the third consecutive year, the Belgian economy has created nearly 60,000 net jobs in 2018. Given the moderate economic growth this is a good performance, and has reduced the unemployment rate to around 6.5%, a level that would normally support household confidence.

We see two explanations for household consumption growth weakness. First, even though in nominal terms household disposable income is progressing well (by around 2.5% YoY, thanks to jobs creation), this increase is almost entirely offset by price increases. In Belgium, inflation reached 2.2% in 2018 (with energy prices one of the culprits). There is therefore little room for a real increase in consumption. Second, households are no longer reducing savings to consume more. Bear in mind that between 2010 and 2017, the savings rate declined from 15% to 11.5% of disposable income. But since then, it has hardly moved.

Austria: Crisis ...what crisis?

While the Eurozone's economic figures continue to disappoint, the Austrian economy should remain a pillar of strength in 2019

Private consumption remains an important growth driver

When looking at fundamentals, we see hardly any reason for concern for the Austrian economy. After two boom years, growth rates will simply return to solid levels in the Alpine republic. Up to now, the macro disappointments of the Eurozone have not affected Austria. Admittedly, risks are skewed to the downside, with ongoing trade tensions, Brexit uncertainty and a volatile geopolitical atmosphere. However, we still see Austrian GDP growth of 2.2% in 2019 and 1.8% 2020.

The labour market remains healthy, resulting in strong job growth and rising wages, which will continue to boost household disposable income. In addition, households with children benefit from the government’s tax deduction programme ‘Family Bonus Plus’ as of January 2019, giving an extra boost to purchasing power. As in the previous two years, private consumption therefore remains an important growth driver for the domestic economy. We expect a real private consumption growth rate of 1.7%.

Ireland: Awaiting the decision on Brexit

The largest threat to the Irish economy remains a cliff-edge Brexit. With just weeks before the British exit is set to happen, there is still no certainty. Whether Ireland will continue its robust growth or perhaps even face a recession hangs on the final outcome of the withdrawal bill deal

Stellar growth for 2018

The Irish economy is likely to have ended 2018 with stronger growth than China. Significantly impacted by factors like multinational profits, we expect Irish GDP growth to come in at 6.8% for the year. Regular economic activity has expanded healthily in 2018, with consumption growth of 2.9% YoY in the third quarter. Also investment in building and construction continues to grow at a very rapid pace with 18.4% growth YoY. This indicates that the domestic economy is performing well at the moment, which can also be seen in the labour market. The Irish unemployment rate fell to 5.3% in November, which is well below the Eurozone average of 7.9%. Wage growth of around 3% in 2018, has helped along the consumption recovery. The strong housing investments are related to continued tightness in the housing market although price growth is dropping off somewhat now that significant investments are starting to have some effect.

Finland: Political changes ahead?

Finland goes to the polls in April after years of strict policies of wage moderation to improve competitiveness. A more left leaning parliament could succeed at a time when Finland has managed to return to sound public finances and a closed output gap. The question is how long modest growth can continue in a weak global economic environment

Growth has peaked as trade outlook clouds economy

The Finnish economy has slowed significantly since the first quarter of 2018. Just like the rest of the Eurozone, Finland has experienced moderation in its growth rate as the output gap has been closed and the global economy sees mounting risks. After the disappointing 0.3% growth in 2Q18, 3Q18 saw just a small recovery to 0.4% GDP growth. Even though this may be somewhat disappointing after an exceptional pace of growth at the beginning of 2018, it does look like Finland is ended 2018 on a better note than some of the larger Eurozone economies. The question is whether Finland can weather a Eurozone storm given the openness of its economy.

The fourth quarter is likely to have remained quite strong, despite faltering production in the larger Eurozone economies. The Finnish trend output index fell slightly in October, but was up by 2.9% on the year. As September had already seen strong growth, the base effect for 4Q18 is quite favourable. This suggests that concerns about declining output in Germany, France and Italy in 4Q18 have not taken effect in Finland as yet.

The question is how long this can last. With foreign trade an important engine for growth in Finland, the weakened outlook for the Eurozone is likely to have an impact on the Finnish economy. We expect growth to be weaker than previously expected for the year at 1.6%, with further downside risk due to Brexit and a possible revival of the trade concerns between the EU and the US.

Portugal: Losing momentum

The economy is slowing down and weaker domestic demand and a more fragile external environment will impact economic activity negatively in 2019, which is why we forecast 1.6% growth this year and 1.4% in 2020

The quarterly growth rate in the first three quarters of 2018 averaged 0.4%, compared to 0.6% in 2017. For 2018, we think the economy has grown by 2.1%, compared to 2.8% in 2017. This is still a decent performance, but we think the slowdown will continue in 2018.

Take the loss of momentum in the labour market. The unemployment rate has stopped its downward trend in recent months, coming in at 6.6% since September 2018, and employment growth is also slowing. It was about 3.6% in January 2018 but has since dropped to about 1.60%. The weak labour market helps explain the drop in consumer confidence, which peaked last May and has since dropped quite sharply. Since August 2018, there are again more pessimistic consumers than optimistic ones.

However, all of this is yet to have a substantial impact on consumption growth as it continued to be as dynamic in the first three quarters of 2018 as it was in 2017. But in our view, this will not last, and so consumption growth is bound to come down too.

Eurozone: House price growth set to weaken in 2019

House price growth is expected to slow in most Eurozone countries. For the Eurozone as a whole, we saw residential real estate prices grow by 3.8% and we think this will slow to about 3.1% in 2019

The real estate sector in Germany continues to boom, and construction activity has been one of the few growth drivers in 2018. Prices for residential properties have increased by around 5% across the country, with still significant differences across urban and rural areas.

Given the cooling of the economy, price dynamics should slow somewhat in 2019 and over the coming years. At the same time, however, low interest rates and the strong labour market, as well as the general trend of urbanisation, should keep any slowdown limited. Despite price acceleration since 2010, loan-to-value ratios have remained relatively stable, keeping the risk of a bursting textbook bubble low.

In France, real estate prices dropped by 5.5% between early 2012 and 2015. Since then, they have caught up by 9% overall, and by 12% in Paris, and have actually grown by 3% in 2017 and 2018. We don't expect the rhythm to slow down as big cities are still supporting the overall trend, and price gains in real terms remained fairly limited over recent years. Low interest rates are supporting the market without driving exceptional numbers of transactions as activity even decreased slightly in 2018. The level of anxiety among buyers following the 'yellow vest' crisis is certainly an explanatory factor of the relatively low level of activity in comparison to the level of interest rates, and this will continue to have an impact throughout 2019.

The slowdown in the pace of economic growth might have some bearing on developments in the Italian residential housing market. After hovering at levels close to historical highs for most of 2018, consumer confidence started falling in November and reached its lowest level in more than a year in December. In 3Q18 house transactions were still expanding at a healthy 6.7% YoY pace (5.6% YoY in 2Q18). The price-to-rent ratio remains close to its lows, and affordability is keeping the purchase option attractive. Purchases continue to be fuelled by loans for house purchases, which were still growing at a 1.3% YoY clip in October 2018. Overall, the mood of real estate agents remains decently upbeat on activity, but times are not yet ripe for a quick turnaround in market valuations. According to the November 2018 BoI/Tecnoborsa/OMI survey, an increasing share of agents expected prices to stabilise over the next 12 months (81.7% in 3Q18 from 76.6% in 2Q18), while the share of those expecting prices to rise edged down (to 2.0% from 3.9%). The loan to value ratio stood at 74.9% and the ratio of house purchases financed via mortgages at 78.9%, confirming the relevance of credit availability for house purchase developments.

On price developments, the recent evidence is mixed. The BoI survey shows that the average final discount practiced by sellers on the original offer price increased again to 10.8% in 3Q18 (from 9.9% in 2Q18); on a similar note, average selling time was also up, to 8.2 months (from 7.5 months in 2Q18). We expect the ongoing moderate recovery of disposable income, in conjunction with still cheap mortgages, to further support house purchases, but at a softer pace than we previously anticipated. Given the remaining slack in the market, we expect average house prices to edge up only marginally in 2019, and to post a modest acceleration in 2020.

House price growth accelerated again in the third quarter of 2018, after a gentle slowdown in the beginning of the year. The year-on-year growth rate in 3Q18 was equal to 7.3%, the highest since the eurozone crisis. The recovery in the labour market supports this development. Admittedly, the economy slowed in 2018, but the unemployment rate continues to decline, and employment growth remains strong. As we think the Spanish economy will continue to slow, this should impact house price. We, therefore, think house price growth will slow to 5.5% in 2019.

In 2018 the average house price increased by 9.0%, surpassing the figure in 2017 of 7.6%. Home sales numbered 218,000, well below the number in 2017 (242,000). Since the trough of 2013, the average house price has increased by 34%. On a national level, the house price has fully recovered from the crisis and is currently 5.0% above the 2008 price peak. For 2019 we expect the price increase to flatten to 5.5% and home sales to further decrease to 200,000. Tightening of the housing market is expected to continue until 2020 so upward price pressure remains. The increased interest of private investors in the Dutch housing market is further pushing prices up. Two factors work to lower upward price pressure. First, a deteriorating affordability of homes (driven by continuing price increases) will reduce housing demand. As mortgage rates have passed their lowest points, this will not compensate for the price increase. Second, the catch-up effect of households that postponed moving plans during the crisis and have pushed up housing prices up since 2013, is now marginal. Note, estimates for 2018 are based on monthly data up to and including 3Q18. The Dutch Land Registry has not published 4Q18 data yet.

The macro economic situation in 2018 continued to support the real estate market. During the first three quarters of 2018, there were more transactions than in the same period in 2017 (from about 30,400 per quarter in 2017 to 31,500 per quarter). There was also an acceleration in price growth, from 2.7% in 2017 to 3.9% (based on the three first quarters of each year). The affordability of residential real estate has remained stable since 2016. We measure the growth potential as low in the years to come, mainly due to a slowdown in the world economy which has a strong impact on a small open economy such as Belgium. Moreover, the National Bank of Belgium estimates that residential real estate prices are about 5.5% overvalued, which also limits upward potential. We continue to forecast 2% growth in nominal prices. In real terms this implies that the price of residential real estate remains constant.

At the start of 2018, house price growth peaked under the impulse of a strong economy and foreign demand. In 1Q18, price growth of existing residential real estate grew by 13.0%. But since then it has declined to 12.6% in 2Q18 and 9.2% in 3Q18. We expect this downward trend to continue, given the signs of lost momentum in the domestic labour market and weaker external demand (see piece on Portugal).

In Austria, gross fixed capital formation is currently one of the growth pillars for the economy with strength coming from construction investment. While the sharp increase in building permits in 2017 (+6.8%) suggests ongoing growth in housing construction for 2019, the decline in building permits in the first half of 2018 points to somewhat weaker construction activity in 2020. Nevertheless, residential property prices remain elevated, growing by 6.1% YoY in the first half of 2018. 78% of Austrians expect property prices in their neighbourhood to increase further within the next year, according to a representative ING survey. Some 84% of Salzburg's citizens and 83% of those living in Vienna believe that housing will be even more expensive, from an already very high base. With growth momentum expected to cool down somewhat, we expect the same for momentum in housing prices. However, for the time being and within the current economic environment, the prospering real estate market continues to be well supported, keeping prices at elevated levels.

The Irish housing market is slowly starting to feel the impact of a prolonged period of investment in supply. Slowly but surely the excess demand in the housing market is starting to come down as the new supply of houses increases. This is also noticeable in price growth, which has come down to below double-digit growth rates. In April 2018, residential property prices rose by 13.3% but had come down to 8.4% growth by October. As supply continues to come through, the Irish housing market is expected to cool further.

The acceleration in economic recovery that accompanied the exit of Greece from its third ESM programme brought about new employment gains. During 3Q18, employment expanded by 1.7% YoY, fuelling consumer confidence further. Certainly, the delicate position of Greek banks on NPLs is still weighing on house-purchase related mortgage lending but accelerated NPL disposal initiatives from the main systemic banks should, in principle, help improve lending conditions.

Lending for house purchases was still contracting in November 2018, at 2.9% YoY. Another potential positive might lie with the reduction in the ANFIA taxation on real estate assets included in the 2019 budget. Taking into account that external factors tilt risks to GDP growth to the downside, we still see the ongoing modest recovery in Greek housing prices to continue in 2019 at a slightly accelerated pace.

Reading time around 22 minutes

ING’s Eurozone Quarterly: Tiptoeing around the ‘r’ word

Trade wars uncertainty, strong euro exchange rate in effective terms, a slowdown in the emerging world, uncertain Brexit outlook, Italy's budget saga and the social unrest in France all contributed to the slowdown in the Eurozone economy in 2018. While Germany seems to have just about avoided a technical recession, things still look pretty grim in Italy

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