Economics

European forecast update: Upgrades all round

Schroders economics teams revisits its forecasts for growth in Europe and the UK

10/03/2015

Schroders Economics Team

It is a sea of green in Europe as we upgrade our growth forecast across the board. Lower energy prices, a weaker euro, stronger banks and European Central Bank (ECB) quantitative easing (QE) should all help lift European growth in 2015 and 2016. Our UK forecast has also been raised, but the economy is on a slowing trend. Lower energy prices will help provide a soft landing.

 

Recovery resumes as political risk subsides

Eurozone growth accelerated at the end of 2014 as the region appeared to shake off Ukraine/Russia concerns. Another fading source of political risk is the latest Greek crisis. At the time of writing, Greece had just had its current bailout extended for four more months. The crisis will likely return after this deadline but the risk of economic or financial contagion is small, given the relative size of the economy and because the European financial sector has largely either disposed of or written off its exposure to the economy.

 

A sea of green – upgrades all round

For the eurozone in aggregate, we have raised our forecast from 0.9% to 1.3% for 2015 (consensus expects 1.2%). For 2016, we have raised the forecast from 1.4% to 1.6% (against a consensus of 1.7%). Four key tailwinds contribute to a stronger outlook across Europe over the forecast horizon: a lower oil price (benefits households and businesses); ongoing euro weakness (helps the competitiveness of exporters and domestic producers, and boosts earnings for European-listed companies); increased banking activity (following the ECB’s asset quality review) and lower interest rates (as a result of the launch of QE).

Inflation is likely to remain negative for the next few months, but the oil price effect will likely begin to unwind by the end of the year. We have lowered the forecast from 0.8% to 0.1% for this year, versus a consensus of -0.1%, while for 2016, we expect a rise to 1.2% from 1.1% (consensus expects 1.1%). Our forecast for the ECB is largely unchanged: we do not expect any changes to interest rates for the foreseeable future and expect QE to be in place at the stated pace of €60 billion per month until September 2016.

 

UK upgraded, but slowdown still coming

The UK will also benefit from the falls in energy prices and this has led us to raise our forecast for 2015 GDP to 2.6%. However, we expect growth to slow to 2% in 2016 on the back of weaker investment and the fiscal tightening that will result after May’s election. Regarding inflation, we expect headline Consumer Price Index (CPI) inflation (which is a measure of the total amount of inflation in the economy and includes volatile components such food and energy prices) as to be near zero for the coming few months, but to rise from the summer given that our analysis suggests there is a lack a spare capacity in the economy. We therefore continue to expect the Bank of England to start normalising monetary policy at the end of this year. We expect one 25 basis point hike in November, followed by three more such hikes in 2016.

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