The 2017 was characterized by a good surprise of Economic Growth in the Euro Zone, but what will happen for 2018?
I – A good year with good surprises but without inflation
Big economic surprises happened in the Euro Zone. An economic growth stronger than what was forecasted. The interior demand was the major factor for this boom. The shot-term indicators such as the Purchasing Managers Index (PMI) as well as the Economic Sentiment Indicator (ESI) are at a higher level than before 2011. The interior demand is the first economic growth catalyst in 2017. The fall in unemployment has allowed to promote consumption’s level which seemed to be quite confident as the saving’s level settled at 12%, a historically low record.
The unemployment rate gradually reaches its structural level. As for the Euro zone, it is at 8,7% for the month of November, which indicates that it is at its lowest point since November 2008. The growth of employment rate and the participation rate also allow us to say that the recovery is solid.
However, it must be highlighted that it exists some real divergences between countries. Germany, The Netherlands and Austria experience full-employment with an unemployment rate less than 5% while many countries like Italy, Spain and Greece are above the 10%. It can also be noted that more than 21% of the active population of Greece are still without a job.
Economic growth, investment, consumption, fall of unemployment still no inflation. The debate about the Phillips curve has made its comeback among economists. The relation between unemployment and inflation is henceforth debatable. The rise in price of petrol in the end of 2016 has allowed inflation rate to rise between 1.4% - 1.6% in 2017. However, underlying inflation has evolved slowly and stayed at relatively low rates, around 1,1% this year.
II – A looser monetary policy than before
The European Central Bank has announced a fall in the purchase of assets. As from January, the ECB would henceforth buy 60 billion euros monthly but 30 billion euros until September 2018.
If Mario Draghi announced the tapering, it is for several reasons :
The deflation risk has indeed been within control
The economic recovery is solid
In the event of Quantitative Easing and most precisely in the Public Sector Purchase Programme, the ECB is facing the rarefaction of sovereigns German’s, Finland’s and Holland’s securities.
These countries have debt levels relatively low and, as from May 2018, the ECB would be able to buy theoretically only sovereigns’ debts of Italy, France, Belgium and Austria. The challenge to which the ECB is confronted, is a non-conventional monetary policy which is applied to only 4 countries which could be dangerous politically.
We don’t think that the ECB will increase its rates before 2019. Concerning the conventional monetary policy, the European Central Bank practices a negative deposit rate at 0.4%. If the banks want to put their deposits at the Central Bank, they will have to pay for this placement.
The objective of this negative rate is to encourage the banks to lend the real economy. The interest rate of the principal operations is 0.00% and the lending marginal rate is 0.25%. These rates would not rise until 2019 and the ECB needs to go out of the QE before being able to increase its rates. Mario Draghi has also declared during the Press Conference of 26thOctober 2017 that the rates “needs to stay at their actual levels for an extended period, and even beyond the fixed horizon for our net purchase of assets”.
The ECB doesn’t want to restrain the access conditions for credits to the agents and due to the fiscal problem. Does the ECB want to be responsible of this economic slow-down? We don’t think that the monetary policy would be as restrictionary as it was in 2011 but that it would be less and less expansionary, which is a different approach. An interesting question we could ask ourselves is that of the fiscal dominance. Should we consider that the ECB carry its monetary policy in a completely different way and that the budgetary policy will adjust accordingly or is it the contrary? We think that the ECB doesn’t have the will of having the states becoming insolvent with a restrictionary policy. In all cases, the ECB wants the states to have structural reforms which will impact the supply side, will help in decreasing the structural unemployment, increase productivity and boost the potential growth in time.
But where is inflation hiding?
To start with, one of the first invoked reasons is the aging demographical change which is impacting on the behaviour of economic agents who save more and in fine weighs on the demand side.
A second explanation comes from the slow progression of wages. Even if we observe a fall in unemployment within the Euro Zone, there is still many unused resources on the labour market. To be more precise, when we combine the unemployed, those in situation of under-employment, those are available but who are not seeking to work and those who are willing to work but are not available, it seems that this represent 18% of the active population within the Euro zone, which is twice the unemployment rate measured by the BIT. Another factor such as the fall in the trade unions’ rates, adds up to the decrease in dynamic wages due to a fall in the bargaining power of the employed.
Finally, jobs that are created in the Euro Zone are mainly in the primary sector which require low qualifications and thus low wages. In this respective case, the dynamics of wages cannot be engaged. The intensity of the structural reforms on the labour market carried by member countries of the European Union explain also this weakness in the wage growth.
Théophile Legrand et Ryan Ould Hocine