Divergent house price trends in the Euro area highlight the issue of economic convergence

The European Central Bank has entered a phase when even the good news presents it with a problem. We have seen two examples of that in the last 24 hours and let me start with this morning’s release.

“Finally some good news again. The service sector in the eurozone is gradually finding its footing, with activity stabilizing in February and showing signs of moderate growth in March. It’s particularly encouraging to note that new business has resumed growth after an eight-month dry spell. This favourable trend is expected to persist, fuelled by wage growth outpacing inflation, thus bolstering the purchasing power of households. ” ( HCOB PMI)

So the moderate growth in Services has offset the continued decline in manufacturing.

HCOB Eurozone Composite PMI Output Index at 50.3 (Feb: 49.2). 10-month high.

So not only a 10-month high but if you take the numbers literally some 0.3 of growth. More realistically the Euro area economy has stopped contracting according to these numbers.

But it comes with a problem for those who recall that one interest and exchange-rate was supposed to provide economic convergence.

Of note was the variation in performance by euro area constituents during March.

What has been described in the past as the “Sun Med” sector is leading the way.

While the single currency union achieved growth as a whole, this was driven by the smaller of the five nations covered by both manufacturing and services data. Spain
and Italy provided the greatest boosts, with their growth rates accelerating to the strongest for nearly a year. Combined with a solid expansion in the Irish economy, these upturns more than offset sustained (but weaker) contractions in output across the two largest economies of the eurozone, Germany and France.

Here is Spain.

This was highlighted by the HCOB Spain Composite PMI® Output Index, which improved to 55.3, from
53.9 in the previous month.

Here is Germany and France.

HCOB Germany Composite PMI Output Index at 47.7 (Feb: 46.3). 4-month high……..”The French economy’s recovery is delayed until at least Q2.

Back in January the Financial Times found it possible to skip this whole issue in its review.

Greetings. This month, it is 25 years since 12 EU countries merged their currencies and the euro was born.

Although no doubt readers were wondering how some countries could be poorer after 25 years of convergence?

Or, take the case for transfers between richer and poorer states — that, too, may be necessary to equalise the gains of economic integration and to maintain public support for it, even between countries that do not join a common currency.

But the fundamental issue here for the ECB is one interest-rate “to rule them all” when you have Spain growing pretty quickly for these times, and Germany and France still weakening? If we stay with Spain it is apparently improving on this.

In terms of volume, the GDP registered a variation of 0.6% in the fourth quarter compared with the previous quarter. This rate is two tenths higher than that of the third quarter…..Year-on-year GDP variation was 2.0%, compared to 1.9% in the previous quarter. Domestic demand contributed by 2.1 points and external demand by -0.1 points. ( INE)

Anyway it is a case of what a difference a few months make as even the FT is now on the case.

The four biggest southern European economies have outgrown Germany by about 5 per cent since 2017, underlining the region’s two-speed recovery from recent shocks. Italy, Spain, Portugal and Greece have collectively added more than €200bn of gross domestic product — more than the entire Portuguese economy — in price-adjusted terms over the past six years, while Germany’s GDP has expanded by only €85bn, according to an analysis conducted by the Capital Economics consultancy for the Financial Times.

Inflation

We have the same general theme as better news came with a chaser.

Euro area annual inflation is expected to be 2.4% in March 2024, down from 2.6% in February according to a flash estimate from Eurostat, the statistical office of the European Union.

So we start with an improving inflation picture and as it is now nearing the 2% annual target there is a general issue around a 4% interest-rate. But let me move onto the chaser.

The national breakdown list starts with Belgium where inflation has rallied to 3.8% in 2024. A little awkward for what is considered a core nation but let us put that down to the way energy subsidies were applied. One can argue that Croatia at 4.9% is new to the Euro area. But if we note the economic growth figures above Spain presents a problem as not only is annual inflation at 3.2% it is picking up.

For its part, the estimated monthly variation of the HCPI is 1.3%. ( INE)

So you could argue that an interest-rate rise is appropriate here. But then if we switch to Germany and France where the annual inflation rates are not only 2.3% and 2.4% but falling you get a different answer. Especially when you note that their economies are still contracting according to the PMI survey.

Indeed we can go further and look at Italy where according to the PMI the economy is growing but inflation has fallen to 1.3%. So something of a sweet spot for what we have long regarded as a “Girlfriend in a Coma”.

House Prices

This morning Eurostat has kindly updated some house price information. Whilst Hungary is not yet in the Euro we see quite extraordinary divergences from those that are.

House prices more than doubled in Estonia (+217%), Hungary (+185%), Lithuania (+162%), Latvia (+135%), Czechia (+123%), Austria (+111%), and Luxembourg (+102%). Decreases were observed in Italy (-8%) and Cyprus (-3%)

So good news for house owners in Estonia and good news for first-time buyers in Italy.

 

But the one interest-rate “to rile them all” has had very different impacts on house prices. This brings me back to a question I was asked in the comments section yesterday about the impact of interest-rate rises? As you can see by the variations between countries the situation is much more complex than some would have you believe.

Comment

The basic situation looks simple on the surface.

Inflation is falling faster than forecast in Europe while exceeding expectations in the US, prompting investors to predict the European Central Bank could cut interest rates earlier than the Federal Reserve. ( Financial Times)

If we switch to economic growth the position is reinforced and the FT sort of gets there.

There’s now ample evidence over the first three months of the year that the disinflation momentum remains stronger in Europe than in the US,” said Frederik Ducrozet, head of macroeconomic research at Pictet Wealth Management.

Such thoughts are reinforced by the money supply data which has worked well in predicting this.But there remains quite considerable economic divergence. You could argue that Spain may need an interest-rate rise and Germany and France needed cuts round about the time of the last couple of increases. But in another form how does it work that you have doubled your money by house ownership in Estomia but lost money in Italy since 2010?

The ECB has created an interest-rate dilemma for itself

The members of the ECB Governing Council will be meeting up today as they prepare for tomorrow’s interest-rate announcement. They have a problem in the sense that they are too early. I do not mean in the year but in this cycle and let me highlight that from this morning’s HCOB PMI business survey.

Business activity in the euro area fell at the slowest rate for six months in January, according to provisional PMI® survey data, albeit with downturns persisting in both manufacturing and service sectors amid further falls in new business. The overall contraction of new orders was nevertheless the smallest recorded since last June, helping stabilise employment levels and lift business optimism about the year ahead to an eight-month high.

It is not exactly auspicious to open with “fell at the slowest rate for six months” is it? If we look at the improvement in the numbers it is marginal and well within the error range.

HCOB Flash Eurozone Composite PMI Output Index
(1) at 47.9 (December: 47.6). 6-month high.

This leaves the Euro area as having experienced a recession at the end of 2023 and continuing to contract at the opening of 2024. At least according to the PMI survey and whilst I have doubts about the PMIs the ECB is much keener. I can recall both President Lagarde and Isabel Schabel referring to it in recent times.

The reading nevertheless suggests that the eurozone’s deepest contraction since 2013 (if early pandemic months are excluded) has persisted into the
new year.

Also we have a nuance in that the services sector might be weakening now.

Although services activity fell for a sixth straight month, the pace of decline gathering momentum slightly to register the steepest fall since last October, new business placed at service providers fell at the slowest rate since last July, providing a further hint of a cooling in the demand downturn.

The initial fall was via manufacturing and its fall has slowed but more services weakness would be a concern.

Adding to all of this was the consumer confidence figures released yesterday.

In January 2024, DG ECFIN’s flash estimate of the consumer confidence indicator remained broadly stable in the EU (0.2 percentage points (pps.) down compared to
December 2023), while it dropped by 1.0 pp. in the euro area . At -16.2 (EU) and -16.1 (euro area) points, consumer confidence is scoring well below long-term average.

-16.1 is not as bad as it looks at the average is around -11 but we see that any revival is not about to come from the consumer sector. At this point the Governing Council might be thinking who put interest-rates at 4%? Or to be more specific how did they get their timing so wrong as the main interest-rate effect is coming well after the inflation surge.

Leadership Problems

Politico saw a survey of ECB staff which did not make good reading for President Lagarde.

FRANKFURT — On the global stage, European Central Bank President Christine Lagarde still exudes the air of an international rockstar of finance, but back home her records just won’t sell.

Most participants in a trade union survey of ECB staff, seen by POLITICO, said they don’t think she’s the right person to head the ECB now, with 50.6 percent of respondents ranking her overall performance in the first half of her eight-year term as “very poor” or “poor.”

What was it about inflation soaring to double-digits whilst she made videos calling it a transitory hump that might have done that? There was further detail as to the state of play here.

Comments in the survey, which included responses from 1,159 of the ECB’s roughly 4,500 staff, point to widespread unhappiness about her wading too deeply into politics and using the ECB to boost her personal agenda, which hasn’t helped the central bank’s reputation.

Some of you may recall that President Lagarde claimed that she would lead a new collabarative policy at the ECB when she began her role. The media welcome extended to the Financial Times representative at the press conference praising her own brooch allowing her to describe herself as a wise owl. However the ECB staff have an alternative view.

“Christine Lagarde is generally reported as being an autocratic leader who does not necessarily act according to the values she proclaims,” IPSO said in its summary of the comments compiled in a report. It highlighted unhappiness at perceived double standards, for example in claims that staff are encouraged to speak up but are then rebuked if they openly share concerns.

Form this below we can see that the attempt at rebuking has begun.

An anecdote about executive board member Frank Elderson included in the report hints at why: After the launch of the survey, Elderson called the IPSO board to his office. “He challenged our legitimacy to ask questions regarding the personal performance of the President, as well as the asking of an assessment of the monetary policy side,” the report said.

Fiscal Policy

This is not formally part of the ECB mandate although this does not stop it giving advice to Euro area governments. Plus there was the famous letter from Governor Trichet to the Irish government back in the day which was of the “or else…..” variety. But all the QE bond buying made the ECB part of fiscal policy by subsidising borrowing costs.

These days it has moved onto bond spreads, but that too has fiscal consequences.

As long as the Euro zone doesn’t allow markets to set yields, high debt countries like Spain (ES), France (FR) and Italy (IT) will run big deficits, because – basically – they’re getting a subsidy to do so. The way to stop this is to get ECB out of the spread management business. ( Robin Brooks )

It is accompanied by a chart showing that in the year to the third quarter of 2023 Italy borrowed around 7% of GDP via its fiscal deficit. As I type this the UK ten-year yield is nearly 0.2% above the Italian one which makes me wonder about the implicit yield subsidy. However, there is a catch to this because with the level of the Italian national debt how does the ECB get out of this game? Should Italian yields rise then questions about its solvency would return.

Comment

The situation here is ordinarily one that would lead to the ECB cutting interest-rates tomorrow.If we switch to the money supply where broad money has been falling at an annual rate of  around 1% that is actually below the levels that accompanied the ECB moving to negative interest-rates.

But this raises a timing issue on two counts. The first is that this group of people raised interest-rates as recently as September. I pointed out it was a mistake at the time.

Although there was a curiosity because really they should be looking at 2025 now and they did this with that.

a downward revision for 2025.

On which basis they did not need to raise interest-rates. But I seemed alone in making that point. (15th September)

They cannot now cut interest-rates without making that increase look rather foolish. So they will choose their own reputation over reality.

Next up on the timing issue comes the value of the Euro. Whilst we have mostly moved out of the “King Dollar” phase it might undermine the Euro and thereby raise inflation to move before it does. So as Colonel Abrams put it.

I’m trapped
Like a fool I’m in a cage.
I can’t get out
You see I’m trapped

The weak economic outlook for Italy suggests a year focusing on debt costs and fiscal policy

As 2024 has opened quite a few of the economic themes in play point at it. We can start with this morning’s speech by ECB Vice-President de Guindos.

By contrast, growth developments are more disappointing. Economic activity in the euro area slowed slightly in the third quarter of 2023. Soft indicators point to an economic contraction in December too, confirming the possibility of a technical recession in the second half of 2023 and weak prospects for the near term.

As you can see the economic outlook for the Euro area overall is poor. Also you may like to note how central bankers deal with it as many ECB speakers have previously informed us there will not be a recession and that things were expected to pick up in 2024. It is a form of public relations or PR rather than an actual forecast as they only admit reality when there is no other alternative. In fact Vice-President de Guindos has become rather downbeat.

The slowdown in activity appears to be broad-based, with construction and manufacturing being particularly affected. Services are also set to soften in the coming months as a result of weaker activity in the rest of the economy.

Indeed it seems that the ECB is for the first time willing to admit that trouble looks to be on the way for the labour market.

However, we are seeing the first signs of a correction taking place in the labour market. The latest data on total hours worked show a slight decline in the third quarter, the first since the end of 2020.

For our purposes today this provides a poor backdrop for the Italian economy.

National Debt

This again is an issue in the financial news as whilst the Financial Times tried to concentrate on the UK and US it is hard not to think of Italy when you read this.

In Europe, ten of the eurozone’s largest countries will issue around €1.2tn of debt this year, around the same level as last year, according to estimates from NatWest. But the bank expects net issuance — which includes the impact of quantitative tightening and excludes refinancing existing bonds — to rise by around 18 per cent this year to €640bn.

According to Eurostat the national debt to GDP ratio was 142.4% at the end of the second quarter of last year. That has its flaws as a measure as you are comparing a stock with a flow but it provides a signal. For Italy it has told us two main things over time of which the first is that we keep being told it will fall whereas it has risen. Secondly the Euro area must regret using 120% as a level in the Greece crisis because whilst Portugal improved we see that Italy went above it and kept rising. In terms of absolute debt level that is now 2.85 trillion Euros.

Fiscal Policy

Mostly this is not a cause of Italy’s debt problem but as I pointed out on the 28th of September last year this time looks different.

ROME, Sept 25 (Reuters) – Italy’s government plans to raise its 2024 budget deficit target to between 4.1% and 4.3% of gross domestic product (GDP), up from the 3.7% goal set in April, sources familiar with the matter told Reuters on Monday.

The numbers were slipping away and a weaker economic outlook will put them under more pressure. Also as Fitch pointed out on the 11th of October 2023 was slipping away in fiscal terms as well.

The government’s wider 2023 deficit target of 5.3% of GDP (from 4.5% in April’s Stability Programme) is driven by the cost of “Superbonus” tax breaks on residential investment exceeding expectations by 1.1% of GDP (taking the overall cost of the scheme since 2020 above 6% of GDP).

The “Superbonus” scheme was just so Italian as were to efforts to keep it out of the fiscal numbers.

Bond Market

This is an area which on the surface has got better since the autumn as we have seen bond yields decline across much of the world. The benchmark ten-year which briefly went above 5% is now 3.8%. Whilst the decline is welcome when you have a much debt as Italy the issue keeps chipping away at you even at lower yield levels. From the 28th of September last year.

italy has to refinance 400 billion of public debt in the next 12 months, ( @spaghettilisbon )

Last week Bloomberg estimated that Italy would pay 3.8% of its GDP in debt costs in 2023 meaning it was paying more than Greece.

If we look ahead we see that there is a potential issue on the horizon. Looking back we see that the ECB offered enormous support to the Italian bond market via its QE bond purchases. Then as they ended it offered a more technical support by being willing to adjust its portfolio in favour of Italian bonds as opposed to German or Dutch ones. Whereas if we return to the speech by Vice-President de Guindos we see sales ahead rather than purchases.

Over the second half of 2024, the PEPP portfolio will decline by €7.5 billion per month on average. We discontinued asset purchase programme reinvestment of redemptions in July 2023 and we expect to discontinue the reinvestments under the PEPP from 2025.

The Italian Economy

This morning has seen the release of the retail sales figures which were mixed. There was some monthly growth.

In November 2023, an economic growth of 0.4% in value and 0.2% in volume is estimated for retail sales.

But the rolling three monthly figures were weaker and there was a fall compared to 2022.

n the September-November quarter of 2023, in economic terms, retail sales fell both in value (-0.1%) and in volume (-0.8%)………On a year-on-year basis, in November 2023, retail sales increased by 1.5% in value and recorded a decline in volume of 2.2%.

Yesterday brought some good news on the employment front because as well as a small monthly rise there was this.

The number of employed people in November 2023 exceeds that of November 2022 by 2.2% (+520 thousand units).

Although measuring what they actually did is apparently not much.

In the third quarter of 2023, the gross domestic product (GDP), expressed in chained values ​​with the reference year 2015, corrected for calendar effects and seasonally adjusted, grew by 0.1% both compared to the previous quarter and compared to the third quarter of 2022.

Comment

For newer readers the “Girlfriend in a Coma” theme is that whilst the economy of Italy takes part in downturns it very rarely grows at an annual rate of above 1%. That means that the promised convergence with Euro area performance has not only not happened but things have got worse.

If we look at recent times there were promises that the EU Next Generation funds would improve matters and they did help create some growth, But now they have reduced the economic growth has not lasted. In essence a lack of growth is the Italian problem but this time around fiscal policy is looser and we are seeing for the first time for around a decade more substantial bond yields.

Another topic for Italy is its banks with Monte Paschi being the wrong sort of standard bearer. This phase is not helping their domestic bond holdings so any real recovery for them looks to remain in the distance.

 

 

 

 

Budget day in Italy reignites thoughts of its economy being a Girlfriend in a Coma

Today is Budget Day in Italy with the Meloni government facing the issues we looked at on the 28th of September. The issue came up at the IMF conference on Friday in an interview given by the Governor of the Bank of Italy.

Italy’s widening bond spread levels aren’t worrying and won’t require intervention from the European Central Bank, Governing Council member Ignazio Visco said.“There are no signs really that it should rise in a territory that will require us to intervene,” the Italian central bank chief told Bloomberg TV. If central bank intervention were needed, “I think we can” do so, he said Friday in Marrakech.

It must have been a rather rough conference for Governor Visco and may even have been enough to spoil his enjoyment of the hospitality on offer. The problems started with this from the IMF.

QUESTION: Hi. Good morning, everyone. Silvia Berzoni, Class NBC.

In July, you revised upwards Italian GDP estimates, which are now cut to 0.7 percent both for 2023 and 2024. I wanted to ask, what has changed? And what is weighing on growth?

As you can see we have my Girlfriend in a Coma theme in play ( for newer readers GDP growth per annum rarely exceeds 1%). Also we have the IMF doing the hokey-cokey with its forecasts. But in the replies the IMF spokespeople implied an even worse outlook than in the numbers.

We see that construction has become weak and manufacturing also. And this is in a context that I have already mentioned, where the services sector is also weakening. And we’re seeing that in Italy as well.

Then more detail including the word collapse.

And what was behind this was a relatively weak domestic demand, as some of the incentives on home renovations had expired; and we also observed a collapse in investment, in construction investment. At the same time, we also saw a weaker trade environment, which contributed to this downgrade.

As you can see the position looks worse than the numbers the IMF produced confirming my view about such forecasts. Also we can bring in today’s theme about fiscal boosts because the IMF confesses that the growth we did see was because of this.

there has been some positive impulse that is coming from the National Resilience and Recovery Plan. For instance, the EU funds……….as some of the incentives on home renovations had expired;

Returning to the Governor Visco interview he found himself forced to issue a version of my theme.

we can grow more, and that is the main reason why I think markets are worried, the ability of the Italian economy to grow,” he said.

There is an additional  issue this time around as in general the Italian debt problems have not been due to overspending rather low growth. But he implies spending is a problem this time around.

“My impression is that while fiscal prudence is necessary — for the next years, there is nothing we can do really to increase our fiscal space except in better composition of expenditures”

This is an issue as it is heading in the opposite direction from ECB policy which is for fiscal restraint or austerity.

Fiscal Issues

These also came up at the IMF conference.

 I am Gianluca Di Donfrancesco from Italy’s Il Sole 24 Ore……What’s your assessment on Italian public debt? It is very high. Thank you.

As you can see he has given his own assessment in the framing of the question. The response is below.

When it comes to debt in Italy, in the projections that we have just put out, we have a profile where the public debt‑to‑GDP ratio does decline; but it declines very slowly; and it stays well above the pre-pandemic level of debt.

I think we can see now why the IMF is still relatively optimistic about Italian growth as otherwise it has to forecast an increasing debt burden. With the ten-year yield at 4.8% as I type this and the spread to  Germany above 2% that all looks rather expensive. Also the “bond spread” is a powerful antidote to all the claims of Euro area convergence as we have had more than 20 years now.

We can stay with the lack of convergence issue.

We are of the view that in order to bring the public debt‑to‑GDP ratio down in Italy, there are two elements that are crucial. One, structural reforms that will increase potential growth in Italy. That’s extremely important to dilute public debt gradually over time; but also additional ambition in terms of a fiscal adjustment

I have highlighted that bit because those who have followed this saga will know that in his time as ECB President Mario Draghi had words to that effect in pretty much every policy press conference. In the meantime he has been Prime Minister and yet nothing has really changed. It is always just around the corner on a Roman road.

The economy may have struggled but the debt is a leader in Europe.

Italy’s 2.4 trillion-euro debt pile is the focus in Europe, where the IMF has said high debt leaves governments vulnerable to crisis. ( Reuters)

That has led to speculation like this.

Scope Ratings warned Italy could be ineligible for a crucial ECB bond-buying scheme.

A tipping point is Italy’s potential to lose investment-grade ratings. Moody’s rates it one notch above junk with a negative outlook. ( Reuters)

However I am more sanguine about this as in my opinion the ECB will always look to find a way to bailout Italy, due to its structural significance.

The Budget

Today we arrive at headlines like this.

ITALY’S 2024 BUDGET CONTAINS MEASURES WORTH AROUND €24 BLN IN TAX CUTS AND INCREASED SPENDING – MELONI. ( @FinancialJuice)

If we switch to the other side of the coin which is the attempt to finance this we come across something of an old friend.

Shrinking stakes in companies ranging from lender Monte dei Paschi di Siena SpA to railway Ferrovie dello Stato SpA may feature in those proposals after the government earmarked €20 billion euros ($21 billion) to come from privatizations over the next three years. ( Bloomberg)

Monte Paschi poses all sorts of problems. The 64% stake is worth around 2 billion Euros which is awkward in relation to the 5.4 billion bailout in 2017. That is not counting all the previous bailouts and the Atlas private-sector effort. The trouble  is that after all the past problems no-one seems to want it.

Comment

The risk factors here are famillar with a more unusual one which is that Italy is running a looser fiscal policy. So the starting point is the decline in economic growth putting us back in Girlfriend in a Coma territory. But we have an additional factor in that the looser fiscal policy which included the EU Next Generation funds boosted growth only for a short time. So Italy seems to be on a treadmill it cannot escape.

Let me end with something more positive which is a topic we have looked at before and now we have a new official analysis of the grey economy.

In 2021 the value of the unobserved economy reaches 192 billion euros.

The underground economy stands at just under 174 billion euros, while illegal activities exceed 18 billion. Compared to 2020, the value of the unobserved economy grows by 17.4 billion, but its impact on GDP remains unchanged (10.5%).

Irregular work units are 2 million 990 thousand, with an increase of approximately 73 thousand units compared to 2020. ( Istat)

The idea that illegal activities are only 18 billion Euros leaves plenty of scope for growth. But one way forwards would be for Italy to mobilise more of the grey economy and I assume this is still an understatement of it

Podcast

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France and Portugal are adding to the German decline in the Euro area economy

This morning has brought more warning signs for the Euro area economy. This adds to the backdrop where the PMI business surveys have been suggesting a decline of 0.4% for GDP in the quarter just ended. This has been added to today.

The HCOB Eurozone Construction PMI® Total Activity Index — a seasonally adjusted index tracking monthly changes in total industry activity — rose slightly from 43.4 in August to 43.6 at the end of the third quarter. The index therefore remained well below the neutral 50.0 threshold to signal a further steep decline in overall activity. This also extended the current sequence of reduction to 17 months.

So the construction sector looks to be in a bad way and there is an initial irony here. As it is the sector most likely to respond promptly to interest-rates the mention of “17 months” will raise a cheer at the ECB along the lines of “if it aint hurting it isn’t working”. Of course that is also the problem that we have according to the PMI surveys more and more of the Euro area not working.

Now let me split away from the central bankers on the subject of PMIs as they take them literally whereas I take them as a general indicator. We can go to the house journal of the Bank of England which seems after some years to maybe have figured this out.

UK services activity contracted by less than first estimated in September, according to a closely watched survey published on Wednesday.The final S&P Global/Cips UK services PMI business activity index, a measure of the health of the sector, was 49.3 last month — down slightly from 49.5 in August, but well above the flash estimate of 47.2. ( Financial Times)

As you can see the PMI series really rather misfired there as it probably got the direction of travel right but the scale was completely wrong. In terms of more recent changes an additional issue may be seasonality with so much changing post pandemic. In addition problems for the series did happen post Brexit although the FT at the time under Lionel Barber was more than happy to surf that wave with the cake trolley instructed to arrive at the desk of any reporter writing about doom and gloom.

So returning to the Euro area we have a sequence of declining PMIs so there is economic weakness but the series accuracy is open to question. What about the official data then?

Retail Sales

There was not much solace to be found here.

In August 2023, the seasonally adjusted volume of retail trade decreased by 1.2% in the euro area and by 0.9% in
the EU, compared with July 2023, according to estimates from Eurostat, the statistical office of the European
Union. In July 2023, the retail trade volume decreased by 0.1% both in the euro area and in the EU.
In August 2023 compared with August 2022, the calendar adjusted retail sales index decreased by 2.1% in
the euro area and by 2.0% in the EU.

So a decline in retail sales making the annual number more negative. Again at first the ECB will be thinking that its interest-rate rises are working. Then the more thoughtful might mull the decline at peak tourism season as that is an economic strength for much of the Euro area.

Also as we look further into the detail we see that since 2015 the Euro area at 111 has under performed the European Union at 114.2 when it was supposed to be the other way around. Remember the numbers include the time called the “Euro area boom”. Also I note that France saw quite a drop in August ( 2.8%) which may provide backing for the PMI series which suggested a sharp decline there. Retail Sales can be erratic but the French one had been quite consistent until then.

Plus there was a 3% monthly fall in Portugal which no doubt added to the enthusiasm for the new mortgage subsidy that is now in play.

For two years, families will be able to ask the bank to make a proposal for a constant instalment that is lower than what they currently pay. This reduction is achieved by ensuring that during that period the interest rate does not exceed 70% of the six-month Euribor. ( The Portygal News)

There is an existing scheme so the total is now this.

Together, the two measures could mean savings of more than 150 euros per month, depending on the family loan. ( The Portugal News)

The issue here is something that was previously announced as a triumph which is the rising cost of property over there. Remember the excitement over Madonna buying a place in Lisbon as the Bank of Portugal smiled benovolently at the wealth effects. Well now it has morphed into this according to Euronews.

Many Portuguese, including the middle class, are being priced out of Portugal’s property market by rising rents, surging home prices and climbing mortgage rates, fuelled by factors including the growing influx of foreign investors and tourists seeking short-term rentals driving up prices that force local people out of their neighbourhoods.

If we step back it looks like an economy which via the proliferation of variable-rate mortgages is seeing quite a squeeze such that the government has felt the need to intervene. So we can see what it thinks the economic impact is.

This does have consequences as the ECB is supposed to set the ONE interest-rate for the Euro area and yet Portugal is going to have its mortgagees use a different one for a while. This creates quite a liability for 4 years time when this in theory ends and we may find Eurostat adding it to the national debt. That is before we get to the risk of interest-rates being at this sort of level in 4 years. Another Euro SPV in the offing? How many can you have?

Also I would point out that this is another feather in the cap for my campaign that you need to measure inflation properly. As housing has become unaffordable whilst the official inflation measure has been asleep at the wheel and recorded nothing.

So we can move on noting potential economic weakness particularly in France and Portugal.

Germany

You will not be too surprised to learn it was one of the weaker retail sales numbers and this morning has added this.

BERLIN (Reuters via PiQSuite.com) – Sentiment among small and mid-sized businesses in Germany, hard-hit by massive cost increases, weak demand and high interest rates, is back near pandemic lows, a survey showed on Thursday.

A study by credit agency Creditreform showed morale among the “Mittelstand” companies that form the backbone of the German economy has slipped back into negative territory for the first time since 2020, signalling a contraction in economic output.

Also there were the trade figures with exports lower.

August 2023
127.9 billion euros
-1.2% on the previous month
-5.8% on the same month of the previous year

The surplus was up but in a quirk of the GDP calculations because of this from imports.

August 2023
111.4 billion euros
-0.4% on the previous month
-16.8% on the same month of the previous year

Whilst some of the decline will be lower energy imports it is also true that the oil price was rising and offsetting some of this.

Comment

We remain in a situation where things are under pressure. Earlier this week the benchmark ten-year yield for Germany reached 3% and the Italian one reached 5%. The Euro has at times dipped below 1.05 versus the US Dollar adding to the inflation pressure. Whilst things are calmer this morning we can look wider an note one or two signals of a potential slowing in the US economy so of which are no doubt related to what we looked at yesterday. Also I note the “demand reduction” part below.

• Oil prices dropped by $5 on Wednesday in what appeared to be a significant shift in sentiment following a three-month rally.
• The EIA’s latest inventory report was the spark that ignited the crash, with gasoline inventories climbing by 6.5 million barrels and demand falling dramatically. ( oilprice.com)

As to the ECB it seems to have switched priorities these days if this from last week is any guide.

Tune in at 9:40 CET: President Christine @Lagarde

opens the Conference on Ensuring an Orderly Energy Transition, organised together with the @IEA

and the @EIB

.

 

 

Italy is facing a public finance and bond market crisis

As I noted earlier this week there is a rise in bond yields happening and at this moment the heat is being felt in Italy as its ten-year yield has reached 4.8% this morning. This raises particular concerns in a country with so much public debt. In fact it has the largest national debt in the Euro area in spite of being only the third largest economy. According to the Bank of Italy it rose above 2.85 trillion Euros in July and they own some 721 billion of it. The debt to GDP ratio was 144.7% in 2020. So as you can see higher bond yields are an issue and the longer they last the higher the future bill will be.

italy has to refinance 400 billion of public debt in the next 12 months, ( @spaghettilisbon )

So it is like a ticking clock because whilst the bill may be very minor this week it is like a snowball rolling down a hill. Also a factor here is that Italy is having much less support from the Bank of Italy and ECB ( the split in QE purchases is usually 82%/18%) because as you can see from the 721 billion the Bank of Italy has selling debt was oiled by its purchases.

Budget Problems

The Meloni government has added to the general pressure on bond yields with this.

ROME, Sept 25 (Reuters) – Italy’s government plans to raise its 2024 budget deficit target to between 4.1% and 4.3% of gross domestic product (GDP), up from the 3.7% goal set in April, sources familiar with the matter told Reuters on Monday.

As Paul Simon would say the deficit targets are slip-sliding away. This puts the Italian government on a bit of a collision course with this.

As the energy crisis fades, governments should continue to roll back the related support measures to avoid driving up medium-term inflationary pressures. At the same time, fiscal policies should be designed to make the euro area economy more productive and to gradually bring down high public debt.

That was from ECB President Lagarde at the European Parliament on Monday and rather feels targeted at Italy, which I have noted is heading in the opposite direction.

Returning to the Reuters report we can see that clearly.

Among her top priorities, Meloni intends to earmark more than 9 billion euros ($9.5 billion) to extend to 2024 the tax cuts that have helped middle and low-income workers cope with high consumer prices this year.

Also it is not only next year where there is trouble on the borrowing front.

Italy is also preparing to raise this year’s budget deficit above the current target of 4.5% of GDP due to the growing impact of costly fiscal incentives for home improvements.Separate sources last week said the updated 2023 goal would be in the region of 5.5%

Those with experience of Italy may already be fearing what “in the region of 5.5%” means in practice although hopefully Eurostat is providing a little more discipline.For those wondering what happened? I have looked at the Superbonus scheme before but below is a basic guide.

Under the flagship Superbonus scheme launched in 2020, Italians could claim tax credits worth 110 per cent of any energy-efficiency work. ( Financial Times)

As it was tax credits Italy argued that it was not really spending and that is before where we get to where the money actually went.

Next Generation Fiscal Boost

There was also this juicing the Italian economy.

The Italian recovery and resilience plan includes a wide range of investment and reform measures in six thematic areas (the so-called “Missions”). The plan will be supported by €191.6 billion, €69 billion in grants and €122.6 billion in loans, 13% of which (€9 billion in grants and €15.9 billion in loans) was disbursed to Italy in pre-financing on 13 August 2021. Moreover, a first payment worth €21 billion was disbursed to Italy on 13 April 2022. ( European Commission)

That continues but the picture is changing with even the economics editor of The Economist tweeting this.

After receiving an eye-watering amount of money from Northern European taxpayers and blowing it (and more) on an insane green renovation scheme, austerity is coming back to #Italy. ( @COdendahl )

I think that the relevant point here is that even The Economist can find nothing to praise in a project by its prized European project.

The Economy

Let us start with the European version of Fantasy Island.

The fiscal gap next year is, however, seen below 4% of GDP under current trends. ( Reuters)

Here in a way the Italian government is agreeing with ECB President Lagarde who also said this on Monday.

Looking further ahead, economic momentum is expected to pick up as consumer spending and real incomes rise, supported by falling inflation, rising wages and a strong labour market.

I wonder if anyone laughed?

If we now return to reality we know that in the second quarter the GDP of Italy fell by 0.4% and this morning we were told this.

In September 2023, the consumer confidence index declined from 106.5 to 105.4……..With reference to the business confidence climate, the index (IESI, Istat Economic Sentiment Indicator) confirmed its decrease, moving down from 106.7 to 104.9. ( ISTAT)

Looking back the consumer confidence number has merely lost its apparent summer bounce it is the business numbers which have been trending lower.If we look at the August monthly bulletin this is another decline and it already thought this.

On the supply side, negative signals are coming from the manufacturing sector. In July, the industrial
production index, decreased by 0.7% with respect to June, after two months of increases in a row.

Also it had already picked up a turn for the worse in the labour market.

For the first time in 2023, labour market conditions worsened. In July the number of employed people fell, remaining
higher than July 2022 levels, while unemployed and inactive persons increased. In the same month, the
unemployment rate increased to 7.6%. and estimates for seasonally adjusted index of value sales grew by 0.4% in
the month on month series and volume dropped by 0.2%

The S&P Global PMI business survey suggests a 0.4% decline for Euro area GDP this quarter although it did hint that things were better outside of France and Germany.

The rest of the eurozone saw business activity remain broadly stable in September. Although manufacturing output decreased for the sixth month running, the fall was the softest since April. Meanwhile, services activity increased slightly, and to a greater extent than in August.

It goes without saying that this is also a risk for this winter.

European natural gas prices advanced as outages continued to weigh on fuel flows while the region’s heating season approaches.The benchmark contract for October delivery added as much as 4.2% on its last trading day before expiry, after gaining about 15% this month.  ( Bloomberg)

Comment

As you can see Italy is being squeezed from several directions at once and that is why its bond yields have come under pressure. An additional factor is the lack of support from the ECB and Bank of Italy who were previously hoovering up the supply. Now they only have some rebalancing within the PEPP portfolio to deploy. Also they have the issue that on a marked to market basis the 721 billion Euro holdings of the Bank of Italy must look absolutely awful. As a rough guide all the buying pushed the BTP future above 155 as opposed to the 109 this morning. Plus there is the issue of paying 4% ( the ECB Deposit Rate) on bonds you bought with a negative yield.

So at times like this you get a type of contagion which is why the ten-year yield which I noted was 4.8% as I started this piece has touched 4.9% in the meantime. As Hard-Fi put it.

Pressure, pressure, pressure pressure pressure
Feel the pressure
Pressure, pressure, pressure pressure pressure

If this was the UK then the IMF would have waded in as we see its biases in plain light.

Italy is a lovely country so let me end with some news which will help the debt to GDP ratio if not the present outlook.

As regards 2021, the new estimates resulted in a significance upward revision of GDP at market prices,
amounting to 34,670 million euro at current prices. Upward revisions occurred for the rate of change of GDP
in volume, from 7.0 to 8.3%

Are bond yields in Italy about to be added to inflation and growth problems for the ECB?

The financial week has opened with the ECB on the wires as central bankers indulge in what is their favourite game these days which is public relations. Having rather stood out this time around by raising interest-rates ( by 0.25%) when many others did not the ECB feels the need more strongly than them. Things are not going so well when you feel the need to say this after you have just raised your Deposit Rate to 4%.

It is “premature” to bet on a cut to interest rates, Francois Villeroy de Galhau, France’s central bank governor, told CNBC, as market players consider whether the European Central Bank has reached peak rates.

The problem for Francois is his own track record. Here he is from May 2021 when as you can see inflation was on the rise. The emphasis is mine.

Euro area HICP inflation increased to 1.6% in April 2021, from -0.3% in December 2020, while core inflation remained subdued at 0.7% in April and 0.2% at the end of last year. However, this rebound is primarily due to transitory factors and base effects, which are expected to fade out of annual inflation rates early next year.

How did his forecast for inflation fading in early 2022 go?

European Union annual inflation was 6.2% in February 2022, up from 5.6% in January. A year earlier, the rate was 1.3%. ( Eurostat)

It got worse as his May 2021 speech continued.

 This assessment is broadly reflected in the baseline scenario of last March ECB staff projections for the Euro Area. It foresees annual inflation at 1.4% in 2023.

He concluded that section with quite a tour de force.

There is today in the Euro Area no risk of lasting return of inflation.

You might say he is to inflation forecasting what Eddie Jones is to rugby in Australia but that would be to forget there was a time when Eddie had great success. But if we return to this morning’s interview Francois has a problem with any effort at Forward Guidance. Indeed CNBC unintentionally load on the failure by pointing out that he and his ECB colleagues stuck their head in the sand for more than a year after this.

The benchmark rate stood at -0.5% in July 2022 before the central bank embarked on an intense rate hiking cycle in an effort to tackle high inflation.

Anyway Francois had another go at his new claim.

“We should remain at this level for a sufficiently long period of time,” he told CNBC’s Annette Weisbach exclusively on Monday. “Betting now on the next cut is probably premature.”

So it is to be Higher for Longer to quote the new buzzphrase.

The Economy

Here is his view.

ECB’S VILLEROY SAYS WHAT WE SEE NOW IS SLOWDOWN BUT STILL WITH POSITIVE GROWTH – CNBC INTERVIEW ( @DeltaOne)

That is an interesting claim when we remind ourselves of this from S&P Global on Friday about France.

The latest survey results round off a challenging third quarter for the eurozone’s second-largest economy, with accelerated contractions seen in each of the preceding three months. September’s slump in activity reflected faster declines at both manufacturing and services companies. The contraction seen in factory output was the strongest since May 2020, while services activity fell to the greatest extent in nearly three years.

It came into the quarter in a relatively strong position with GDP growth of 0.5% in the second quarter although some noted how it got there.

“As well as the cruise ship, there was also some contribution from a recovery in Airbus exports,” Monteiro said, estimating that these combined added about 0.3 to 0.4 percentage points to French quarterly GDP growth. She said cruise ship deliveries were “erratic” so would not provide “a sustained boost” to GDP even if more were due in coming years.  ( Financial Times)

Anyway we are now looking ahead and the Governor of the Bank of France has joint responsibilities for the whole Euro area. How is that going?

The seasonally adjusted HCOB Flash Eurozone Composite PMI Output Index, based on approximately 85% of usual survey responses, posted 47.1 in September, up marginally from 46.7 in August but still signalling a solid monthly decline in business activity as the third quarter drew to a close. Output has now fallen in four consecutive months.

Indeed his positive growth line takes a bit of a hammering here.

Having said this, we expect the eurozone to enter a contraction in the third quarter.
Our nowcast, which incorporates the PMI indices, points to a drop of 0.4% compared to the second quarter.

Actually that relied on a relative improvement from Germany that seems to be missing from its own IFO survey this morning.

Sentiment in the German economy has continued to worsen. The ifo Business Climate Index fell to 85.7 points in September, down from 85.8 points (seasonally adjusted) in August. Once again, companies were less satisfied with their current business situation.

As you can see it has Germany contracting at the same rate rather than more slowly. Should it be correct then the outlook for the Euro area is for -0.5% or worse in GDP terms.

Chief Economist Lane

The Chief Economist of the ECB was interviewed by Yahoo on Friday and looking at the business surveys he looks to have been correct about this.

So I think we have a lot of evidence in euro area that monetary policy is working.

Although again he seems to be in fantasy land about economic growth.

The economy is growing at a very low rate.

Actually for someone with the title of Chief Economist that is really, really poor as whatever you might think about the present and recent past there is nothing that can be done about it now. So the relevant issue is what is on the horizon?

He was on a little more comfortable ground on the inflation issue.

Well, I think the way to think about it is we think inflation will come down from low fives in August to low threes by the end of this year.

Although there is a technical issue here and at this point I am not thinking of the issues created by the higher price for crude oil and this morning’s higher gas price. It is something that I pointed out a year or so ago when France subsidised domestic energy prices. Unless you keep that going it eventually arrives in the inflation numbers and some of that happened last month with a 1.1% monthly increase. That impact will be a brake on falling Euro area inflation.

Comment

As you can see the ECB us between a rock ( Its mistakes on inflation) and a hard place ( a shrinking economy). As it is the central bankers who are fans of PMI business surveys the claims of growth are really poor.  As I have kept pointing out as the money supply weakened and turned heavily negative the economy would head south. They have been looking at current indicators rather than future ones and there has been another one in that vein this morning from Spain.

The annual variation of the Industrial Price Index decreases almost one and a half points, to -10.0%. The monthly rate of industrial prices is 1.2%. ( INE)

There is another problem for them at the moment which is that their twisting of their QE programmes to keep bond yields in Italy down is running out of puff.

Italy’s 10-Year Bond Yield  reaches a 28-week high at 4.549%! ( @AudacityCap)

Actually it has now passed 4.6%.

Podcast

https://soundcloud.com/shaun-richards-53550081/notayesmanspodcast243?si=0fbda7bc3d784cbdbe86760661daee0b&utm_source=clipboard&utm_medium=text&utm_campaign=social_sharing

The ECB interest-rate rise leads to questions about the first cut

It is not even 24 hours since the European Central Bank interest-rate decision and quite a bit has changed. Let us start with the announcement.

In order to reinforce progress towards our target, the Governing Council today decided to raise the three key ECB interest rates by 25 basis points.

25 basis points sounds like so much more than 0.25% doesn’t it? But my main initial point is that we were right to take note of the Reuters “sauces”.

staff macroeconomic projections for the euro area see average inflation at 5.6 per cent in 2023, 3.2 per cent in 2024 and 2.1 per cent in 2025.

So there was a simple logical progression from inflation being more than 1% over target to the increase in the Deposit Rate to 4%. Although there was a curiosity because really they should be looking at 2025 now and they did this with that.

a downward revision for 2025.

On which basis they did not need to raise interest-rates. But I seemed alone in making that point.

There was a further significant element to this and it has been reinforced this morning by the head of the Estonian central bank Madis Muller.

At yesterday’s European Central Bank Council meeting, we decided to raise interest rates by another 0.25%, but we also made it clear that, to the best of our knowledge, no further interest rate hikes are expected in the coming months. Interest rates have already reached high enough to be expected to bring inflation back to close to 2% in the euro area over the next two years, slowing credit growth and cooling the euro area’s economic momentum.

So that’s all for now folks as they say in the cartoons. Or maybe not.

This, of course, does not rule out the possibility that if the rapid price increase behaves more persistently than expected, interest rates will still have to be increased in the future.

So back to Definitely Maybe. Of course markets saw right through the latter part and pushed the Euro lower ( to 1.0650 versus the US Dollar) and the stock market higher in response. At the time the Euro Stoxx 50 rose by 40 points and this morning it is up by nearly 90 points. Partly that was due to the anticipated end to the rises in interest-rates but I am sure this was also in play.

My question is If the data dependency and held for long are at odds with each other, and if this can be contradictory and if you are prepared to cut rates if growth slows further. In other words, if it is sufficiently restrictive, could that sentence imply a cut?

This was a really awkward question for President Lagarde who wanted to give the impression of being a doughty inflation fighter. So much so she could not even bring herself to say the word cut.

This [rate cut] is not even a word that we have pronounced.

Problems are mounting for President Lagarde

The problem essentially is when that inconvenient issue called reality intervenes. We have just looked at one issue which comes from this.

We will continue to follow a data-dependent approach to determining the appropriate level and duration of restriction. In particular, our interest rate decisions will be based on….

That leads to the tactical issue of being asked what happens if the data suggests a cut in interest-rates? A perfectly valid question which feeds into my next problem for President Lagarde.

 Our past interest rate increases continue to be transmitted forcefully.

If so why did she need another one? Especially in the light of the next part of her statement.

 Financing conditions have tightened further and are increasingly dampening demand, which is an important factor in bringing inflation back to target.

Indeed even the ECB is being forced to admit that the Euro area economy is struggling.

The economy is likely to remain subdued in the coming months. It broadly stagnated over the first half of the year, and recent indicators suggest it has also been weak in the third quarter.

That is very different to what President Lagarde told us as recently as February.

Overall, the economy has proved more resilient than expected and should recover over the coming quarters.

Those who follow my work will know that use of the word “resilient” by central bankers is an awful sign and so it has proven again. But we are back to the question about interest-rate cuts if things continue to get worse, and that has been highlighted again by this morning’s wages numbers.

In the euro area, wages & salaries per hour worked increased by 4.6%, while the non-wage component rose by 4.0% in the second quarter of 2023, compared with the same quarter of the previous year.

So wage growth was already slowing from the peak of 5.3% at the end of 2022. So real wages continue to fall and if the wage growth slowing continues may fall even faster which is more bad news for consumption prospects.

Also the idea of the woman who dismissed the rising inflation data as a “hump” now doing this is very close to parody.

So we looked very closely at all those data. And to give you an example, we spent hours and hours yesterday, morning and afternoon, with the usual presentation by staff in the morning and by the Chief Economist and the member of the Executive Board responsible for markets to have as much intelligence, numbers and analysis as possible.

Next up is the rather obvious dissent going on.

The European Central Bank’s interest-rate hike sparked a backlash from Italy and Portugal, while Spain’s deputy premier signaled her expectation that tightening is now over. ( Bloomberg)

Whilst Italy might have been expected to dissent, Portugal has been a well-behaved Euro area member even quietly taking its medicine in the Euro area crisis. Indeed since then it has been considered a success. Also there has been an attempt to buy Italy off with lots of EU next generation money. In terms of the specifics it makes me wonder what the Martians might have done to deserve this?

“The ECB, which doesn’t care about the economic difficulties of families and businesses, is increasing the cost of money,” Italian Deputy Prime Minister and League Leader Matteo Salvini said on broadcaster Rete 4 on Thursday evening, according to Ansa. “Lagarde is living on Mars.” ( Bloomberg)

Still I suppose it would open up a new export market for Hermes and sun beds.

Comment

This is always one of the more awkward stages in monetary policy. Let me illustrate with this from CNBC this morning.

Rising energy prices could ‘change the story’ for the ECB: Morgan Stanley.

Yesterday saw the price of the West Texas Intermediate benchmark for crude oil rise above US $90 per barrel reinforcing that point. But there are always going too be some signs of inflation at this point and even before the latest rise interest-rates were 4.25% higher in response.So you have to make your move then hold your nerve.

Also it seems impossible to move away from the mistakes of Christine Lagarde or rather what is in this instance a bare faced lie.

On the transmission channel, there is evidence that the current hiking cycle is transmitting to financing conditions faster than previous ones.

The last hiking cycle resulted in Greece, Ireland, Spain and Portugal requiring bailouts due to changes in financing conditions.

So for the impact of yesterday’s move I think we are back again to Newt from the film Aliens.

It won’t make any difference

At least to inflation, but it may well affect the economy adversely.

The ECB faces quite a dilemma today with Germany slumping and Von der Leyen looking to raise inflation

Today is ECB day and it finds itself in rather a mess. Much of this began when under President Lagarde it called inflation a “hump” that would soon decline. Whereas even now it finds itself facing this.

Euro area annual inflation is expected to be 5.3% in August 2023, stable compared to July according to a flash estimate from Eurostat, the statistical office of the European Union.

Whilst an annual rate is backwards rather than forwards looking the ECB has rather focused attention on this. Also the monthly rise was 0.6% which if it persisted would signal another acceleration. Also services inflation rose to 5.5% which matters if you focused attention on it at your last press conference.

Conversely, services inflation rose to 5.4 per cent, from 5.0 per cent in May, owing to robust spending on holidays and travel and also reflecting upward base effects.

Returning to the “hump” problem the ECB was the last of the main central banks to start raising interest-rates and thus this below is if we are polite wishful thinking.

Our past rate increases continue to be transmitted forcefully:

This is an awkward situation for a central bank which in general has believed in this part of its mission statement.

Its main task is to maintain the euro’s purchasing power.

That has not been going so well and to the mix this week has added this.

FRANKFURT, Sept 12 (Reuters) – The European Central Bank expects inflation in the 20-nation euro zone to remain above 3% next year, bolstering the case for a tenth consecutive interest rate increase on Thursday, a source with direct knowledge of the discussion told Reuters on Tuesday.

If that is true then on their own logic we will see a rise to 4% for the Deposit Rate today as looking ahead inflation will remain comfortably above target. However whilst that may help to solve one problem it adds to another one.

The threat of recession

Such a move would set the ECB apart from the Bank of Canada and the Reserve Bank of Australia who decided not to act in this interest-rate round because of fears about the economy. Yesterday’s news reinforced the worries about a weak economy with this.

In July 2023, the seasonally adjusted industrial production decreased by 1.1% in both the euro area and the EU,
compared with June 2023, according to estimates from Eurostat, the statistical office of the European Union……In July 2023 compared with July 2022, industrial production decreased by 2.2% in the euro area and by 2.4% in
the EU.

When one thinks of European production then one immediately thinks of German manufacturing.

Germany

Even the Financial Times has been forced to admit the problem.

German industry has gone from being the powerhouse of Europe’s economy to one of the region’s worst performers after a series of shocks, including the pandemic’s disruption of global supply chains and the power crisis unleashed by Russia’s full-scale invasion of Ukraine.

Their view of German energy policy has sure changed from this.

In the face of German export capacity, which will no doubt progressively increase over time as the cost of renewables falls,

Because now we are told this.

Industrial production in the country fell 2.1 per cent in July from a year ago. This extended a decline that has lowered the sector’s output by 12.2 per cent since the start of 2018. Germany’s most energy-intensive sectors have suffered an even bigger decline of 20 per cent.

Or as the reverse ferret from the FT continues.
Higher energy costs have hit parts of German industry hard.
Indeed Germany seems now to in another reversal be the new Greece.

and a labour force that works among the fewest hours in the OECD.
“Nobody works less than Germans,” he said, adding that the quality of candidates for its apprenticeship scheme is “way below what we got 10 years ago”.

Then we get something that is Kryptonite to the FT view of the world. The emphasis is mine.

The manufacturer of machines for crankshafts, a vital component of petrol and diesel engines, even plans to expand its UK site in the Midlands town of Redditch, despite the complications of Brexit, because of its “big competitive advantages” in cheaper labour costs compared with its headquarters in Nürtingen.

Let me give the FT a little credit as under its previous editor Lionel Barber that would not have been published. But the main theme here is that the largest economy in Europe is spluttering and it seems determined to continue that.

It is not just production as I note this about construction.

The German construction industry is on the verge of collapse – Das Erste Germany’s construction industry, which employs 2.33 million people, is “heading towards the wall at high speed” as the government fails to put on the brakes. This is how the head of the Central Association of Craft Enterprises, Jörg Dittrich, describes the situation. ( @Sprinter99800)

That seems to be supported by the HCOB PMI business survey.

“In August, construction work kept on plummeting at a fast pace, primarily due to a sharp decline in house building. The dismal condition of this sector can be traced back to a blend of higher interest rates, real income erosion from inflation, and needless bureaucratic obstacles.”

The Euro area economy

There are of course differences in individual Euro area economic experiences with France for example doing much better in production terms ( up 2.8% year on year). It is hard not to think that at least some of that is due to its different ( i.e nuclear based) energy policy. Plus we know that for construction things are generally grim in Europe.

“This is not a good time to be in construction in the eurozone. Especially those companies focused on the housing sector find themselves in a tough spot. Activity has gone from bad to worse with the corresponding PMI output index – excluding the pandemic-affected months in early 2020 – at the lowest level since the Great Financial Crisis of 2008/2009.” ( HCOB)

Whilst it is now in the past the downwards revision of GDP growth in the second quarter from 0.3% to 0.1% also sets a tone of weakness. Looking ahead even the European Commission posted depressing news earlier this week.

The EU economy continues to grow, albeit with reduced momentum. The forecast revises growth in the EU economy down to 0.8% in 2023, from 1% projected in the Spring Forecast, and 1.4% in 2024, from 1.7%. It also revises growth in the euro area down to 0.8% in 2023 (from 1.1%) and 1.3% in 2024 (from 1.6%).

Actually there is quite a bit of doubt about the “continues to grow” line with GDP growth having been 0.1% and the economy slowing. But for official forecasts the real issue is the reported slowing. You see these are not forecasts in terms of what they think will happen they are ones they can use when as everyone expects the economy slows. It is more about public relations than accuracy.

Comment

As you can see the ECB faces an issue posed by the Alan Parsons Project.

Can’t sleep alone at night
I just can’t seem to get it right
Damned if I do
Damned if I don’t, but I love you

In many ways they have done it to themselves starting with the “hump” inflation claims and the delays n raising interest-rates which means the slow down they want is coming at a bad time.

financing conditions have tightened again and are increasingly dampening demand, which is an important factor in bringing inflation back to target.

Just to make everything worse there was this yesterday.

If I understood European Commission President Ursula von der Leyen correctly, on energy she’s proposing: More support for the wind power industry A probe into subsidies for Chinese-built EV The net result of both is likely higher prices. Curious way to boost the green agenda. ( @JavierBlas)

Setting out to increase inflation has echoes of Von der Leyen’s tome as German defence minister when some soldiers had broomsticks rather than guns and at one point the air force had only 2 operational Typhoons.

Just when you might have thought it could not get much worse the ECB has decided to stick the boot into Italy.

We’ve just published a legal opinion on the imposition of an extraordinary tax on banks in Italy https://ecb.europa.eu/pub/pdf/legal/ecb.con_2023_26.en.pdf?64b480053a7fa7efcc6298681063888c…

That has echoes of the we are not here to close spreads claim from President Lagarde that resulted in her being rapidly sent out with a correction.

The economy of Italy returns to being a Girlfriend in a Coma

Usually I am pleased when one of my themes is proven correct but today’s has much more of a bittersweet feeling to it. Italy had been in a batter economic phase and then what is usually a good period for it as spring turns to the summer tourist trade we saw this.

In the second quarter of 2023, the gross domestic product (GDP), expressed in chained values ​​with the reference year 2015, corrected for calendar effects and seasonally adjusted, decreased by 0.4% compared to the previous quarter and grew by 0.4 % compared to the second quarter of 2022.

There is an additional irony in Italy having a downwards revision as the UK had an upwards one in a sort of reverse Il Sorpasso. But for our purposes the additional issue to the quarterly contraction is that the annual rate of growth of 0.4% which is likely to decline further. That is solidly in Girlfriend in a Coma territory which for newer readers is where the Italian economy struggles to ever maintain economic growth above 1% per annum.

There is a further hint of trouble ahead in the detail of the official numbers.

Compared to the previous quarter, all the main domestic demand aggregates are decreasing, with a 0.3% drop in national final consumption and a 1.8% drop in gross fixed investments. Imports and exports also decreased, both by 0.4%.

Actually there was one area which grew but as you can see it was a likely consequence of the slow down.

On the other hand, the change in inventories contributed positively to the change in GDP by 0.3 percentage points,

The weakest sector may give the ECB food for thought as it is the one where interest-rate rises will impact early.

for construction by 3.2%,

One possible ray of hope for the ECB was the signal of weaker inflation and indeed a smigeon of disinflation.

Compared to the previous quarter, GDP at current prices decreased by 0.4% and the corresponding deflator by
0.1%.

Looking Ahead

This morning’s full PMI business survey confirmed the preliminary suggestion of slowing services.

Italy’s service sector suffered concurrent declines in activity and new work during August for the first time this year amid reports of a challenging business environment. Confidence in the future also softened as firms signalled some concerns that high prices and elevated interest rates will hit demand, whilst there was a drop in employment for a second successive month. Input prices rose at an elevated and accelerated pace, although output charges rose only modestly.

As you can see this is not only for now ( or rather the 10th to 25 th of August when the survey took place) but also a suggestion for the future as well. There was more.

The headline index from the report, the HCOB Italy Services PMI® Business Activity Index slipped below the 50.0 no-change mark in August. Posting 49.8, down from 51.5 in the previous month, the index signalled a marginal fall in activity and the first recorded contraction in 2023 so far.

The idea that the PMI is accurate to 0.2 is best ignored in my view as past evidence is pretty clear. But a fall of 1.7 does suggest something is going on. Also if we look to try and break it down we see one area that appears to be doing well.

Tourism

The PMI report tells us this.

Although there were reports of positive tourism numbers supporting foreign new business in August, overall export sales also dipped.

The Financial Times reported on higher tourism numbers for Northern Europe and the UK which US travellers spending King Dollar in the van. But as you can see it was more circumspect about Italy.

In Italy, however, the hotter, southern part of the country recorded a drop in tourists, in contrast to cities such as Venice, Rome and Florence where there was an influx of international visitors.
There were 82mn hotel reservations in the country in August, 800,000 fewer than in the same month last year, according to industry association Assoturismo, a decline some experts attribute to the extreme weather.

Rather ironically it looks as though Venice has been doing too well.

In Venice, the return of tourists has provided a boost to businesses but has proved a bitter pill for some locals forced to relocate elsewhere amid soaring prices, crowds and reduced access to housing as landlords look to rent out their homes to holidaymakers.
“Many people my age are moving elsewhere because life in this city is just very hard to sustain economically, socially and logistically,” said Giulia, 28, whose job is to stop tourists from sitting on steps on the streets around St Mark’s square.

Back to the overall economy

Again I do not have any great faith in the specifics but there is a clear trend here.

Alongside a marginal drop of service sector output, there was a fifth successive, and considerable, decline in manufacturing output during August. Overall, this ensured that private sector output was down for a third month running, and to the greatest extent since October 2022. This was highlighted by the HCOB Italy Composite PMI Output Index* which recorded 48.2 in August, down from 48.9 in July.

The official survey of conditions picked up a similar theme.

In August 2023, a slight decline in consumer confidence is estimated (the index goes from 106.7 to 106.5). The decrease was more pronounced for the composite index of business confidence, which fell from 108.9 to 106.8………With reference to businesses, a reduction in the confidence index is estimated for all the sectors investigated.

Switching back to the consumer the better confidence figures were not backed up by this.

In retail trade all components worsen.

Comment

If we ask the Talking Heads question how did I get here? We see that Italy had an economic sugar hit or in fact 2 of them. Let me start with the  domestic one.

One of the programmes, the so-called Superbonus offering generous incentives for energy saving home improvements, is approaching 100 billion euros ($108 billion) since it was originally introduced in 2020.
“Thinking about the Superbonus makes me sick to my stomach as it has a negative effect on public accounts, engulfs economic policy and leaves no room for other interventions,” Economy Minister Giancarlo Giorgetti said on Sunday. ( Reuters)

It is interesting that the main objection of the Economy Minister is that it stops him providing another sugar hit via stimulus. This is in fact coming from Eurostat who are rather inconveniently wanting to add the spending to the public sector borrowing figures. This reminds me that I had my doubts about the fiscal austerity of Isabel Schnabel when I looked at her speech last week.

He described the Superbonus as a banquet where everyone had a meal and the state was left with the bill.

But there was another hit too.

Italy’s recovery and resilience plan responds to the urgent need of fostering a strong recovery and making Italy future ready. The reforms and investments in the plan will help Italy become more sustainable, resilient and better prepared for the challenges and opportunities of the green and digital transitions. To this end, the plan consists of 132 investments and 58 reforms. They will be supported by € 68.9 billion in grants and €122.6 billion in loans; 37.5% of the plan will support climate objectives and 25.1% of the plan will support the digital transition.     ( European Commission)

It feels like it is running out which brings is back to my theme if this was much or even all of the recorded economic growth.

Oh and we can never entirely escape Monte Paschi.

Banca Monte dei Paschi di Siena SpA was the lead decliner on the Italian stock benchmark index amid concern by analysts and investors about the lack of a clear strategy for the state’s sale of its stake.

The stock fell as much as 3% Monday and traded down 1.7% as of 12:20 p.m. in Milan. Monte Paschi shares have risen 29% so far this year, giving the bank a market value of €3.1 billion ($3.3 billion). ( Bloomberg)

So if they double from here they may be worth what the Italian state put in last time? Or was it the time before that? Or indeed the time before that? I think that was when Prime Minister Renzi assured everyone it was a good investment.