Economists upgrade Europe growth outlook

Brexit and elections in France, Germany and the Netherlands threaten to halt progress.

Robert Johnson, CFA 28 February, 2017 | 6:00PM Jeremy Glaser

 

 

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm here today with Bob Johnson. He is our director of economic analysis. We're going to look at the state of the economy in Europe.

Bob, thanks for joining me.

Bob Johnson: Great to be here today.

Glaser: So, we haven't actually talked about Europe in quite some time, so this is a good catch-up. What do the recent numbers look like? Are things getting stronger there?

Johnson: Well, I think, the key thing that we saw this week was the Purchasing Managers survey that came out of Europe, the Markit data, and it showed some very good numbers. On the manufacturing side, which is even kind of the slower of the two metrics there versus services, we moved from 55.2 to 55.5; 50 generally separates growth from no-growth. And we've been increasing monthly since the middle of the year, middle of 2016. So, it's a good performance on that number.

The composite number looks great too. That includes the services. It's the highest it's been in over five years, almost six, it's 70 months. So, really, kind of a spectacular number in and of itself. And certainly, it's exciting to see the job growth there, the highest in 7 1/2 years according to this metric. So, some really nice numbers. And frankly, some of them are actually moving into the real-world data, too. So, it's not just all about Purchasing Manager sentiment anymore.

Glaser: And this comes after some upgrades to GDP forecasts from the European Commission?

Johnson: Yes. We saw some good numbers last week on that front. And to talk about those a little bit, they are thinking that the growth in 2017 will now be something like 1.6% instead of their previous thought of 1.5%, and we'll see something like 1.8% in 2018. So, that's in the actual Eurozone itself. What's interesting also is we got the data the previous week before that on the European growth GDP in, was 0.5 of a percent in Q4 and for the full year, it was 1.7%. Now, what's intriguing about that 1.7% is the growth in the U.S. was 1.6% over that same period. So, Europe is not the stepchild of growth anymore.

Glaser: And you mentioned that this was also showing up in real-world data. What are some of the signs that this isn't just kind of a false reading from the PMIs?

Johnson: I would say it would have been before on some of the data. But one of the numbers that I looked at, we saw the auto sales numbers for January and we saw sales up 10.2% year over year. So, that was a really, really strong number and the growth was double digits in Spain, France, Italy, and Germany. So, that was not one fluky market. The overall growth seems to be better. The consumer seems to be doing better and feeling healthier with that better job growth that we had talked about. That kind of chicken and egg, does GDP or does employment come first, they seem to have gotten them both moving on the same track better because certainly consumption is driven by employment and employment is certainly looking a bit better. Turning back to that auto sales number, even England who has got big Brexit issues in front of it, saw their number up 3%. So, that was certainly good news, too.

Glaser: Let's talk about Brexit and maybe some other potential issues facing the Eurozone or facing Europe more generally. Do you think Brexit is going to have a major impact? Does this going to derail the good news that we are seeing?

Johnson: Well, I think, so far, the impact has been gradual because certainly we haven't seen the rules, the tariffs--this is a multiyear process. So, maybe we're looking a little bit too soon at the data. Right now Europe seems to be benefiting from a lower currency which is all wrapped up in the Brexit situation and the elections and so forth. And so, clearly, the weaker euro I think is the real story there, and so far, Brexit has probably helped that and we haven't seen the negative effects of jobs leaving for somewhere else. But even there I would suggest that maybe some of the jobs in the U.K. would move to Europe, not to, say, the U.S. or to some other markets so that it won't necessarily be a lose-lose game for Europe.

Glaser: Speaking of elections, that's another question mark in 2017, some high-profile ones in France, Germany, and elsewhere. Are you concerned that those also could be a potential source of a derailment of this growth?

Johnson: Absolutely. I think, the elections in France are coming up very soon in the run-off elections and then when the final elections as we move toward summer. But certainly, there's one of the candidates there who is talking about pulling out of the euro and certainly, that would be very bad news. It doesn't seem like the most likely case right now, but we've kind of said that before with a few other issues. So, certainly, that's got to be a worry and how things shake out in Germany will also be very interesting to see.

Glaser: We've seen a rise in bond yields in France. Do you think that really is related to the potential election results and not to anything about the underlying economy?

Johnson: Well, I think, it's a little bit of both really. If you look at the underlying economy in France, it's better. We've had more even performance out of France recently. It was one of the weak sisters in the numbers. It was always Germany that was relatively strong. France has been a little bit stronger. We saw it in the auto numbers this time around, and they've had a lot of pressures with terrorism and so forth that have weighed on some of their activity. And so, certainly, I think things are better. That may partially explain the higher yields there. But it's also probably a little bit, you can see that some of the bond money is moving from France to Germany. German yields, despite a relatively strong economy, too, are actually down, and I think there's a little bit of shifting going on there in front of the French elections, I mean, to make sure we don't have another Brexit or Trump-like surprise.

Glaser: We haven't talked a lot about the periphery, Greece in particular. Is that something that keeps you up at night in relation to Europe or is it still a contained problem?

Johnson: I think it's an exceptionally small economy in that it really won't move the needle. I don't think at the moment there's a lot of other thoughts that other economies are weak or everybody else is going to walk away from their debts. I think things are picking up and I think there's less talk of that and less worry about contagion than it was before.

That said, certainly, it's going to be a very hard situation to settle, especially in front of all the elections. Certainly, the developed markets, i.e., Germany and others, don't want to give money away in front of the election to Greece, hurting their own economy. On the other hand, the people in Greece are facing a pretty high debt level that's really not sustainable, and that money has to be written off. But it certainly isn't likely to happen before the elections.

Glaser: Overall then, some pretty good news out of Europe?

Johnson: I'd say on balance, the numbers are surprisingly good, but there still remains those worries of that Brexit situation and all of these elections coming up. So, we're all kind of waiting with bated breath on those two key items. But the underlying economy seems to be acting much better, driven a lot by a better consumer and by exports.

Glaser: Bob, thanks for your thoughts today.

Johnson: Thank you.

Glaser: For Morningstar, I'm Jeremy Glaser. Thanks for watching.

About Author

Robert Johnson, CFA

Robert Johnson, CFA  Robert Johnson, CFA, is director of economic analysis for Morningstar.