One week ago, Bank of America’s CIO Michael Hartnett predicted that Europe will be the “missing link” for the emerging market crisis to spread to the rest of the developed world and “morph into a global deleveraging event.”
But where would the crack appear: after all, until recently European economic data had been surprisingly strong… if not so much in the past few days, because after emerging into the green, the Citi Eurozone economic surprise index appears to have rolled over, and returned back into negative territory.
Then, as if to confirm that Europe was finally starting to groan under the weight of EM turmoil, overnight Bloomberg reported that the ECB was set to revise its forecasts lower for euro-area economic growth during its press conference on Thursday “as global trade tensions damp external demand, according to officials familiar with the latest projections.”
According to Bloomberg’s sources, the main nations dragging on demand were the U.K. and Turkey, though the U.S. outlook is still positive.
In June, the ECB predicted economic growth would slow from 2.1 percent this year to 1.7 percent in 2020, with inflation averaging 1.7 percent in all three years covered in the forecast.
The growing pessimistic outlook comes at an “awkward time” for the Governing Council, just as it prepares to wind back stimulus, though the adjustments probably aren’t big enough to derail those plans yet, unless of course the EM turmoil continues and results in even more German foreign factory order weakness.
The silver lining: the path of inflation, the primary consideration for monetary policy, remains unchanged… for now.
Ahead of Draghi’s statement tomorrow, in which every word is scrutinized, the ECB committee now sees “the risks to economic growth as tilted to the downside.” While that’s a change from policy makers’ latest view that the risks are “broadly balanced,” the Governing Council could choose to disagree with that assessment and keep its existing language at its meeting on Thursday.
“We’ve thought for months that it was a little strange to say risks are balanced, when every single one mentioned was on the downside,” said Nick Kounis, an economist at ABN Amro Bank NV in Amsterdam. “Given the ECB hasn’t said risks are tilted to the downside until now, it would be surprising if they changed their outlook now, even though it would be justified.”
ECB head Mario Draghi, who will unveil the final projections after the Governing Council meeting on Thursday, has acknowledged the damage to confidence from protectionist threats and global uncertainties in recent months. Since then, Turkey and Argentina have slid deeper into crisis, triggering turmoil across the emerging-markets world, and the U.K. is still at risk of breaking away from the European Union without a trade agreement.
The economic downgrade comes at a time when the ECB is rapidly tapering its QE program. Consensus expects the ECB to confirm that monthly bond buying will be reduced to €15 billion from €30 billion starting next month, before ending in December. Interest rates are seen rising in late 2019.
The euro slipped after the report and traded as low as $1.1570 although it has since recovered much of the losses.