Where is the eye of the storm?
Euro area GDP growth in Q3 2022 was better than expected, but the likelihood of contractions in the coming months is high. Specifically, GDP grew by 0.2% in quarter-on-quarter terms (vs. 0.8% in Q2), corresponding to a year-on-year increase of 2.1%. The most positive surprises came from the German economy, which managed to avoid a contraction with 0.3% quarter-on-quarter growth, and from Italy, which registered 0.5% quarter-on-quarter growth in the quarter. This stamina in some of the euro area’s biggest economies can be explained by the strong performance of the services sector over the summer. However, although the breakdown by component is not yet available, the main economic activity indicators suggest a declining trend during the course of the quarter.
In the US, GDP grew by 1.8% year-on-year and by 0.6% compared to the previous quarter, following two consecutive quarters of decline in Q1 and Q2 (−0.4% and −0.1% quarter-on-quarter, respectively). Although the overall figure was positive, the breakdown by component reveals a slowdown in private consumption and a collapse in property investment. These are two clear signs of weakening domestic demand, in the midst of the strongest cycle of monetary contraction by the Fed in more than 40 years, which has already raised interest rates by a total of 375 bps since March (see the Financial Markets Economic Outlook section).
The first economic activity indicators point towards a clear deterioration in the economic situation beginning in September. In the euro area, where
the ECB has already raised interest rates by a total of 200 bps since July, with two consecutive 75-bp rate hikes in September and October, the composite business PMI continued to fall, reaching 47.3 points (vs. 48.1 in September). This marks its lowest level in almost two years and is consistent with a steady loss of buoyancy since Q2. In the words of ECB President Christine Lagarde, economic activity is showing a «significant» slowdown, which may intensify with the loss of households’ purchasing power and deteriorating confidence. In the US, the composite PMI fell back down to 48.2 points in October, after a brief improvement in September (49.5 points vs. 44.6 in August). Although in the case of the US the ISM indices were still in expansionary territory (above 50 points), the fact is that they have also deteriorated. Meanwhile, inflation is still showing no sign of abating. In the euro area, it rose once again in October, reaching 10.7% (vs. 9.9% in September), driven by price increases in food, energy and industrial goods. September’s inflation figure was also higher than expected in the US, with a sharp month-on-month increase in the core index, which stood at 6.6% year-on-year (8.2% for the headline index). Taken together, with the strength still demonstrated by the labour market on both sides of the Atlantic and the inertia of some of these price components, these figures may be a sign that a longer period of high prices and restrictive monetary conditions lies ahead.
The average gas futures price for 2023 fell by 18% in October (€155/MWh vs. €189/MWh in September) in the Dutch TTF, the market that serves as the main benchmark for Europe. Despite being seven times above the historical average, the decline in prices was mainly due to the high level of reserves, which stood at 95% of capacity at the end of October, compared to 80% at the end of August. In this context, in recent weeks there have been reports of LNG carriers waiting to unload at the main European ports. This situation of an easing of prices and oversupply may, however, be temporary. Two key variables to follow are the reductions in consumption achieved by EU countries and the level of reserves. With no end in sight for the war in Ukraine, the 2023-2024 winter will also be to play for over the coming months.
As the slowdown in the global economy and the tighter monetary policies persist for longer than expected, it will be particularly important to keep an eye on national fiscal plans and the real estate market. In the euro area, home prices have risen by 20% compared to the pre-pandemic level (Q4 2019), with gains of around or even greater than 30% in many countries. In the US, the rally has been close to 40% (see the Focus «US: controlled slowdown or hard landing in the housing market» in this same report), while China continues to face a severe housing crisis and is among the G20 economies where home prices have grown the least over this period. Another source of macrofinancial risk will be fiscal policy,
in both emerging and advanced economies. As the recent turbulence in the markets and the political crisis in the United Kingdom have demonstrated, there will be zero tolerance for fiscal plans with «the shelf-life of a lettuce» (see the Focus on «Stormy waters in the UK, a warning to seafarers» in this same report). The public accounts of countries with newly elected governments will be under intense scrutiny: presidents Giorgia Meloni and Lula da Silva should take note.
China’s GDP was higher than expected in Q3 2022, with 3.9% growth versus Q2 (3.9% year-on-year as well), thus more than recovering from the crash registered in Q2. However, the strength of the recovery seems to have tempered in autumn. The data already available for October indicate a marked deterioration in the services sector, following the surge in cases and new lockdowns imposed in the country, as well as a slowdown in exports. The weakness of the Chinese economy could intensify in the coming months, as a result of the intermittent stops and starts imposed due to the zero-COVID policy and the cooling of global demand. In the medium term, the main messages coming out of the 20th National Congress of the Chinese Communist Party have been clear: security and self-sufficiency will be undisputed priorities. It remains to be seen how the new policy direction will materialise in the development of the domestic market and foreign policy.