UK: BoE tries to alleviate the Brexit impact
In its bi-annual stability report, the BoE gave a first assessment of the expected impact of the Brexit vote. The main channels of impact are: (i) the financing of the large current account deficit, (ii) the real estate market, which relies highly on capital inflows from abroad, (iii) the high level of household indebtedness and the risk linked to tightening of financial conditions and (iv) the fragility in financial markets given the high volatility and uncertainty lying ahead. In reaction to the Brexit impact, the BoE announced the reduction of the countercyclical capital buffer rate from 0.5% to 0% for UK banks until at least June 2017 (capital buffers reduced by GBP5.7bn) which is expected to free-up GBP150bn of additional lending from banks to the private sector. This measure comes in addition to the GBP250bn liquidity provided to banks on the day after the Brexit vote. The next BoE monetary meeting is planned for 14 July, but it may be too early to see further monetary easing given that the economic data related to the Brexit impact is available only starting on 31 July. The next moves are likely to focus on credit easing measures (extension of the Funding for Lending Scheme) or a rate cut (from 0.5% currently).
Eurozone: Resilient business confidence in Q2
The June PMI Composite came in at 53.1, above the flash estimate of 52.8 but unchanged from May, suggesting steady growth in the Eurozone. An improvement in the manufacturing PMI to 52.8 (from 51.5 in May) was countervailed by a slowdown in the services PMI to 52.8 (53.3). The average PMI Composite for Q2 stands at 53.1, slightly down from 53.2 in Q1. The June PMI Composite indicates strong growth in Ireland (59.2) and Spain (55.7) and an improvement for Italy (52.6) in response to acceleration of new businesses. The index for Germany remained unchanged from May (54.4) signalling both a positive economic environment and a strong increase in manufacturing export orders while services marked a softer pace in June (53.2) compared to May (55.2). Meanwhile, the June index fell to 49.6 in France (50.9 in May) indicating that companies are still lagging behind mainly due to a lasting downturn in the manufacturing sector. Euler Hermes expects a slowdown in Eurozone growth to +0.3% q/q in Q2 from +0.6% in Q1 and forecasts +1.6% for 2016 as a whole, unchanged from 2015. Going forward, uncertainty related to the Brexit decision is expected to soften economic momentum.
U.S.: Yields fall to record lows on Brexit uncertainty
Euler Hermes expects Brexit to have virtually no effect on U.S. GDP through 2019, but the resulting uncertainty has driven investors to the safety of the 10-year U.S. Treasury note, pushing the yield below 1.4%, the lowest since records began in 1962. The yield also reflects in part weakness in the U.S. economy. Real personal consumption expenditures rose +0.3% m/m in May, but the y/y rate crept down from +3.0% to +2.7%, while disposable income gained only +0.1% m/m to reach +3.2% y/y. PCE core inflation was +1.6% y/y in May; it has ranged from +1.6% to +1.7% for five straight months. Construction spending fell for the second straight month in May, losing -0.8% m/m to a +2.8% y/y rate; last May it was +10.7%. Non-residential construction is the weak component at only +1.2% y/y, and that weakness is also reflected in orders for core durable goods which have fallen for two consecutive months, and five of the past seven, to a -3.8% y/y rate. The ISM manufacturing index rose +1.9 to a still tepid 53.2 in June, despite strength in new orders.
Emerging Markets: Summertime with clouds
Cyclical surveys show better prospects for Emerging Markets overall. Our proprietary EM aggregate manufacturing PMI index improved from 49.4 in May to 49.7 in June but remained under the 50 neutral-threshold. So, the growth momentum is still eroding but that erosion is moderating in pace and is not everywhere. Many economies in Asia experienced improvements. The regional manufacturing PMI (excluding China) is above 50 (50.4) for the first time since September 2014, indicating that growth may now accelerate in this area. In recessionary economies, the pace of contraction is set to slow as indicated by improvements in Brazil and Russia, for example. China’s cyclical surveys are more ambiguous. The official PMI was marginally down to 50.0, signalling that growth may decelerate. Negative news came from export-oriented markets, particularly in Eastern Europe, with poorer PMIs in Poland, the Czech Republic, Hungary and Turkey. This may be related to Brexit news which may have an impact on trade in the longer term.