Western Europe: Sway with me

5 min
Alexis Garatti
Alexis Garatti Head of Macroeconomic Research

Cruising mode activated

We expect the Euro zone to grow by +2.2% y/y in 2018 compared to +2.4% y/y in 2017.

This slight deceleration will mainly be explained by a lower contribution of external trade (exports will grow by +4.5% y/y in 2018 against +4.7% y/y in 2017) and a slightly lower growth of investment (+3.8% y/y in 2018, -0.2pp from 2017).

The current expansion cycle of the euro-area should last for at least 2 more years due to (i) accommodative credit conditions, (ii) a high synchronization of national cycles, and (iii) a persistently high level of external demand.

We expect household consumption to be stable in 2018 and expand by +1.8% y/y on the back of favorable credit condition and steady decline of unemployment. Investment will remain the main driver of this improvement as it will continue growing at a strong pace of +3.8% y/y in 2018 compared with +4.0% y/y in 2017.

As a common feature with 2017, this dynamism of investment will lead to significantly gains in terms of jobs creation. We expect Euro zone’s unemployment rate to decline by 0.7 pp in 2018 to 8.4% on average.

Net external demand should contribute slightly less to growth as we expect exports (+4.4% y/y in 2018 versus +4.7% y/y in 2017) to decelerate at a quicker pace compared with imports (+4.5% y/y in 2018 versus +4.6% y/y in 2017).

Government spending is expected to accelerate from +1.1% y/y in 2017 to +1.3% y/y in 2018 on the back in particular of higher public expenditures in Germany.

Smooth operator

Several contradictory factors fuel uncertainty on the CPI inflation scenario as the recent appreciation of the EUR (+14% y/y versus USD in 2017) depresses the price of imported goods, but oil prices have markedly increased to USD 70 per barrel, while wage growth remains contained for now.

All in all, we expect an increase of CPI inflation to +1.6% y/y in 2018 against +1.5% y/y in 2017.

The ECB has extended its quantitative easing program until at least the end of September 2018, but reduced its monthly net asset purchases to EUR30bn (-30bn), starting in January 2018. Currently at EUR4471bn, the size of ECB’s balance sheet will continue increasing until September.

Thereafter, the ECB is likely to cease its securities purchase program and envisage rate hikes from early 2019 only despite clear and tangible signs of macroeconomic improvement.

5  pilots

France: The catch up effect holds on. After a lost decade, 2017 was the full-speed growth year I (+1.8%) and 2018 is set to be year II (+1.9%). Private sector investment is expected to be the main trigger of growth acceleration.

Business confidence and capacity utilization rates recently returned to pre-crisis highs. Inflation should accelerate from +1% y/y in 2017 to +1.6% y/y in 2018, driven by increasing fuel taxes and more pressure on core prices alongside higher capacity utilization rate. 

Spain: 2017 put the finishing touches to Spain’s “Remontada” as nominal GDP surpassed its pre-2008 crisis level.

In 2018, a deceleration from +3.1% y/y to +2.4% y/y of real GDP growth is in sight. Inflation (+1.5% y/y in 2018) should take a toll on purchasing power, as wages struggle to keep pace despite employment gains.

Risks related to the Catalonia crisis will nurture uncertainty and weigh on investment, which is expected to grow by +3.2% y/y against +4.8% y/y in 2017.

Germany: the boom goes on and we expect real GDP to steadily grow by +2.5% y/y in 2018 (the same as in 2017).

A slowdown in private consumption (+1.5% y/y in 2018) should be offset by an acceleration of investment (+5.1% in 2018) amid steady contribution of net exports.

In parallel, a slightly lower contribution of net exports should be compensated by an acceleration of public spending.

Italy: Real GDP growth is expected at +1.3% y/y in 2018 after 1.6% in 2017.

Economic performance positively surprised thanks to a strengthening of domestic demand and continued strong external performance.

Nonetheless, more reforms are still required to tackle structural weaknesses. Progress at this level won’t be easy to achieve, with general election coming in March 2018.

UK: Brexit-induced downshift is becoming increasingly more visible.

The outlook for private consumption is grim (forecast at +0.9% in 2018, -0.6pp from 2017) as UK consumers’ confidence is declining against the double-whammy blow of high inflation and sluggish wage growth.

Moreover, the sterling depreciation hasn’t triggered higher exports as of now. The economy should decline to a mere +1.0% in 2018, after +1.7% in 2017.

 Table 1 Real GDP  growth forecasts

Sources: IHS, Euler Hermes