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Developed Europe Economic Review – Fourth Quarter 2013

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On the whole, the key economic indicators of Developed Europe improved modestly in the fourth quarter, painting a mixed picture of the region at the beginning of 2014.

The combined GDP of the euro area, the continent’s 18-nation single-currency bloc, inched up 0.3% compared to the third quarter. Most Euro-zone members, including Germany, France, The Netherlands, Spain, Austria, and Portugal, registered growth. Even debt-ridden Italy saw its output increase 0.1%, the first rise since the spring of 2011. For 2013, though, the $12.7 trillion Euro-zone economy shrank 0.4%.

The bloc’s private sector reported a slew of encouraging data during the fourth quarter. Riding on solid export demand, new orders for manufactured goods remained in an uptrend from October through December. In fact, as Euro-zone businesses capitalized on an upsurge in global trade, December saw manufacturing activity expanding at its fastest pace in 31 months and beating all median expectations. Indeed, 2013 turned out to be a good year for the Euro-zone’s external trade, as exports grew 1% and imports declined 3% to more than double the regional trade surplus from 79.7 billion euros in 2012 to 153.8 billion euros last year. Services activity, which accounts for the bulk of the Euro-zone’s GDP, also increased, but the rate of expansion slowed down, easing to a four-month low in December.

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At a Glance

Germany:Europe’s largest economy, which accounts for 30% of the Euro-zone’s GDP, expanded a modest 0.4% in the fourth quarter compared to the July-September period. Germany’s exports climbed as much as 2.6% in the fourth quarter vis-à-vis the previous quarter.

The U.K.:In the fourth quarter, U.K. GDP increased 0.7% compared to the third quarter and 1.9% for 2013, recording its fastest pace of annual growth since 2007. The string of positive data Britain has reported over the past few quarters suggests that its economic recovery is steadily gaining momentum.

France:France managed to expand its GDP 0.3% from October through December. While household consumption accelerated 0.5% compared to a nominal 0.1% growth in the third quarter, capital investments by businesses increased +0.6% and exports bounced back 1.2%.

Italy:After sliding for more than two years, the debt-ridden Italian economy recorded its first quarter-on-quarter gain in the three months through December as GDP edged up 0.1%. The growth was driven by a 0.8% increase in investments as well as a 1.2% expansion in exports.

Spain:  GDP expanded 0.2% compared to the July-September period, recording its second quarterly gain in a row. The fourth quarter saw annual household spending increasing for the first time since early 2011.

 

Not surprisingly, the Euro-zone unemployment rate failed to show any improvement as several governments continued to slash spending to lessen large deficits and the private sector in general hesitated to increase hiring in the absence of a sustained economic momentum. Consumer spending within the region also remained lackluster. In fact, services firms were forced to cut prices in November to stimulate business and the Euro-zone’s annual rate of inflation declined in December, remaining well below the European Central Bank’s (ECB) target rate of 2%.

Given this mix of positive and discouraging trends, there appears to be a widespread belief among commentators that although the Euro-zone’s economic revival is still on track, the current pace of recovery is not sufficient either to boost overall employment and investment levels in the region or to reduce debt burdens in southern Europe. As such, having emerged from a long recession in the first half of 2013, the currency bloc has not seen the kind of growth-spurt economies typically experience while recovering from a downturn. Against this backdrop, various official and private agencies have forecast growth of around 1% for the Euro-zone in 2014, according to The Wall Street Journal.

On an encouraging note, the region seems to have made some amount of progress on the reforms front during the fourth quarter and early 2014. The creation of the much-talked-about Euro-zone banking union, which seeks to make the ECB the supervisory authority for all banks in the bloc, has taken several steps forward. One key component of the union, the Single Supervisory Mechanism (SSM), is expected to be fully operational by autumn this year with an asset-quality review of banks that will be placed under the ECB umbrella. Negotiations between European Union finance ministers are underway to give shape to the other component of the alliance, the Single Resolution Mechanism (SRM), which involves putting in place a policy framework as well as a common fund for the closing or saving of troubled banks.

GERMANY: GDP GROWTH LESS THAN EXPECTED BUT EXPORTS REBOUND STRONGLY

Europe’s largest economy, which accounts for 30% of the Euro-zone’s GDP, expanded a modest 0.4% in the fourth quarter compared to the July-September period. The growth rate failed to meet expectations, but that was not the only surprise. Exports, which were subdued until the third quarter, rose the most in three years during the fourth quarter, while domestic demand, which remained a key driver of the German economy until September, moderated in the final quarter of 2013. According to the Federal Statistics Office (FSO), Germany’s foreign sales climbed as much as 2.6% in the fourth quarter vis-à-vis the previous quarter. The FSO also reported that the economy got a boost from robust investment, especially in equipment and construction.

The rebound in German exports is good news for the global economy, especially given the concerns that Germany, an export powerhouse and Europe’s primary growth engine, is struggling to cope with the slowdown in the Euro-zone, its largest trading partner. Moreover, the recovery in troubled economies such as Spain has been partly driven by Germany, which imports a large volume of intermediate goods from the western European country. Fortunately, Germany’s export outlook appears bright for the coming quarters too thanks to the steady improvement in the U.S. economy, which is expected to help German car manufacturers as well as a host of other industries.

According to Reuters.com, economists believe Germany’s domestic demand is also poised to improve later this year on the back of several factors. For one, business confidence in the country is at its highest level in nearly 30 months, which bodes well for capital investment this year. Further, Germany’s real wages, or wages adjusted for inflation, actually declined last year. So, workers are likely to receive stronger wage hikes. As such, surveys indicate that morale in the country’s labor force remains high due to record low unemployment levels. These factors, coupled with moderate inflation and low interest rates, should provide German consumers the right incentive to spend. In fact, barring the fourth quarter, Germany’s consumer spending has been rather strong in recent quarters. Consumption in the country actually improved 0.9% for the year 2013.

THE U.K.: CONTINUES TO SEE A TURNAROUND

Europe’s second largest economy remained in an upturn during the fourth quarter. From October through December, Britain’s GDP increased 0.7% compared to the third quarter and 1.9% for 2013, recording its fastest pace of annual growth since 2007. The icing on the cake is that all major areas of the economy, barring construction and oil and gas extraction, registered growth. Notably, the services sector, which typically contributes 75% of Britain’s GDP, expanded 0.8% for the fourth quarter, sustaining the strong progress it has seen since mid-2013. The manufacturing sector improved 0.9%, but growth in industrial production slipped to 0.7% from 0.8% in the third quarter, primarily due to a decline in North Sea oil and gas output.

The string of positive data Britain has reported over the past few quarters suggests that its economic recovery is steadily gaining momentum. Indeed, various surveys of business confidence in the country, such as those conducted by the accountancy firm BDO and the Lloyds Banking Group, have reached their highest levels in many years. What’s more, nearly all the data Britain has registered in early 2014 indicate that the economy will continue to improve in the coming quarters. For instance, riding on better demand from North America, Europe, Asia, Brazil, and the Middle East, new export orders for the U.K. manufacturing sector climbed to their highest level in three years during January.

The same month, the construction sector, which accounts for about 8% of GDP, grew at its fastest pace in six and a half years following a bout of underperformance in the fourth quarter. Financial data firm Markit, which reported the development, said the growth was driven by increases in both residential construction and commercial building work. Retail sales also remained strong in the initial weeks of 2014. Not surprisingly, keeping pace with these trends, the International Monetary Fund (IMF) has raised its 2014 growth forecast for the U.K. from 1.9% to 2.4%, which is higher than the growth projection for any other major European country.

FRANCE: EXPORTS AND INVESTMENTS MAKE A SUPRISE COMEBACK

Beating expectations as well as several structural problems, France managed to expand its GDP 0.3% from October through December. What’s more, the French statistics body INSEE has declared that the economy actually remained flat in the third quarter, and not shrinking 0.1% as previously reported. Given this upward revision, for the year 2013 too the French economy expanded 0.3% and not 0.1% as the government had estimated.

A close look at the INSEE data reveals that France’s fourth-quarter growth was mainly driven by a spurt in household consumption, corporate investments, and exports. While household consumption accelerated 0.5% compared to a nominal 0.1% growth in the third quarter, capital investments by businesses increased 0.6% following a 0.3% decline in the third quarter and exports bounced back 1.2% after falling 1.6% in the July-September period. These statistics are very encouraging, especially when seen in the context of France’s structural problems.

One of the country’s key challenges now is to make its manufactured goods more competitive on the global export market. Over the years, high payroll taxes and inflexible labor rules have made French goods pricier compared to their global peers. This trend has not just hurt the country’s exporters but also made them reluctant to hire more and invest more. In the absence of robust job creation, France’s unemployment rate has stayed worryingly high and consumer spending has been sluggish.

Against this backdrop, it remains to be seen whether some of these positive fourth-quarter signals will become a meaningful trend in the coming quarters. In fact, several economic indicators reported for December have failed to enthuse the financial community. For instance, France’s service-sector output shrunk to its lowest level in six months during December. Manufacturing activity too declined the same month, although not to the same extent.

In other developments, French President François Hollande has launched a grand plan to jumpstart the economy. According to the plan, which Mr. Hollande calls a “Responsibility Pact” between the government and businesses, firms would make concrete commitments to invest and hire more in return for reductions in labor taxes. News reports indicate that negotiations between labor unions and business leaders are in an early stage and it might be some time before the pact takes shape.

ITALY: GDP GROWS FOR THE FIRST TIME IN TWO YEARS

After sliding for more than two years, the debt-ridden Italian economy recorded its first quarter-on-quarter gain in the three months through December. Meeting forecasts, GDP edged up 0.1%. But compared to a year ago, output shrank 0.9% and for the year 2013, the economy contracted 1.8%. Figures published by the national statistical office Istat indicate the small fourth-quarter growth was driven by a 0.8% increase in investments as well as a 1.2% expansion in exports. Domestic consumption though remained unchanged during the review period.

On the whole, Italy’s fourth-quarter data showed a minuscule recovery. Even so, it is encouraging given that the country has long been hobbled by a multitude of problems, such as political instability, a large sovereign debt, and structural impediments that have stalled growth. In the coming quarters too, the outlook for Italy appears to be mixed. For instance, industrial production declined unexpectedly in December, raising concerns that the southern European economy might struggle to build momentum in its nascent recovery.

Worse, the unemployment rate remains at a record high of around 12.7% and the Italian central bank expects the rate to keep rising this year as well as in 2015. However, on a positive note, consumer confidence rose in all regions during January, with the improvement being significant in the export-centric northeastern part of the country. Unlike several other troubled European countries, Italian households have lower debts and higher savings and as the Istat has reported recently, the number of households that feel their financial situation is worsening, is on the decline.

On the political front, Italy has a new prime minister. Matteo Renzi took the reins of the government in February and to his credit, he has wasted no time in announcing a $14-billion package of tax cuts and other steps to jumpstart the economy. Nonetheless, being the leader of a country where successive governments have struggled to implement policies, Mr. Renzi has his task cut out. He has promised to provide tax cuts to businesses as well as workers who earn less than $2,100 a month. However, union leaders have threatened strikes if the tax cuts are not directed solely at workers while business leaders have asserted that the government can encourage new hiring only by reducing the labor taxes levied on businesses. Mr. Renzi has started consultations with labor and business leaders to build a consensus.

SPAIN: SLEW OF POSITIVE DATA INDICATE RECOVERY IS ON TRACK

Europe’s fifth largest economy reported a slew of positive data for the period between October and December, bolstering the now widely held belief that it is truly on its way to a sustained recovery. GDP expanded 0.2% compared to the July-September period, recording its second quarterly gain in a row. To add to the shine, the spurt in output was driven by relatively robust household spending, which typically accounts for two-thirds of Spain’s GDP. In fact, the fourth quarter saw annual household spending increase for the first time since early 2011. But the most heartening bit of news came from the Spanish labor market. For the first time in nearly six years, the western European country recorded job growth on a seasonally adjusted basis.

Since its property bubble burst in 2008, Spain has been shedding jobs at an alarming rate; so much so that its unemployment rate, which has been hovering around 26% for quite some time now, is the second highest in the Euro-zone, after Greece. Against this background, many commentators believe that the Spanish labor market is witnessing early signs of a turnaround. In any case, the positive data recorded for the fourth quarter appear to be a sign that the labor market reforms Madrid undertook in 2012 as well as the persistent fall in wages have started contributing to job creation.

In another encouraging development during the fourth quarter, Spain’s beleaguered services sector, which has been badly hurt by a sluggish economy, expanded at its fastest pace in six years. Several business and consumer confidence surveys also painted an optimistic picture of the Spanish economy in the coming months. Not surprisingly, therefore, both the IMF and the European Commission have upgraded their 2014 economic forecasts for Spain. Further, ratings agency Moody’s has raised its Spanish debt ratings for the first time since 2010, when the country’s AAA rating was downgraded.

 

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FORWARD LOOKING STATEMENTS

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