After a year of tentative recovery in 2014, the eurozone has moved into 2015 aided by two important growth drivers: sharply lower oil prices and QE, according to the March 2015 issue of the EY Eurozone Forecast (EEF). These two factors will support a domestic recovery that began in 2014, helping GDP growth accelerate from 0.9 per cent in 2014 to 1.5 per cent this year and then 1.8 per cent in 2016.
But the medium-term outlook remains constrained by a number of structural factors, in particular the need for fiscal restraint and the dampening effect on wage growth of high – but gradually falling – unemployment, according to the report. These factors will mean growth should remain around 1.6 per cent a year in 2017-19. Meanwhile, the crisis in Ukraine and difficult negotiations over Greek debt will continue to present a risk to economic and financial stability for some time.
The gradual improvement of the eurozone economy – with consumers regaining confidence and the labour market continuing to gradually recover – will be supported in 2015 by lower oil prices, which are expected to average 55 a barrel compared with about $100 a barrel in 2014. The EEF expects this to add one per cent to 1.5 per cent to real consumer incomes in the eurozone in 2015.
Overall, the EEF estimates real household income will grow by 2.5 per cent this year, enabling consumer spending growth to rise from 0.9 per cent in 2014 to 1.6 per cent this year. But as the degree of spare labour continues to hold back wage growth for some years, consumer spending growth is expected to remain steady around 1.5 per cent from 2016 onwards.
Tom Rogers, EEF senior economic adviser, said: “Consumer spending growth is expected to be the strongest this year since 2007. Households should see a 10 per cent to 15 per cent reduction in their fuel bills. Since energy and fuels account for around 10 per cent of the eurozone consumer basket, real incomes should increase by 2.5 per cent from 2014. Nevertheless, governments should continue to work on labour market reforms to tackle near-record levels of unemployment – which stopped rising in 2014 – and expand employment opportunities to groups such as the young unemployed and those with lower skill levels.”
Rising demand for loans should be complemented by lower lending rates, strengthening the recovery in investment
The downside to lower oil prices has been a further slide in headline inflation, from an already tepid 0.4 per cent in October to -0.6 per cent in January, and the intensification of fears about a prolonged spell of falling prices in the eurozone.
The ECB’s subsequent plans for a major increase in the size and change in the scope of its asset purchases should substantially aid the recovery in the next couple of years. Through both the real economy and exchange rate impacts, inflation in the eurozone is expected to pick up from -0.2 per cent in 2015 to 1.1 per cent in 2016, and then to 1.7 per cent by 2019.
All other things being equal, this should weaken the euro from $1.14 on average in February to just over $1 by the end of 2015 according to the EEF, offering exporters across the eurozone a substantial boost to competitiveness in global markets.
The improvement in the 2015-2016 outlook, along with the range of past and present ECB measures, is set to trigger a rebound in capital spending over the next couple of years. Even if increasing demand for loans has not yet been felt by banks, conditions seem right for higher investment over the coming quarters, the report augured.
Meanwhile, banks are also reporting improving access to wholesale funding markets, and lending rates across asset classes should be further compressed over the coming years by the ECB’s asset purchases. Therefore, rising demand for loans should be complemented by lower lending rates, strengthening the recovery in investment.
“Governments need to take advantage of this period of improving economic conditions to cushion any short-term impacts from reforms, so that their long-term payoffs can be realised,” Rogers said.
“Priorities vary by country, but further labour market reforms, amendments to tax and benefits arrangements and entitlements, and regulation of product markets would all improve long-term growth prospects. Governments should not be tempted to avoid making hard decisions simply because the crisis appears to have passed.”