MacroScope

Is Europe past the worst?

The PMI surveys take top billing today. China’s report showed a further slowdown in manufacturing activity with the index following to an 11-month low and well into contractionary territory.

Flash readings for the euro zone, Germany and France are due later. Whisper it, but it could just be that Europe’s economy is past the worst.

Beijing’s travails will obviously have knock-on effects for Europe, particularly Germany for which China is such a huge market. A Chinese “hard landing” – still not the central scenario – would be the last thing the world economy needs just as it shows signs of life.

Having said that, both the German government and Bundesbank have been talking up second quarter growth while admitting it will moderate somewhat in the third.

One of the European economic themes of the year so far has been the fear that France will fall so far behind Germany that the twin motor of EU policy will break, but here too there have been tentative green shoots.
French industry morale hit a year high yesterday and consumer spending has perked up a little. However, June unemployment numbers due later in the day are likely to show the jobless rate at or near a record level.

The numbers don’t lie

Euro zone unemployment figures will emphasize just how far the currency bloc is from recovery while inflation data due at the same time could push the European Central Bank closer to new action. If price pressures drop further below the target of close to but below two percent we’re moving into territory where the ECB has a clear mandate to act, although the consensus forecast is for the rate to push up to 1.4 percent, from 1.2 in April.

Market attention is focused on the ECB cutting its deposit rate – the rate banks get for parking funds at the ECB – into negative territory to try and get them to lend. But will that do much? Despite being in a world awash with central bank money and stock markets in the ascendant, the fact that safe haven bond markets such as Bunds and U.S. Treasuries haven’t sold off much – and are now starting to climb after Ben Bernanke’s hint that the Federal Reserve could soon start slowing its money-printing programme — denotes ongoing nervousness among banks and investors. Data this week showed bank loans to the euro zone’s private sector contracted for the 12th month in a row in April.

Despite the (now waning?) European market euphoria – started by the ECB’s pledge to do whatever it takes to save the euro and given a further shot in the arm by Japan’s dash for growth – the economic numbers look grim. Euro zone unemployment is forecast to edge up to 12.2 percent of the workforce. Last night, official data showed French unemployment hit a new record. Germany is in better shape but even it will barely eke out any growth this year. Retail sales, just out, posted a 0.4 percent fall in April.

Creaky credit markets

It’s not a snap or even a pop – but there’s definitely a crackle. Rumblings emerging from key credit markets bare a frightening resemblance to the early days of the 2008 credit crunch.

Take commercial paper, a widely used instrument for short-term funding in the corporate world. Financial sector issuance of commercial paper fell steadily in the second half of last year, from around $556.5 billion in July to $434.4 brillion in December.  The final month of the year saw the downward trend spilling over into other industries.

Paul Ashworth at Capital Economics:

The contraction in commercial paper issued by the financial sector is now being compounded by a dramatic drop off in commercial paper loans to the non-financial sector.

ECB stuck feeding southern Europe’s cash addiction

Spain ECB borrowing

Commercial banks in southern Europe are increasingly addicted to cheap central bank money after dealers shut them out of money markets. Due to this dependency, the European Central Bank will have little option but to keep offering banks cold hard cash for almost nothing – currently it prices its loans at 1.0 percent.

Economic growth in the euro-zone core has been robust lately, but southern Europe has been hit hard on several fronts recently and is falling badly behind. First, the sovereign debt crisis hit Greece and other southern periphery countries, then bank stress tests showed 6 out of 7 failing banks were in Spain or Greece, and then the region posted only tepid economic growth.

Bank borrowing from the ECB shows increasing strains in southern euro-zone’s financial sector while banks elsewhere are getting back on their feet, but the fear of contagion from country to country will keep the ECB on its toes. Banks in Greece borrowed twice as much last month as they did in July 2009, even though outstanding central bank lending fell 18 percent over the same time. Banks in Portugal borrowed five times as much in July 2010 as they did a year earlier, and borrowing also rose in Spain and Italy.