Goldilocks’ euro-porridge tastes tepid

Nobody has been paying much attention to Europe recently amid all the fuss about inflation returning to America. Last week, however, it returned to the spotlight – and not in a good way. “After a stellar run”, the macroeconomic data has started to “sag”, says Richard Barley in the Wall Street Journal.

Germany’s Ifo business confidence indicator unexpectedly slipped to a five-month low in February. The European Commission’s consumer-confidence indicator also undershot expectations by falling in January. The composite purchasing managers’ index (PMI) for the eurozone, tracking activity in both services and manufacturing, declined too. The triple whammy of bad news has rattled investors and prompted concern that the recovery may already be faltering.

A minor blip in the numbers?

Don’t panic, says Gavekal Research’s Cedric Gemehl. The readings could be a blip; European surveys “have a track record of overreacting to financial volatility that is not justified by macro fundamentals”. They slipped in 2016 during the global scare over Chinese growth, but there was scant impact on the underlying economy. Assuming these readings aren’t just noise, however, the strong likelihood is that the eurozone rebound is “simply seeing growth hit a plateau” after a sharp recovery.

Surveys across the eurozone have hit multi-year highs in recent months, so these declines are hardly disasters. The German Ifo result still points to a slight uptick in the annual pace of growth from 2.9%, according to Capital Economics. Similarly, the consumer optimism figure is hardly likely to fall off a cliff: employment should keep rising and wage growth is starting to emerge slowly, as the German IG Metall union’s generous pay deal highlights. The global economy remains robust, which is crucial as Europe exports more than Britain or America. Capital Economics is still pencilling in GDP growth of 2.5% for the single currency in 2018, matching last year’s ten-year high.

Why stocks can keep rising

Growth is no longer accelerating, says Barley. Markets cannot now count on a boost from data exceeding expectations. The Citigroup economic surprise index for the eurozone, a gauge of whether economic data is beating or missing the consensus forecast, has just fallen below zero for the first time since September 2016 – after the longest streak in positive territory since 2003. “Expectations have finally caught up with reality.”

On the plus side, as Gemehl notes, if the pace of the recovery has ebbed, then economic slack will only be absorbed slowly, inflation will take longer to appear, and monetary policy will only tighten very gradually. While the US market is facing inflationary pressure, Europe is still in a “Goldilocks-style” situation – and it’s better value, too.