The ECB now warns of a possible recession in the eurozone in the second half of 2023
Vice-President De Guindos acknowledges risks to growth and weak outlook in the short term. The economy is decelerating beyond ECB's expectations. But for Schnabel it is too early to talk about rate cuts. Meanwhile, the credit slowdown is getting stronger
The ECB is beginning to recognise recession risks for the Eurozone after publishing economic projections deemed optimistic by many analysts. Yesterday, Luis De Guindos, vice-president of the central bank, pointed out that after the 0.1% drop in GDP recorded in the Eurozone in the third quarter of 2023, 'indicators point to a contraction also in December, confirming the possibility of a technical recession in the second half of 2023, with weak prospects in the short term'.
De Guindos' words
The slowdown, De Guindos added, "appears to be broad-based, with construction and manufacturing particularly affected". Meanwhile, 'services are also set to weaken in the coming months as the rest of the economy weakens'. The slowdown has been gradual so far but 'the outlook is tilted to the downside'.
Even the labour market, which has been resilient in recent months, shows for the ECB vice-president 'early signs of correction', as indicated by the first drop in hours worked in the third quarter and the decline in job vacancies. According to De Guindos the ongoing labour market adjustment 'could also weigh on the number of jobs'.
ECB expectations
The ECB's latest December macro projections show an expected GDP increase of 0.1% in Q4 2023 (the expectation was +0.4% in June). However, the ECB is now considering the arrival of recession. This could be the first sign that the central bank is moving closer to market participants' expectations of six rate cuts this year. Analysts expect a stronger drop in growth and inflation.
- Read more: Inflation will fall below 2% in the Eurozone according to BofA. ECB may accelerate rate cuts
The ECB's next step could be to recognise that disinflation is above Frankfurt's expectations. On this point De Guindos was cautious yesterday. The German hawk of the board Isabel Schnabel had admitted in recent days that she had misjudged prices and said that new rate hikes were 'unlikely'. But then Schnabel maintained a tough stance on rates: 'It is too early to discuss cuts,' she said yesterday, confirming 'different views on the economy' than the markets.
Tight stance on rates
The ECB also takes a tougher line than the Fed, which has already suggested the possibility of three cuts this year (in the so-called 'dot plot'), despite facing a more favourable economy. According to Capital Economics, 'ECB central bankers reiterate that monetary policy will remain tight throughout the first half of the year, if not beyond. But we believe economic weakness and falling inflation will prompt them to begin cuts in April'.
The hawks want reassurances on prices that could unnecessarily affect GDP. For Schnabel, the pressures on core inflation remain 'high', even though the core figure excluding energy and food fell sharply, from 5.5 per cent in July to 3.4 per cent in December. A more accurate index of core inflation, the Pcci (Persistent and Common Component of Inflation), returned to 2%. As for wages, Schnabel also said he expected a 'gradual decline in wage growth'. But the unbalanced focus on inflation could become the main cause of the recession that even the ECB now sees.
The credit slowdown
"The economic slowdown is part of the monetary policy transmission," Schnabel said. The credit channel, however, may be weighing too heavily. Yesterday Bankitalia data showed a 3.2 per cent drop in November of loans in Italy to the private sector (-3.1 per cent in October), with mortgage rates at 4.92 per cent (from 4.72 per cent in October) and to businesses at 5.59 per cent (from 5.46 per cent in the previous month).
