In our view, the latest batch of data for July signals that inflationary pressures are picking up, faster than the markets and the ECB are acknowledging. It also confirmed a moderation in exports, but we must not lose track of the fact that we have entered the “ugly” phase of the business cycle: decelerating activity, but rising inflation. Our projections for eurozone real GDP growth in 2019 may prove a bit aggressive on the downside given the recent truce on trade reached by Junker and Trump, but in our view is consistent with the historical patterns of business cycles and reflects the ongoing hawkish Fed stance.
The Eurozone surveys on the bottlenecks for production highlight that a shortage of equipment is as much of a problem as a shortage of labour. In fact, the latter is at the worst level since 1985 and indicates potentially escalating wage demands, or increasing production problems related to labour disputes, going forward. On the basis of the historical pattern, Eurozone labour cost growth could double by end-2019E.
Surveys on expected pricing developments show rising households’ expectations and some stabilisation at a high level for the industrial sector. On the basis of the current trends, both households and industrial pricing expectations are likely to reach the previous peak levels by the summer of 2019.
In the aggregate, Eurozone construction sector confidence has reached the previous peaks of 2008 and 2000 – hiring appetite is strong and low interest rates are likely to fuel further increases in the coming quarters, in our view. That said, for household consumption, continuing rapid house price inflation is negative: it cuts purchasing power and forces higher savings buffers given that 100% L/V mortgage loans are no longer available.
The pernicious effect of brisk inflation beyond what the actual inflation rate suggests in our view, limits consumption especially in the robust growth countries. In Germany, it is quite telling that consumers’ concerns about unemployment are extremely low, yet in the last six months households’ expectations about their future financial positions. This, in our view, is an extreme situation of what is a recurrent theme in Europe: unless wage growth escalates sharply, household consumption is likely to weaken further as the purchasing power of individuals is eroding.