Expected evolution of GDP relative to pre-crisis levels
2020 GDP forecast raised to -7.7% from -8.2%; 2021 now at 6.1% (prev 6.2%)
Following the release of Q2 GDP data which, at -12.1% q/q, -15% y/y, were the worst on record, but better than we had anticipated, we have raised our 2020 Eurozone GDP growth forecast to -7.7% from -8.2%; our 2021 forecast changes marginally to 6.1% from 6.2% (consensus: -8.1%; 5.9%). The revision is mainly related to the forecast miss for Q2; the changes to future quarters are relatively minor. As before, we expect the recovery from the COVID-19 crisis to be relatively slow, with end-2021E Eurozone GDP levels still around 1% below pre-crisis levels. Also, we continue to project a significant north-south divide, with activity in the north of Europe falling by less and returning more quickly to pre-crisis levels than in the south. We assume that the EU’s €750bn recovery fund will have an initially limited impact in H2 2021, before gaining more momentum in 2022/23. COVID-19 related mobility restrictions remain a key risk to the economic outlook. Amid local surges in infections, the lifting of mobility restrictions in Europe has recently stalled. Should restrictions intensify, growth in H2 2020 and 2021 might pick up less than our forecast suggests.
Country specifics: North-south divide
The GDP contraction in Germany was less dramatic than in the other big Eurozone countries (-2.0% q/q in Q1, -10.1% q/q in Q2). We maintain our GDP growth forecast of -6.3% for this year and 4.6% in 2021 (consensus: -6.3%; 5.0%). The German fiscal stimulus is one of the strongest in Europe. For France, we maintain our 2020 GDP forecast of -10.0%, but we now expect a stronger bounce-back for Q3, which pushes our 2021 forecast to 7.7% from 7.1% (consensus: -9.9%; 7.0%). Our GDP forecast for Italy changes modestly to -9.6% (from -9.9%) for this year and to 6.9% from 6.8% for 2021, but this change is entirely backward looking, i.e. related to GDP in Q1 and Q2 2020 (consensus: -10.6%; 6.1%). Among the big-4 Eurozone countries, Spain has suffered the biggest economic damage, with GDP down by a cumulative 22.7% in H1 2020. Given the worse-than-expected GDP contraction in Q2 (-18.5% q/q), we have cut our 2020 forecast to -11.5% from -9.8%, while lifting our 2021 projection to 8.5% from 7.5% (consensus: -10.8%, 7.1%). By the end of 2021, we expect Eurozone GDP to be 1.1% below pre-crisis levels, 1.0% in Germany, 1.8% in France, 1.8% in Italy, and 2.9% in Spain.
Subdued inflation, ongoing monetary policy support by the ECB
Our views on inflation and monetary policy are unchanged. Amid a wide output gap, subdued wage growth and modest energy prices, we expect subdued inflation over the coming 2-3 years; beyond this time horizon, the outlook is more uncertain, as opposing trends such as increasing automation, de-globalisation, or potentially greater market concentration might leave their mark. We expect the ECB to stay in ‘wait and see’ mode over the coming months, before raising and extending PEPP again in December.
What to watch
We are carefully watching infection rates, the evolution of mobility restrictions, and daily activity data. The next important gauge of Eurozone sentiment will be the PMIs on 21 August; following the sharp rise in July, we expect a moderation in PMIs to set in over the coming months. We also remain focussed on labour market data (Q2 employment out on 14 August, July unemployment on 1 September) and bank lending data (July data out on 27 August) as evidence of longer-term damage caused by the shutdown. The flash estimate of Q3 GDP will only be released on 30 October; we expect a rate of +8.7% q/q, -7.9% y/y.