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Japan and euro area join world growth
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At the end of December we were daring enough to predict a relatively calm economic year in 2006 without substantial changes over 2005, in spite of the risks facing the world economy. Now that the first quarter is practically finished we have not seen any factors that would cause us to change that general economic perspective. Let’s look at one thing at a time.
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In context of favourable world economic situation, economies of Japan and euro area confirm signs of recovery.
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In the first place, growth. Here the big news is that Japan and the euro area have joined in the race for economic growth after going through a long wait in the boxes. The most surprising case, because of the good level of the figures, has been Japan due to the strong boost recorded in the economy in the final quarter of 2005, which was much stronger than expected.
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Continental Europe creating jobs despite modest growth but unemployment still high.
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In the euro area, on the other hand, the poor advance in the fourth quarter represented something of a let-down in the course of recovery which had been discernible in recent quarters. Private consumption went through a substantial slowdown with growth going from 1.9% to 0.8%, a performance very much influenced by the performance of households in Germany. The other components showed a somewhat more positive result, especially investment and exports. Nevertheless, the figures for the first quarter again point to a growth situation, as indicated by retail sales and indicators of business confidence.
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We should mention the fact that even with the poor growth rate in recent quarters, the euro area had managed to slightly reduce the level of unemployment, now at 8.3% of the labour force. In spite of all, social unrest continues which is reflected in the response aroused in France to the «Villepin hiring contract», a contract covering young people getting their first job which allows them to be fired without cause in the first two years of the contract. Nor has the labour market stabilized in Germany, which shows up in the announcement that elimination of restrictions on the entry of workers from countries joining the EU in the recent extension would be delayed until 2009. Belgium and Austria also will not relax controls whereas Spain, Finland and Portugal have joined the United Kingdom, Ireland and Sweden in removing all restrictions.
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In any case, growth leaders still China and United States.
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In any case, the growth race continues to be dominated by China and the United States, the Formula 1 driver leading all other participants. The first as the great emerging manufacturing power and the second as the top world consumer. Latest available indicators from China, such as industrial production and retail sales, point to maintenance of growth full-speed-ahead, that is to say, with growth of the order of 9-10% real. In the United States, the first quarter turned out positive following a temporary dip in the fourth quarter of 2005. The usual optimism of people in the United States continues to show up as a high rate of household consumption with some business executives believing in the future and continuing to invest and hire workers. In the course of the year, the trend will be to a gradual moderation of growth but this will not manage to turn around the trade deficit which month after month keeps on marking up new records. Nor is the other deficit, that for the public accounts, being put in order.
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Inflation remains contained while for now oil price seems relative calm.
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The second point of interest is inflation. So far this year, the picture is not very different from that at the end of last year. Contributing a great deal to this is the relative stabilization of oil prices. In recent weeks the price per barrel of crude oil has swung somewhat above 60 dollars and the forecast is that it will stay at these levels. The Organization of Petroleum Exporting Countries (OPEC) itself seems to feel comfortable with this level given that at the beginning of March it decided to maintain its production quota at 28 million barrels a day. This was a decision which, for the moment, avoids eventual increases in crude oil prices in a context of strong world demand, weak increases in non-OPEC production and open or potential conflicts in Nigeria, Iran or Iraq.
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If the price of oil holds at these levels over coming months, inflation rates should show substantial moderation. Something of this kind already began to happen in February. Now, however, attention is centred on indirect and second round effects of oil price increases. If we look at price indices excluding the energy component, it would seem that for the moment the situation is calm. Both in the United States and the EU, core inflation is tending to moderate while wage demands remain contained.
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But central banks not satisfied and give up easy money policies.
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This takes us to the third point, namely, monetary policy. The central banks, guardians of inflation, are those who are most anxious to detect any rise in price indices. Just in case, the Federal Reserve decided months ago to gradually give up its very easy money policy and for the moment is following the course set out which is expected to end up with a reference rate of 5% before the summer. More recently, the European Central Bank began its upward stage and on March 2 decided on a second increase in reference rate putting it at 2.50%. The market is discounting further increases in a course that could lead to a level of 3% at the end of the year.
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But the most outstanding case is that of the Bank of Japan which at the beginning of March announced that it was putting an end to a long stage of monetary policy under which it provided practically all the liquidity requested by the monetary system at a nil rate of interest. Why has it done this? The spark came with the January inflation figure which showed an increase of 0.5% year-to-year, a positive rate for the first time since 1998 (with the odd parenthesis), which has been interpreted as the end of the years of deflation and the official stamp on the recovery of Japan’s economy.
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Rise in monetary interest rates fails to boost long-term rates while stock markets record excellent first quarter.
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Not everyone is in agreement with the restrictive position of the central banks. In a recent report, the Organization of Economic Cooperation and Development (OECD) asked for caution on the part of the monetary authorities given that excessive tightening of monetary conditions could bring about an undesirable slowdown in economic activity. Against the OECD view we could lay the objection that, in spite of the increases in monetary rates in Europe and the United States, long-term interest rates have scarcely moved and are still close to all-time lows, although in recent weeks they have risen to a notable extent. Something similar is happening with risk premiums demanded on bonds of certain countries or companies. The stock markets, in turn, have not suffered from the rise in monetary rates and in the first quarter generally obtained notable price increases, helped along by excellent corporate profits and a flood of corporate acquisition operations.
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Spain’s economy: competitiveness threatened
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Spain’s economy maintains strong growth rate although some indicators beginning to weaken.
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One of the stock markets to record the best results in the first three months of the year was indeed that of Spain which showed a rise of more than 10% one week from the end of the quarter. Behind this result was an economy that is maintaining a notable growth rate and companies that generally obtained excellent profits in 2005.
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Economic activity indicators for the first quarter are still scattered but we note a continuation of the process of job creation, if we are to go by the trend in registrations with Social Security as well as an incipient improvement in the industry sector, according to results of the industrial production index and the business volume of industrial companies drawn up by the National Institute of Statistics.
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Main concerns remain focussed on imbalances: very high inflation differential…
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On the other hand, some indicators have had their negative surprises. The economic sentiment index prepared by the European Commission show a notable drop in February, brought about by the decrease in those components relating to construction and services. In addition, in the first two months passenger car registrations were down slightly compared with the same period the year before. At the same time, hotel occupation rates for foreign tourists were down in January and February while car production dropped in February. Along the same lines, we should add the gradual slowdown seen in the rate of mortgage loans granted in January, possibly related to the increase in the 1-year Euribor interest rate, although that growth rate was still well above 20% year-to-year. In any case, this was a matter of isolated figures which did not in any way darken the impression of an economy in growth although, indeed, one with a tendency to moderate from the strong drive shown in domestic demand in recent quarters.
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In any case, concern is still focussed on inflation and the foreign deficit. Growth of prices moderated in February to a year-to-year rate of 4.0%, according to the consumer price index. This was an improvement over the 4.2% recorded in January, which may continue in coming months if oil prices hold more or less stable. The question, however, is in the apparent unsolvable inflation differential separating Spain from the euro area average which in February stood at 1.7 percentage points. This is a differential which little by little is reducing the competitive position of Spanish companies abroad.
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…and foreign imbalance running right across all headings in balance of payments.
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This gradual loss of competitiveness keeps showing up in figures for the balance of payments. In 2005 as a whole, the current account with abroad ended with a deficit of 69 billion euros, 55% more than in 2004, according to the Bank of Spain. In terms of the gross domestic product, the figure is equivalent to 7.6% and, as well as being an all-time high, is one of the highest among the developed countries.
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The foreign deficit and inflation are imbalances which are partly due to the strong drive in domestic demand. This long period of growth is an outstanding event in the context of mediocre performance by most of the European economies. This has largely been possible because of the reforms adopted some years ago aimed at opening up the economy and giving more flexibility to markets of factors and products. Nevertheless, those reforms should continue so that the imbalances mentioned do not end up stripping down the present growth stage.
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Chronology
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CHRONOLOGY
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2005
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March
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4 |
Dow
Jones index for New
York stock exchange marks
up annual high (10,940.55), a rise of 1.5% over end of 2004. |
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22 |
Federal
Reserve raises reference
rate by quarter point to 2.75%. |
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23 |
Heads
of state and government of European Union member states approve reform of Stability
and Growth Pact introducing
more flexibility. |
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| April
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20 |
Dow
Jones index for New
York stock exchange marks
up annual low (10,012.36) with 7.1% drop compared with end of 2004. |
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| May |
2 |
Cypriot
pound,
Latvian lat and Maltese
lira join Exchange Rate
Mechanism. |
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3 |
Federal
Reserve raises reference
rate by quarter point to 3%. |
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| June
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30 |
Federal
Reserve raises reference
rate by quarter point to 3.25%. |
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| August
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9 |
Federal
Reserve raises reference
rate by quarter point to 3.5%. |
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| September
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1 |
One-month
forward price of Brent quality oil
goes up to all-time high level of 67.48 dollars a barrel. |
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17 |
Increase
in special taxes
on alcohol and tobacco to finance health (BOE 17-9-05). |
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20 |
Federal
Reserve raises reference
rate a quarter-point to 3.75%. |
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| October |
4 |
IBEX
35 index for Spanish
stock exchange marks up
annual high (10,919.2) with cumulative gains of 20.2%. |
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13 |
Government
approves National Reform
Programme for Spain. |
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| November |
1 |
Federal
Reserve raises reference
rate to 4%. |
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28
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Slovak
crown joins Exchange Rate
Mechanism. |
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| December
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1 |
European
Central Bank raises official
interest rate to 2.25%. |
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13 |
Federal
Reserve raises reference
rate to 4.25%. |
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17 |
European
Council approves 2007-2013
Budget. |
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18 |
Hong
Kong Summit of World
Trade Organization agrees
to removal of all aids to agricultural exports of developed countries in 2013.
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2006
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January
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20 |
Government
presents bills for reform of personal
income tax and corporate
tax. |
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31
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Federal
Reserve raises reference
rate to 4.50%. |
| February |
22 |
Dow-Jones
index for New York
stock exchange
records annual high (11,137.2) with rise of 3.9% compared with end of 2005. |
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27 |
IBEX
35 index for Spanish
stock exchange
marks up annual high (11,832.8) with cumulative gains of 10.2% compared with end
of December 2005. |
| March |
2 |
European
Central Bank raises official
interest rate to 2.50%. |
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22 |
Dow
Jones index for New
York stock exchange records
annual high (11,317.4), an increase of 5.6% compared with end of 2005. |
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24 |
IBEX
35 index for Spanish
stock market marks up annual
high (11,954.4), a cumulative gain of 11.4% over the end of December 2005. |
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28 |
Federal
Reserve raises reference
interest rates to 4.75%.
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Agenda
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AGENDA
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April
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5 |
Industrial
production index (February). |
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6 |
Meeting
of Governing Board of European Central Bank. |
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12 |
Consumer
price index (March). |
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20 |
Harmonized
consumer price index for European Union (March). |
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25 |
Producer
price index (March). |
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28 |
Labour
Force Survey (1st Quarter). |
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US GDP (1st
Quarter). |
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Early HCPI indicator
(April).
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May
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4 |
Meeting
of Governing Board of European Central Bank. |
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5 |
Industrial
Production Index (March). |
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10 |
Meeting
of Open Market Committee of Federal Reserve. |
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11 |
Early Quarterly National Accounts (1st Quarter). |
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Early
GDP of euro area (1st Quarter). |
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12 |
Consumer
price index (April). |
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24 |
Quarterly
National Accounts (1st Quarter). |
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25 |
Producer
price index (April).
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