The eurozone faces the latter part of the year with slowing economic growth but without entering a recession, according to HSBC’s chief eurozone economist, Fabio Balboni. At the gates of European Central Bank meeting this week, the investment banking expert believes that a 25 basis point cut is the most likely option on this occasion, while sets the neutral reference rate in the euro zone at 2.25% for April next year due to headline CPI already below 2% but core inflation still high.
Ask. The consensus of experts predicts a cut of 25 basis points from the European Central Bank (ECB), could a larger cut take place this Thursday?
Answer. I don’t think so, the option of a 25 basis point cut is the most likely. A 50 basis point cut would not be necessary because the decline in headline CPI inflation is already below 2% for the first time in three years. This allows the ECB to help the economy, but it also knows, as we know, that inflation has not yet been defeated because underlying inflation remains high. That’s why we don’t expect a very steep descent or a very long descent route.
Where could the ECB then leave the neutral rate?
Our estimates suggest that the ECB would stop at 2.25% for the deposit reference rate in April next year. [actualmente está en el 3,5%]. In other words, we do not believe that the final rate will approach the levels observed previously, namely zero.
So, will there be a high spread to the US Federal Reserve for much of 2025?
Yes. In our opinion, there is a gap quite significant between the United States and the euro zone. Because? Because we have a very significant difference in terms of investment, economy… Investments in the United States have almost doubled since the financial crisis. In the eurozone, it’s more or less 20%. This means more productivity. The U.S. economy is able to generate growth at higher rates because it has invested much more and is much more productive. In the eurozone, we need investments because of the energy transition, because of demographic developments… We consider all this very difficult with a neutral rate of 2% or 2.5%. This is why we believe that there will be a gap between the main central banks once they have stopped their rate cuts.
How can this affect the European financial market?
This can affect, for example, the exchange rate. We believe that the dollar will continue to show its strength and could appreciate up to $1.05 against the euro. With stocks, in our opinion, there is a risk because the market is integrating a fairly positive scenario, in the sense that it is integrating at the same time a very aggressive rate cut and a positive macroeconomic scenario. There is therefore a risk that an asset correction will be observed.
What would this look like by sector?
Some could suffer more, such as the financial sector, which benefited from rate increases. On the other hand, there is a better period in sectors where we should invest more such as infrastructure, energy transition, digitalization… This is by virtue, but also by necessity because few expenditures from the European recovery plan have been spent. An additional 650 billion must be spent until 2026. The defense sector could also benefit from the current context.
Why don’t small listed companies benefit from a context of falling rates?
The fact is that financial conditions are more difficult than before the pandemic. The rates are higher than what businesses are used to and although demand has not been as positive, we are seeing a fairly significant increase in labor costs.
Can a recovery in China export inflation to Europe?
Quite the contrary. It could export disinflation. Chinese policy consists, for example, of subsidizing exports of electric cars. There is therefore a risk of witnessing a disinflationary wave. But the question is how Europe will react. We are talking about customs tariffs, protection of European companies… We are already talking about it, about becoming more protectionist. This will be a future context of less globalization, in general. In addition, China is engaged in a process of internal debt reduction. There has been a very large real estate bubble and this is affecting the private demand of families. The country’s consumption is increasing very little and Chinese fiscal recovery policies are focused more on stabilizing domestic demand than on promoting German exports.
Where is the euro zone facing the third quarter of 2024?
We continue to see positive growth, we do not expect a recession. But the latest data is more negative. We have seen a slowdown in the services sector in the euro zone after a very good tourist season. That’s why we think the ECB can accelerate monetary policy easing a bit, because the negative factors we’ve seen are coming more from the demand side. In fact, we have revised our growth forecast for 2025 downward from 1.3% to 1%.
What are the risk factors in the Eurozone that can affect the economy?
We are seeing very different growth in European countries. We have countries more linked to the manufacturing sector like Germany, where 25% of GDP comes from this group, which are affected because the sector is not performing well. Then there are countries like France where the service sector is focused on businesses. If they do not contribute, they by extension harm the service sector. And then there are countries like Spain or Portugal where services will continue to contribute to growth. Second, we find that the recovery of wages is in many cases a consequence of the transfer of inflation to wages.
Can the budgetary policies of different European countries pose a problem for the debt market?
After years of fiscal expansion, some consolidation is likely to occur, which will slow growth and allow the ECB to be a little more aggressive. But again, we have a lot of differences between countries. Not everyone emerged from the crisis in the same way. There are challenges like in France, where we know there will be a 5% deficit according to government estimates, which we think could be higher. In our opinion, the ECB will continue to be aggressive on the QT side [Quantitative Tightening, ajuste en el balance del banco central, que implica comprar menos deuda soberana o dejar que vayan venciendo los títulos europeos para reducir el dinero en circulación] with these high deficit levels in a context of lower liquidity which clearly increases the need for the private market to absorb public debt. I think we will talk a lot more about European public debt and how to use this debt. Not like it was done with him New generation not to help Spain and Italy, but to further help Europe as a whole.
