Europe firmly on recovery path


AMID a painful energy crisis that could spell an expensive winter, Europe is bracing for a resurgence of Covid-19 infections.

According to the latest development, several countries are facing record-high cases. Germany’s new Covid-19 cases surged to over 65,000 with health officials warning that the true number of cases could be more than that by two or three times.

The Netherlands reported more than 20,000 cases on Wednesday, hitting new highs for three consecutive days. Meanwhile, France’s new cases breached 20,000 on the same day, its highest since Aug 25.

Both the Netherlands and Austria have introduced partial lockdowns while other countries are still mulling over the reinstatement of social distancing and lockdowns, which will weigh on economic activities heavily.

For now, they are opting for alternatives such as Covid-19 rules or Covid-19 passports while the local authorities are doubling down on unvaccinated people.

Germany is known for its effectiveness in handling the Covid-19 outbreak but a sharp increase in cases among unvaccinated people has raised an alarm.

Outgoing Chancellor Angela Merkel reportedly called for urgent meetings to discuss the country’s response to the crisis.

Prospects remain strong

Despite the threat of Covid-19, we maintain our positive view on the eurozone. After more than a year and a half, global economies are steadily retracing its path to pre-pandemic times.

The latest data releases seemed to support our view that global economies are on track to recovery.

During the third quarter of 2021, the eurozone recorded 3.7% year-on-year (y-o-y) economic growth after chalking up 14.3% y-o-y in the previous quarter. On a quarterly basis, it rose by 2.2%.

The eurozone economy not only continues to recover from the coronavirus pandemic, it is showing resilience, bolstered by the eventual rise in vaccinations and mobility in its economic activities.

Also, the economic recovery path is paved by strong accommodative macroeconomic policies that preserve employment and protect private sector balance sheet. Austria (3.3% y-o-y), France (3%) and Portugal (2.9%) logged the biggest growth among the 19 member countries while the German gross domestic product grew 1.8% and Italy advanced by 2.6%.

The eurozone economy is expected to expand 5% this year, according to recent forecasts from the European Commission, higher than our in-house forecast of 4.8%.

Yet, high energy prices, rising inflation, persistent supply constraints, an eventual increase in coronavirus cases and potential virus mutations are among other factors that can weigh on the recovery. A sudden reversal of accommodative monetary policy can disrupt the recovery as well. The pace of withdrawal needs to be adjusted accordingly to country-specific situations, preventing the risk of destabilising recovery momentum.

On the consumer price front, following several years of low-level inflation, a strong resumption of economic activity in the European Union and many advanced economies had been accompanied by a pick-up in inflation that turned out to be higher than the initial predictions.

Annual inflation in the eurozone rose from -0.3% in the last quarter of 2020, to 2.8% in the third quarter of 2021. The October reading was 4.1%: the highest since July 2008.

Added with supply shortages and pent-up demand, the common economic bloc continues to battle surging energy costs.

The biggest increases were seen in the cost of energy (23.7%), services (2.1%), non-energy industrial goods (2%) as well as food, alcohol and tobacco (1.9%).

Inflation in Germany jumped to 4.6% and both France and Italy to 3.2% but the lowest annual inflation rates were registered in Malta (1.4%), Portugal (1.8%), Finland and Greece (both 2.8%) with the highest in Lithuania (8.2%) and Estonia (6.8%). Despite the higher inflation, we have strong justifications that the European Central Bank (ECB) will be among the last central banks to raise its interest rate from a record low. ECB president Christine Lagarde has been pushing back all calls for interest rate hike for 2022, insisting that the current inflation movement is transitory which will fade sometime early next year.

A premature hike in the interest rate can choke the economy’s recovery process.

In addition, the €1.85 trillion (RM8.88 trillion) pandemic emergency purchase programme that helped propped up the economy during the early stage of the pandemic had begun to wind down in September 2021 and is expected to end by March 2022.

With the unlikely “stagflation” noises being priced in and inflation dynamic rather transitory, our baseline view is that the ECB will maintain its current policy rate through 2024.

Looking at European stocks, we maintain our “overweight” outlook for 2022.

Following record returns this year, European stocks are looking cheaper than they did at the start of 2021. Europe equities continue to present good value versus the United States and excellent value versus other assets. Low interest rates and an upbeat recovery view add to the cheap valuation package, making them attractive.

Other reasons to expect better earnings growth from Europe in the next cycle are higher commodity prices, modestly higher bond yields that will boost bank returns and more infrastructure spending, especially on green capital expenditure, which will add to top-line growth.

We can foresee their share to be more stable and witness higher growth among companies.

On currency, our in-house projection suggests that the euro/US dollar exchange pair will hover around 1.19 in the year 2022 and 1.20 in 2023, which is a tinge stronger than the recent trend while the euro/ringgit pair will trade around 4.86 for 2022 and 4.88 in 2023 based on the cross currency calculation.

For FX enquiries, please contact: ambank-fx-research@ambankgroup.com.

For Fixed Income enquiries, please contact: bond-research@ambankgroup.com

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