Macroeconomic focus - May 2020 – Tribune Lazard Frères Gestion

Has the economy bottomed out?

The succession of lockdowns across Europe led to a collapse in eurozone GDP (1), which fell by 14.4% on an annualised basis in the first quarter. Unsurprisingly, declines have been steepest in the countries that implemented the strictest measures: -8.6% on an annualised basis in Germany compared to -21.4% in France, -17.7% in Italy and -19.4% in Spain.

The good news is that the improving health picture is leading to gradual lockdown easing and that no signs of a second wave have appeared in the countries that eased lockdown first (Austria, Germany, etc.). This should drive a first phase of economic recovery until the end of the year, or more precisely a return to normal activity levels in the sectors that were least disrupted by the Covid-19 control measures. A second recovery phase will start at the end of the year.

Eurozone PMI (2) indices for May show a sharp rebound from April’s abyssal depths, with the composite PMI rising from 13.6 to 31.9. The rebound in the services component is spectacular: after plummeting from 52.6 in February down to only 12 in April, it recovered to reach 30.5 in May, although this remains particularly low. The manufacturing PMI rose from 33.4 to 39.4. The PMI indices are usually closely correlated with economic growth, but this is unlikely to hold true in the months ahead as the traditional cyclical mechanisms will not be the only factors at play in the economy.

Faced with the coronavirus crisis and under the impetus of France and Germany, the European Commission (3) has unveiled a €750 billion recovery plan (5.4% of EU GDP). Funds for this extraordinary supplement to the multi-annual financing framework will be raised on the bond markets and then redirected towards the worst-affected sectors and regions in the form of grants (€500 billion) and loans (€250 billion) over a three-year period starting in January 2021. Italy and Spain are likely to be the first recipients. This recovery plan must be approved by the 27 EU Member States but will not be welcomed by the ‘frugal four’ (Austria, Denmark, Sweden, the Netherlands) given their resistance to the idea of debt pooling. They are seeking assurances that funds will be used properly, as well as a commitment to reforms.

(1) GDP: Gross Domestic Product, indicator of the wealth produced by a country. The main economic indicator measuring the economic production achieved within a given country

(2) PMI: PMI indices are confidence indicators that summarize the results of surveys conducted among company purchasing managers. A value greater than 50 indicates a positive sentiment in the sector concerned (manufacturing or service).

(3) European Commission: the executive branch of the European Union, responsible for proposing legislation, implementing decisions, upholding the EU treaties and managing the day-to-day business of the EU.

First signs of a pick-up?

Lockdown has resulted in a 4.8% year-on-year fall in first-quarter US GDP1. This is the steepest decline since the 2008 crisis and is expected to be even steeper in the second quarter as business was at a standstill in most Federal States in April. Retail sales and industrial production fell by 16.4% and 11.2% respectively over the month. The Atlanta Fed2, which calculates GDP on a weekly basis from published data, estimates the second-quarter contraction to be around 40% on an annualised basis.

April’s employment report illustrates the scale of the impact: 20.5 million jobs were lost over the month and the unemployment rate now stands at 14.7%, a record high since the Great Depression of the 1930s. This figure probably underestimates the deterioration because six million people have left the labour force. The increase in unemployment roughly matches the increase in short-time working, which is positive in terms of the potential for recovery. However, caution should be exercised as those attributing their unemployment status to Covid-19 would be counted in this category. April’s sharp rise in average hourly wages (4.7%) is due to underlying components, as most of the lost jobs were of the low-paid variety.

Weekly labour market data are sending mixed signals. New jobless claims have been declining for the past seven weeks but remain at extraordinarily high levels. The number of people receiving unemployment benefits seems to be stabilising, meaning that some of the unemployed are returning to work, a positive signal.

While it still seems too early to say that the US labour market is recovering, May’s confidence surveys rebounded from their rock-bottom levels. The Markit (3) PMI (4) indices rose from 36.1 to 39.8 in the manufacturing sector and from 26.7 to 37.5 in the services sector. There was also a slight rebound in both the Conference Board’s (5) Consumer Confidence Index and the NAHB (6) Home Builders’ Index, both of which remain well below levels seen at the start of the year.

On a positive note, the pandemic appears to have passed its peak. Since the high point in mid-April, the number of new cases has been gradually declining and there has been a marked slowdown in the number of new deaths. The better health picture has enabled most Federal States to reopen for business, which should mathematically translate into a pick-up in activity from the third quarter onwards.

(1) GDP: Gross Domestic Product, indicator of the wealth produced by a country. The main economic indicator measuring the economic production achieved within a given country.

(2) Fed: US central bank.

(3) Markit: American economic information company.

(4) PMI: PMI indices are confidence indicators that summarize the results of surveys conducted among company purchasing managers. A value greater than 50 indicates a positive sentiment in the sector concerned (manufacturing or service).

(5) Conference Board: it is a non-profit business membership and research group organization that convenes conferences and peer-learning groups, conducts economic and business management research, and publishes several widely tracked economic indicators.

(6) NAHB: Housing Market Index based on the sale of new homes at the present time and in the next six months as well as the traffic of prospective buyers of new homes.

Further recovery

Lockdown has caused China’s first-quarter GDP (1) to fall by 33.8% on an annualised basis, bringing the year-on-year decline to -6.8%. This record contraction masks an economic rebound that started in March and is confirmed by April’s data. Year-on-year growth for industrial production returned to positive territory at 3.9% compared with -1.1% in March, as did investment, which came out at 0.8% compared with -9.3% in March. However, year-on-year, the services index posted -4.5% and retail sales -7.5%, versus -9.1% and -15.8% respectively in March. The breakdown of retail sales shows a noticeable rebound in automobile purchases and spending on housing equipment, while the improvement is less pronounced for spending on food service, which is the only component of services included in retail sales.

PMI (2) surveys have rebounded sharply from their February lows. Caixin (3) and NBS (4) average manufacturing PMI posted 50.7 in May and the services PMI posted 54.3. They are thus back above the levels that prevailed in January, which is good news but does not mean that the level of activity is higher than at the beginning of the year. Although new export orders have fallen sharply, export volumes held up well in April (+3.5% year-on-year) due to base effects and perhaps the shipment of orders that had been placed pre-lockdown. In contrast, imports have fallen behind (-14.2% year-on-year).

During the National People’s Congress, the authorities announced they were abandoning their annual growth target due to uncertainty. The objective set for economic policy will now be to support employment and investment. A combination of increased fiscal stimulus and monetary policy will be implemented. The Chinese government also committed to implementing the US-China trade agreement, but the renewed tension between China and the United States is something to watch out for.

(1) GDP: Gross Domestic Product, indicator of the wealth produced by a country. The main economic indicator measuring the economic production achieved within a given country.

(3) Caixin: PMI indicator of the strength of the Chinese economy.

(4) NBS (National Bureau of Statistics of China): agency responsible for collection, investigation, research and publication of statistics concerning the nation’s economy, population and other aspects of the society.