Pace of recovery remains slow and uneven
The ECB also continued to give the strong impression that rates will not be increased any time soon. It seems very unlikely that the ECB would be prepared to lower the refinancing rate below the 1% level, preferring, if necessary, to use other means to support the euro economy in the event of increased risks of a double-dip recession.
While the recession in the eurozone proved very deep, the recovery in activity is slow and uneven.
This is not expected to change in the short term, following the renewed tensions in financial markets and fiscal tightening now being undertaken in many eurozone countries.
This will leave the euro economy with a large amount of spare capacity for a prolonged period. Thus, although headline inflation has edged up to around 1.5%, price pressures are expected to remain subdued over the medium term.
While the ECB anticipates that the eurozone will continue recovering at a moderate pace, it has also highlighted the uneven nature of the recovery.
Last month’s ECB’s staff quarterly economic forecasts showed they expect the eurozone economy to expand by just 1.0% in 2010 and 1.2% in 2011, following the sharp decline of 4.1% in GDP in 2009. The forecasts see inflation averaging 1.5% in 2010 and 1.6% in 2011, well below the key 2% level. These forecasts suggest the ECB has the scope to keep rates at their current historically low levels until well into 2011.
The recovery in activity has proved very feeble so far. A rise in inventories more than accounted for the modest average increase of 0.2% in GDP in the first three quarters of this upswing — GDP growth was boosted by an average 0.5% per quarter contribution from inventories over this period.
Recent data, though, suggest the recovery picked up speed in the second quarter and we expect to see a solid rise in GDP in that period.
The composite PMI has risen sharply since last summer. It averaged 56.5 in the second quarter, up from 54.4 in the first three months of 2010 and 53.6 in the final quarter of 2009. It is at levels consistent with a strongly growing economy.
Other data, though, have remained weak, suggesting the economic recovery is still being largely driven by industry and exports — rising industrial output accounted for the entire 0.7% rise in GDP between the third quarter of 2009 and first three months of 2010.
Retail sales — very weak in the January to March period — fell by a sharp 0.9% in April before registering a modest 0.2% rise in May, indicating that consumer spending remains depressed. Meanwhile, low capacity utilisation rates are depressing investment. The provision of credit remains constrained — there has been virtually no growth on an annual basis in either private sector loans or M3 in recent months.
Meantime, the jobless rate has reached 10% and the annual inflation rate excluding energy stands at just 0.8%. Hence, Mr Trichet repeated again that the refi rate is at an appropriate level. Nevertheless, money market rates have been steadily edging higher in recent months as the ECB cuts the duration and availability of liquidity support measures despite rising tensions in sovereign debt markets and continuing concerns about the health of the banking system.
The ECB president would not be drawn on whether the ECB would keep its ultra-easy lending facilities in place beyond the current proposed end dates — the last unlimited or full allocation three-month repo tender is scheduled for the end of September.
