Yves Nosbusch


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Outlook for the second quarter of 2014


Volatility returns in the first quarter
Emerging markets had a difficult start to the year, with some countries – notably Argentina – coming under economic strain and, more recently, the emergence of new geopolitical risks in connection with developments in Ukraine. This renewed uncertainty affected equity markets, which had a volatile first quarter. Investors turned to safe havens, which explains the good performance of US and German government bonds, as well as the very strong performance of gold in the early part of the year.


Euro zone: Quantitative Easing?
The recovery seems to be gaining traction in the euro zone, with 0.3% quarter on quarter growth in the final quarter of 2013. We have revised our 2014 growth forecast up to 1.4%. Meanwhile, inflation has slowed sharply, reaching 0.7% in October 2013. It then rebounded slightly before falling back again to 0.7% in February 2014 according to the latest estimates. We expect an inflation rate of 0.7% for the full year 2014, lower than the ECB's forecast of 1%.


This pattern may come as a surprise. If growth is accelerating, then why is inflation slowing? One of the main reasons is excess capacity, which means that the euro zone still has a substantial output gap. Real activity would have to accelerate more swiftly to start generating inflationary pressures. A second point is that a significant part of the slowdown in inflation since 2012 is explained mechanically by lower oil prices and the appreciation of the euro, which has reduced import prices.


If actual or anticipated inflation keeps surprising on the downside over the coming months (as we expect) then the ECB could introduce new measures. Among the available options, Quantitative Easing, i.e., a large-scale bond purchase programme would perhaps be the most direct way to tackle the slowdown in inflation.


United States: weather effects
The slowdown in growth in the first quarter had a lot to do with the exceptionally bad weather conditions, although it is hard at this stage to precisely quantify their impact. We are still expecting growth to pick up in the medium term.


At its March meeting, the Federal Reserve Board of Governors, chaired by Janet Yellen, decided to continue tapering its QE3 programme of bond purchases. If everything goes according to plan, this programme is due to be wound down by the end of the year. Following comments by President Yellen at the press conference of 19 March, the markets now think the Fed could begin raising short-term interest rates as soon as the first half of 2015, which is earlier than previously expected.


Could Abenomics be running out of steam?
In Japan, the uptick in growth could falter because of the VAT increase scheduled for early April. Consumers have been bringing purchases forward ahead of the hike, prompting a temporary spike in consumption that is likely to be partially reversed once the higher rate comes into effect. This makes it all the more important to make rapid headway on structural reforms.



Article completed on 20 March 2014 by Yves Nosbusch, Chief Economist of the Bank