European Central Bank — Economic Bulletin (Europe, 2017)

Economic Bulletin Issue 1 / 2017 Contents Update on economic and monetary developments Summary 1 2 3 4 5 External environment Financial developments Economic activity Prices and costs Money and credit Boxes 1 2 3 4 5 Economic growth in the euro area is broadening Financial cycles and the macroeconomy Wage adjustment and employment in Europe: some results from the Wage Dynamics Network Survey The role of energy base effects in short-term inflation developments What has been driving developments in professional forecasters  inflation expectations? Article 1 MFI lending rates: pass-through in the time of non-standard monetary policy Statistics 2 2 4 8 10 14 16 20 20 24 28 34 36 40 40 64 ECB Economic Bulletin, Issue 1 / 2017 1 Update on economic and monetary developments Summary The monetary policy decisions taken in December 2016 have succeeded in preserving the very favourable financing conditions that are necessary to secure a sustained convergence of inflation rates towards levels below, but close to, 2% over the medium term. Borrowing conditions for firms and households continue to benefit from the pass-through of the ECB s measures. As expected, headline inflation has increased recently, largely owing to base effects in energy prices, but underlying inflation pressures remain subdued. The Governing Council will continue to look through changes in HICP inflation if judged to be transient and to have no implication for the medium-term outlook for price stability. Available global indicators point to a continued moderate rebound in world activity and trade growth towards the end of 2016. Meanwhile, global financial conditions have tightened and emerging market economies have been confronted with capital outflows. Global headline inflation has increased on the back of waning negative contributions from energy prices. Risks to the outlook for world activity remain on the downside and relate, in particular, to political uncertainty and financial imbalances. Since the Governing Council meeting on 8 December 2016, sovereign bond yields in the euro area have declined slightly and the EONIA forward curve has edged downwards for medium-term maturities. Equity prices of non-financial corporations have risen and the spreads on corporate debt have fallen. The euro exchange rate remained broadly stable in trade-weighted terms. The economic expansion in the euro area is proceeding and strengthening, driven mainly by domestic demand. Looking ahead, the economic expansion is expected to firm further. The pass-through of the ECB s monetary policy measures is supporting domestic demand and facilitating the ongoing deleveraging process. The very favourable financing conditions and improvements in corporate profitability continue to promote the recovery in investment. Moreover, sustained employment gains, which are also benefiting from past structural reforms, provide support for private consumption via increases in households  real disposable income. At the same time, there are signs of a somewhat stronger global recovery. However, economic growth in the euro area is expected to be dampened by a sluggish pace of implementation of structural reforms and remaining balance sheet adjustments in a number of sectors. The risks surrounding the euro area growth outlook remain tilted to the downside and relate predominantly to global factors. According to Eurostat, euro area annual HICP inflation in December 2016 was 1.1%, up from 0.6% in November. This reflected mainly a strong increase in annual energy inflation, while there are no signs yet of a convincing upward trend in underlying inflation. Looking ahead, on the basis of current oil futures prices, headline inflation ECB Economic Bulletin, Issue 1 / 2017   Update on economic and monetary developments Summary 2 is likely to pick up further in the near term, largely reflecting movements in the annual rate of change of energy prices. However, measures of underlying inflation are expected to rise more gradually over the medium term, supported by the ECB s monetary policy measures, the expected economic recovery and the corresponding gradual absorption of slack. Although developments in bank credit continue to reflect the lagged relationship with the business cycle, credit risk and the ongoing adjustment of financial and non- financial sector balance sheets, the monetary policy measures put in place since June 2014 are significantly supporting borrowing conditions for firms and households and thereby credit flows across the euro area. The euro area bank lending survey for the fourth quarter of 2016 indicates that credit standards for loans to enterprises are broadly stabilising, while loan demand has continued to expand at a robust pace across all loan categories. Loan growth to the private sector has thus continued its gradual recovery. Moreover, the overall nominal cost of external financing for non- financial corporations is estimated to have declined slightly in December. At its meeting on 19 January 2017, based on the regular economic and monetary analyses, the Governing Council decided to keep the key ECB interest rates unchanged. The Governing Council continues to expect the key ECB interest rates to remain at present or lower levels for an extended period of time, and well past the horizon of the net asset purchases. Regarding non-standard monetary policy measures, the Governing Council confirmed that the Eurosystem will continue to make purchases under the asset purchase programme at the current monthly pace of  80 billion until the end of March 2017 and that, from April 2017, net asset purchases are intended to continue at a monthly pace of  60 billion until the end of December 2017, or beyond, if necessary, and in any case until the Governing Council sees a sustained adjustment in the path of inflation consistent with its inflation aim. The net purchases will be made alongside reinvestments of the principal payments from maturing securities purchased under the asset purchase programme. Looking ahead, the Governing Council confirmed that a very substantial degree of monetary accommodation is needed for euro area inflation pressures to build up and support headline inflation in the medium term. If warranted to achieve its objective, the Governing Council will act by using all the instruments available within its mandate. In particular, if the outlook becomes less favourable, or if financial conditions become inconsistent with further progress towards a sustained adjustment in the path of inflation, the Governing Council stands ready to increase the asset purchase programme in terms of size and/or duration. ECB Economic Bulletin, Issue 1 / 2017   Update on economic and monetary developments Summary 3 1 External environment Surveys point to a continued moderate recovery of global growth towards the end of 2016. The global composite output Purchasing Managers  Index (PMI) reached the highest level recorded in more than a year (Chart 1), increasing to 53.3 in the final quarter of 2016. Quarterly PMIs rose in all major advanced economies, with PMIs in Japan returning to an expansionary path. PMIs increased in China and Russia, while India s PMI showed a sharp decline in light of the disruptive effects of the recent government decision to change the legal tender status of some of its currency notes. Survey indicators remained very weak in Brazil. Chart 1 Global composite output PMI (diffusion index) global excluding euro area global excluding euro area   long-term average advanced economies excluding euro area emerging market economies 60 58 56 54 52 50 48 2010 2011 2012 2013 2014 2015 2016 Sources: Markit and ECB calculations. Note: The latest observations are for December 2016. Global financial conditions have tightened. Bond yields increased in the United States and across the world in recent months. The tightening of financial conditions has, in part, reflected central bank action in the United States. In December 2016, the Federal Reserve System's Federal Open Market Committee decided to raise the target range for the federal funds rate by 25 basis points, to 0.5% to 0.75%. Amid tighter financial conditions, some emerging market economies (EMEs) have faced considerable capital outflow pressures towards the end of 2016 (see Chart 2). Mexico and Turkey were affected to a particular degree, recording a noticeable depreciation of their currencies and a sharp rise in interest rates. In Turkey, global developments were amplified by domestic political uncertainties and macroeconomic vulnerabilities. China also experienced significant capital outflows and a reduction of its foreign exchange reserves. In Russia, by contrast, the rouble appreciated and stock prices surged, mainly on account of the recovery in oil prices. ECB Economic Bulletin, Issue 1 / 2017   Update on economic and monetary developments External environment 4 Chart 2 Emerging market economies  capital flows (USD billions, 28-day trailing moving-average) equity flows debt flows total flows 1.00 0.80 0.60 0.40 0.20 0.00 -0.20 -0.40 -0.60 -0.80 -1.00 2012 2013 2014 2015 2016 2017 Source: Institute of International Finance. Notes: The most recent observation refers to 18 January 2017. Positive values correspond to capital inflows, while negative values refer to capital outflows. The sample of emerging market economies includes Indonesia, India, Korea, Thailand, South Africa, Brazil, Philippines and Turkey. Global trade remained on a path of subdued recovery towards the year-end. Global trade growth remained in positive territory for the fourth time in succession in October, with the volume of world goods imports increasing by