Europe is in an untenable position. It is being challenged on many fronts. A weaker euro need not result, but it is the path of least resistance.
The economy has lost its momentum. What was first written off as a soft patch, now looks a bit more serious. This will be driven home by the flash PMI later this week, which is expected to fall to a two-year low. Draghi is likely to still put an optimistic spin on things, as he did last month, pinning the hopes on the tightening of the labor market that will spur both demand and price pressures. Eurozone growth is likely a little a little above trend but the direction south.
The Bundesbank warned today that the German economy may have stalled in Q3, citing new emission testing in the auto sector as a headwind. The Bundesbank’s admission follows similar remarks by the Economic Ministry last week. Earlier this month, the ministry shaved this year and next year’s growth forecasts, claiming weaker external demand. Both the Bundesbank and Economic Ministry suggested a recovery is likely in the current quarter after stagnating in Q3. However, if evidence to justify that optimism may not be present in Germany’s flash PMI. Both the manufacturing and service sector readings are expected to have fallen. The ECB staff, which updated its economic forecasts last month won’t do it again until December.
The bar to extend the ECB’s asset purchases at this juncture is very high, and the disappointing data is not sufficient to prompt a reversal of the decision. In lieu of this Draghi could play up the continued purchases of recycling the proceeds of maturing issues, and that several other elements of the extraordinary monetary policy, including negative deposit rates and full allocation of fixed rate refi operations, as well as less stringent collateral rules.
There are bigger and urgent issues. A Brexit without an agreement, as distinct from a hard Brexit, is an especially odious outcome and it cannot be ruled out. As we have argued, the closer that May moves toward striking a deal with the EU, the more tensions rise within her government and Parliament.
With Brexit in the West, the EU is being challenged by the East as well. The European Court of Justice ruled yesterday against Poland’s government, demanding that it suspend its attempts its reforms of the Supreme Court. Brussels is concerned that the changes are not technocratic in nature, but political and a threat to judicial independence. The immediate issue is the forced retirement of 24 Supreme Court judges and others that had been removed. The situation will escalate if a Polish court rules that national laws have priority over EU laws.
