News in Charts: The Euro Area and Sentiment Indicators

Last year, the euro area enjoyed the strongest year of its cyclical upswing, with GDP growing by 2.4%. However, data released for Q1 of this year have moderated slightly, suggesting that the momentum in the currency bloc’s expansion may slow in 2018. Further downward pressure on growth may also stem from tighter ECB policy towards the end of the year.

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To gauge the extent of this slowdown, Fathom’s Economic Sentiment Indicators (ESIs) aim to distil the responses to various consumer and business surveys into one composite measure. The indicators have been trained on quarterly GDP growth, and by construction have the same mean and variance as those series. They display less short-term volatility than quarterly GDP growth and aim to measure underlying economic activity in the economy, rather than act as the best possible predictor of GDP growth from one quarter to the next. The aggregate ESI for the euro area fell 0.1 percentage points to 1.3% in March — its second monthly decline — as political uncertainty in France and Italy affected consumer confidence.

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Despite the indicators weakening since the turn of the year, they remain firmly in expansionary territory. Like other soft data, Fathom’s ESIs ran ahead of the hard data in 2017 and so this slowing may reflect a narrowing of the gap. On balance, Fathom views the weakness evident in the surveys as a signal that first quarter GDP growth for the euro area may be lower than had been expected at the start of the year.

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Looking forward, President Trump’s proposed tariffs and concerns about global trade wars may prove a cause of business pessimism, especially for major export nations such as Germany. Indeed, the forward-looking expectations component of the German Ifo survey has declined substantially since the turn of the year, potentially reflecting such fears.

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Overall Fathom concurs with the market’s view that the euro area is unlikely to fall apart in the near future. Arguably, there is even some scope for upside risk if Germany and France make progress towards enhancing the durability of the currency bloc’s structural framework — a so-called ‘golden scenario’ for the euro area.

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