Eurozone: Plunging Output to Force ECB’s Hand

- The ECB’s growth projections for late 2008 and for 2009 looked unrealistically optimistic already when the bank published them in early December. The sharp decline in industrial output now reported for October will likely force the ECB to base its internal debate on sharply lower projections —- yet again. Although the ECB refused to provide any guidance about the rate outlook since its December rate cut and probably is not yet ready to ease again in January, the stream of bad data will likely tilt the balance towards a 50bp cut in January, in our view.


Plunging Output Points to January Rate Cut

Just when you think that you’ve braced yourself for really bad news, it gets even worse than that. Our forecasts for GDP in the near future seem to be well below consensus already. However, the collapse in industrial output reported by key Eurozone countries for October shows such a dismal start into the fourth quarter that we have to revise our GDP calls down again. We now project a 0.9% quarterly decline in 4Q 2008 GDP instead of a 0.6% qoq fall. The lower starting level for 2009 GDP takes our forecast for annual GDP next year to -1.8% from -1.5%.

The October data for industrial output need no further comment. Relative to the 3Q 2008 average, output in October fell by

• 3.2% in Germany,
• 3.4% in France, and
• 2.8% in Italy.

For Spain, the yoy rate of the change in industrial output plunged to -11.2% in October from an average of -5.7% in 3Q 2008.

We usually hesitate to draw conclusions from volatile monthly data which are prone to major revisions. However, the drop is too uniform, and too much in line with the already recorded slump in business confidence and in manufacturing orders, to be taken lightly (see Figures 1 and 2). Reports that many car manufacturers are letting key capacities run idle for major parts of December suggest the decline in output will probably be worse at the very end of this year than in October.

Judging by the 4th December ECB press conference and by recent council member speeches, the ECB has not made up its mind yet as to whether rates need to be cut again shortly. The ECB merely signaled that it would be pragmatic and ease further if need be without dropping any hint that the bank expects the need to arise as early as January. The new data may force the ECB to put a rate cut debate on the agenda again in January.

When the ECB projected the 2009 annual GDP change to be in a range between zero and -1%, we called these projections unduly optimistic and way out of line with our own -1.5% call at the time. The industrial output data for October show even more clearly that the ECB projections were badly outdated by the time they were published on 4th December. The plunge in industrial output and manufacturing orders as well as the recent further declines in business confidence indicators will probably force the ECB to sharply cut its growth projections soon. Although the ECB will publish new staff projections only in March 2009, we think that the rate discussion at the 15th January ECB meeting will already be based on a much more realistic recession scenario.

As a result, we maintain our view that the ECB will deliver the next rate cut, from 2.5% to 2.0%, in January although the ECB was apparently not yet planning to do so. By March 2009, the ECB refi rate is likely to hit a cyclical low of 1.5%.