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A fragile and uneven recovery

In light of high frequency data and following the Q2 GDP report, we are revising our euro area GDP forecast for this year.

Leading indicators confirm that a recovery is underway in the euro area. Purchasing manager indexes (PMI) for July, for example, were back in expansion territory. But while surveys are rebounding from very depressed levels, business activity is not yet back to normal. Recent increases in coronavirus cases in some regions have dashed the hopes of a quick bounce back in tourism bookings. This will be particularly painful for southern economies where tourism accounts for an important share of GDP.

Euro area real GDP contracted by 12.1% q-o-q in Q2, having already declined by 3.6% in Q1. The Q2 figures showed than Italy, France and Spain, fared much worse than Germany, where lockdown was shorter and less stringent. It is mostly due to Germany that we have decided to revise up our GDP growth forecast for the euro area to -8.5% in 2020 (from -9.5% previously). The fall in German GDP has been less dramatic than we had anticipated (-10.1% q-o-q in Q2) and a particularly large stimulus package will help to sustain the German recovery in H2 2020.

The extension of policy supports such as partial unemployment schemes or state loan guarantees remains crucial to the euro area since the recovery is not yet self-sustained, as the latest ECB’s bank lending survey revealed. While the survey showed that the ECB and government policy actions have been highly effective in maintaining credit flows to corporates during the pandemic, banks expect a net tightening of credit standards in Q3 as support schemes in some countries, notably Spain, come to an end.

In all, the recovery remains fragile, uneven and not yet self-sustained. The risks to our euro area growth outlook remain tilted to the downside and we do not expect euro area GDP to return to its pre-crisis level before 2022 (with northern Europe recovering faster than southern Europe). The contraction in output has been deeper and the recovery will probably take longer in southern European countries, where a structural tilt towards services (notably tourism), relatively limited fiscal room and political issues make responses to the crisis more complicated. More positively, the July deal on the recovery fund as well as the ECB’s ongoing economic support via its pandemic emergency purchase programme (PEPP) should help close the gap between north and south.