Eurozone: Uneven expansion faces fiscal tightening risks – BNY

Manufacturing weakness in France and Italy contrasts with Germany’s role as the mainstay of the Eurozone recovery, while political uncertainty is weighing on French PMIs. BNY’s Geoff Yu highlights this uneven growth and warns that impending French fiscal consolidation could alter expectations for the ECB. If fiscal tightening proves stronger than expected, domestic demand could weaken, prompting a reassessment of Eurozone policy and euro valuations.

Diverging PMIs and fiscal pressures cloud the outlook

"Eurozone expansion isn’t broad based. There is plenty to cheer for in the latest PMI releases. However, the S&P Global report also warns that “growth is by no means broad-based, with manufacturers in France and Italy in particular continuing to struggle, the former suffering the additional stress of domestic political uncertainty.”"

"French PMIs have hovered around 50 for most of the year, so a small contraction doesn’t signal a serious turn in the cycle. Italian manufacturing worries us more: it’s starting to slip from its Q2 highs, with S&P Global warning of fading optimism “amid faster falls in output and new orders.” Given their size, a prolonged deterioration in Italy and France would weigh on Eurozone aggregates and may prompt greater ECB recalibration."

"The main candidates in next year’s French presidential election will also commit to consolidation. Some, such as Marine Le Pen, have already called for ECB support in the process. That implies balance-sheet expansion, which would undermine the euro."

"Stronger-than-expected fiscal tightening across the Eurozone could yet sap domestic demand and force policy expectations to adjust."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)