big addition seen earlier in the expansion. Inflation remains stuck in low gear. Headline and core prices rose a little over 1% in the last year. Soft inflation owes mainly to deflation in goods prices, which depends heavily on import prices, which in turn depends heavily on global growth. While global growth disappoints, there’s little reason to think there will be significant upward pressure on US inflation any time soon. In terms of monetary policy, the Federal Reserve policymakers have signalled that they are broadly comfortable with their plan for the slow removal of accommodation which was put in place last December. They plan to end asset purchases later this year so long as there is not a significant change in the outlook. As the unemployment rate has fallen quickly, they will have to tweak their forward guidance before long. In particular, the 6.5% threshold for the unemployment rate is nearly obsolete. Although there’s some debate, it appears that the Fed will eventually settle on qualitative guidance that de-emphasizes the unemployment rate in favour of a broader dashboard of indicators as a guide to when to expect rate hikes. EMU In its monthly policy meeting in March, the ECB Governing Council decided to leave the key interest rates unchanged while refraining from adding any other liquidity measure. The ECB also published a new set of macro projections forecasting an inflation rate of

well below the ECB definition of price stability throughout the whole forecasting period, encompassing for the first time 2016. The policy decision, together with the tone of a press conference hinting at reluctance by the ECB to stimulate the economy any further despite the disappointing inflation outlook, contributed to spark a renewed appreciation of the Euro, which risks compounding the strong disinflation trend.


In the last quarter of 2013, eurozone GDP expanded by a relatively robust 0.3% q/q, ahead of consensus expectations, but in line with our forecasts. The flow of actual indications on economic activity – namely retail sales and industrial production – at the beginning of this year showed a rebound in January following a disappointing December. Car registrations in the first two months of 2014 were instead lower, largely as a payback for the bounce in the last quarter of 2013. Moreover, in February the PMI survey showed an improvement in the business sector, led by services, as the Composite PMI improved further from 52.9 to 53.3 – the highest level since June 2011 – led by stronger business services, while manufacturing softened somewhat. However, the Retail PMI, not included in the Composite PMI, fell back below the 50 threshold from 50.5 to 48.5, indicating a possible renewed setback of retail sales after a strong January. The annual growth rate of eurozone broad money M3 recovered modestly in January from its sharp deceleration in December, when banks sold government bonds and reduced their overnight deposits ahead of the ECB’s asset quality review snapshot. Bank lending numbers remained largely unaffected by the snapshot, and the annual growth rate of credit to the private sector remained unchanged in January as well. Overall, the money and credit figures remain weak in all countries and are consistent with further disinflationary pressures down the road. The flash measure of euro area HICP inflation remained unchanged at 0.8% y/y in February, as a noisy jump in French inflation, only partly related to a VAT increase, more than offset the decline in most of other countries. The final February figures as well as the March readings will shed light on whether inflation remains on a downward trend, and whether this trend is consistent, or lower, than the newly published ECB forecasts.





The ongoing theme in the UK data is strong growth with weak inflation. Monthly business indicators over the past months have stabilised at high levels or eased back slightly, but have generally remained resilient. Consumer confidence has risen back to pre-crisis levels. Unemployment claims data point to ongoing improvement in the labour market, consistent with above-trend growth. While some moderation in growth is expected in the next few quarters, the data have, if anything, been a little more resilient than had been expected. The composition of growth is also becoming better balanced, which reduces the risk that it will fall back sharply. The initial growth pick-up relied heavily on housing and consumption. Moreover, that consumption acceleration was largely financed with a reduction in savings, as real incomes remained broadly stagnant. But more recent data show improved balanced growth in two respects. First, investment is making an increasing contribution to growth, and with investment intentions at cyclical highs this strength looks set to continue at least in the near term, offsetting the drag from slowing consumption growth. Second, with inflation falling further below target but some increase in wage inflation due to a stronger labour market, real household incomes are set to rise. While consumption growth has slowed from its unsustainable pace in mid-2013, these real income developments are likely to put consumption growth on a sounder footing for 2014. External rebalancing remains a more distant prospect, as this relies on eurozone

demand improving by more than currently seems likely. Inflation remains benign and continues to surprise the Bank of England (“BoE”) on the downside. Headline inflation has fallen to 1.9%, core is at 1.6% (both at the lowest since 2009). Wage inflation, on the other hand, shows some early signs of improving from its historical lows of around 1%. As the year progresses, wage inflation is expected to normalise further, although since productivity growth is also expected to improve this would not represent a rise in underlying inflationary pressure.


The BoE announced in February that there would be no further quantitative guidance once the 7% forward guidance unemployment threshold is reached, likely within the next few months. Instead, the BoE has announced its intention (but not commitment) not to hike in the near term, to hike only gradually once hikes start, and to hike to a level well below historical estimates of the neutral rate. The main reason why quantitative guidance has been dropped is that the BoE faces significant uncertainties over the required path of interest rates, linked closely to the uncertainty about productivity. If productivity growth does not pick-up, wages cannot sustainably pick-up either. The recovery would likely fizzle out. If productivity growth does pick-up (still the BoE’s forecast) growth will become more sustainable. But such productivity-led growth would also generate very little inflation pressure. The case for rate hikes would mostly rest on a desire to move away from emergency policy settings, rather than a need to curtail immediate inflation pressures.





Real GDP rose 0.7% in the fourth quarter of 2013, disappointing the market consensus. However domestic demand was solid with PCE posting a decent rate of increase and business investment rising rapidly. Soft export demand and a sharp run up in imports held down the top line. There is some thought that importers moved goods to be set up for a first quarter surge in demand as purchasers front run the consumption tax increase. However, imports rose at a robust rate earlier in 2013, and

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