State of the economy: Incomplete and consumption-driven recovery
The year 2020 has bid farewell with yet more horror reports of COVID-19 infections. The first months of 2021 will also be dominated by measures against the pandemic. We anticipate a further difficult coexistence between COVID-19 risks and efforts to try granting as much economic normality as possible. We must still expect drastic restrictions on public and economic life at least in Q1 2021. However, the vaccination cycle that has started gives hope for improvement in the course of 2021. In the second half of 2021, a consumption-driven economic recovery should solidify in Europe. After an unprecedented slump in private consumption in 2020, it seems highly likely to expect a moderate recovery. This is especially true in light of the massive increase in savings rates and savings volumes due to cautious and fearful saving as well as forced consumption restraint. These funds should ensure a rebound effect in private consumption in 2021.
The investment cycle in 2021 will probably start off much more cautiously. This will also be a challenge for policymakers. After all, a prolonged and repeated opening and closing of important economic sectors in 2021 is not bearable under the principle of proportionality and the burden of indebtedness. In the US, the restrictions have been less severe than in Europe, which is why both the loss of value added in 2020 was less pronounced and the cumulative loss of income by the end of 2022 should be more moderate than in Europe. Although Q1 is still likely to start very depressed, we expect a marked catch-up process in the course of the year. In the USA, GDP growth of around 3% is possible in 2021, while the euro area GDP may grow by 4% - from a significantly lower starting level. In Central and Eastern Europe, the rebound is likely to be varied, but on balance quite strong at around +4%. Austria's economy is particularly affected by the COVID-19 crisis due to the high share of the service sector. Consequently, after the more than 7% GDP decline in the previous year, uncertainty about the catch-up process in 2021 is very high. We expect a gradual easing after a difficult Q1, so that GDP growth of around 3.5% should be achievable on average for the year. Nevertheless, this leaves the recovery incomplete. We expect economic output in the euro area and Austria to return to pre-crisis levels only towards the end of 2022. In some CE/SEE countries this could be the case somewhat earlier. This means that this "crisis of the century" has cost us two to three years in economic output. In hard-hit sectors, it could take until well into the 2020s before pre-crisis levels are reached.
Monetary and fiscal policy: avoid cliff effects, shift burdens across generations
Massive and coordinated monetary and fiscal policy impulses were necessary in 2020 to preserve confidence in the ability of policymakers to manage the economy. Moreover, it seems sensible to spread the costs of this "crisis of the century" over the long term, even generations. And this is precisely what is happening in the light of the current monetary and fiscal policy orientation in Europe and the USA. In the markets for government bonds in the US and Europe, the increase in steering has been unmistakably visible in 2020, with yields barely moving over the course of the year. The signs for 2021 and beyond point in a similar direction, especially in Europe. It is true that in the course of 2021 the inflation rate could temporarily approach the European Central Bank's (ECB) target due to the expiry of base effects. However, this phenomenon should be short-term and, in our view, should not lead to a substantial rise of European benchmark interest rates. This is because the current monetary policy stance in Europe and the US is currently fixed for years, with tapering tantrums and euro area (debt) crisis experiences sending their regards.
Ultimately, however, a coordinated monetary and fiscal policy in Europe should ensure a sustainable return to the inflation target in the longer term, which is important in view of the level of indebtedness. However, a tentative normalization of the negative interest rate environment at the ECB is by no means to be expected before 2024 or 2025. Moreover, we do not see a normal cycle of interest rate hikes then. In Eastern Europe, inflation could pick up more quickly than in Western Europe and therefore first interest rate normalization are conceivable here from 2022. Moreover, central banks in Eastern Europe have not used such extensive unconventional monetary policy measures as the ECB, which must first be rolled-back cautiously before interest rates are normalized. Therefore, we clearly do not expect any cliff effects from the ECB in 2021. Nevertheless, there is currently a lot of talk about so-called "cliff effects" if moratoria, deferrals and fiscal support should abruptly expire in 2021. Insolvency and unemployment rates could then rise sharply and immediately. However, we do not think that such economic policy experiments are really on the agenda in light of an incomplete recovery. Therefore, we expect a moderate scaling back of current support measures, although more differentiation between individual sectors is conceivable in 2021.
Financial markets: Have quickly absorbed "external shock"
Financial market investors correctly processed the nature of this crisis early in 2020. An external shock, equivalent in the short term to a "black swan" event like the global financial crisis in 2008/09, has hit the real economy and financial sector. However, unlike in past economic and financial crises, for the time being there are no inherent and accumulated massive economic imbalances to be corrected over a longer period of time. Moreover, it has become clear that politicians want to maintain confidence in their steering abilities at almost any price. The very generous design of fiscal and monetary policy right from the beginning of the COVID-19 dissemination has very quickly led to a support of prices on the riskier financial markets. In this respect, investors have been betting since spring 2020 that there will be a significant economic recovery over the next 12-18 months. Thus, the positive news about the availability of vaccines in the last quarter of 2020 also had a stronger overall impact than the COVID-19 infection, which shot up again. By the turn of the year 2020/21, stock markets had mostly recovered their losses and in some cases even reached new highs. In the USA, the technology sector and cyclical consumption in particular have been the drivers of development, while the sector structure in Europe with a high weighting of energy and finance has been a burden. While the earnings outlook in 2021 and the continued very expansionary monetary and fiscal policy could act as positive influences, the high valuation level and unpredictable restrictions by governments in the COVID-19 pandemic are clear risk factors. It will therefore also depend on investment styles and thus sector favourites which stock indices perform better or worse in 2021. However, the "special boom" on financial markets in 2020 has already anticipated much of the positive economic outlook for 2021 and 2022.
Economic slump in Europe in comparison: Real GDP (% yoy)
|IMF, RBI/Raiffeisen Research; Euro area forecast RBI/Raiffeisen Research, other forecasts IMF World Economic Outlook Autumn 2020|
European and "Green Swan" learning experiences from the crisis
It should be emphasized that European policymakers and the ECB have acted quickly and pragmatically on many levels. Therefore, no euro area collapse scenarios became virulent on markets. Moreover, crisis management was no longer euro centric. ECB actively assumed its role beyond the euro area via swap and repo lines for central banks from Central and Eastern Europe, the "New Generation-EU package" benefits all EU countries. Cliff effects were also avoided with Brexit and an agreement on the EU budget was also reached. In the middle of the crisis year 2020, Bulgaria and Croatia were finally given a clear euro area perspective. In our opinion, all this has created confidence in Europe's ability to act. On international financial markets, this has been impressively demonstrated by the external value of the euro or record demand for EU Sure or Social Bonds. Apart from the positive developments outlined above, we have unfortunately experienced restrictions on public and economic life that were hardly thought possible. We think that we do not want to experience this again. In this respect, it is important to emphasize that the rather heavy-handed and centrally steered lockdowns in Europe were necessary because we have performed worse than many Asian countries in decentralised crisis management - also with the help of technological innovations of digitalisation. This must be acknowledged without envy and also explains why Europe and the euro area are very badly affected by the 2020 GDP slump compared to other large industrialised nations and Asia. We therefore have some catching up to do in terms of the comprehensive digitalisation of our societies and the acceptance of the associated developments.
In addition, borders and many industries were hysterically closed in Europe in the spring. Fortunately, the second and third lockdown phases take a more differentiated approach, as industrial production, for example, does not contribute to clustering. In this respect, hectic and unfounded border closures, closures of resilient economic sectors and national go-it-alones are hopefully no longer to be expected in 2021. Otherwise, the trust that has been gained in the European ability to control and act can hardly be maintained among the population and also from an international perspective.
From an economic point of view, we have certainly experienced a crisis of the century in 2020, which we hope will not be repeated. On a global scale, however, this crisis has also shown us how vulnerable we are in times of complete economic hyper-connectivity and interdependence. Hopefully, this has also made us more aware of the significance that global challenges such as climate change and the associated uncertainties, complexities and non-linearities in the sense of "Green Swan" crises (to a certain extent comparable to the COVID-19 crisis) can have for our social and economic lives.
Peter Brezinschek is acting as Chief Analyst in Raiffeisen Banking Group since 1985. From 1999 to 2020 he was Global Head of Raiffeisen Research. In 1992 he founded the CEE analysis activity in Austria and locally in Central & Eastern European units. Since 2002 he has bundled all economic and financial analysis of the Raiffeisen Banking Group under the brand name “Raiffeisen Research”. He has worked as a co-author on several specialist books and regularly gives public lectures on economics and financial market topics. Active as an expert in the Austrian Fiscal Council for 20 years. The principal interests are ordo-liberalism & economic policy in the context of climate change, the business cycle development as well as monetary & fiscal policy. In his private life he likes to do all kinds of sports to enjoy nature and stay fit. Personal passion is financing tree planting in the City of Vienna.
Gunter Deuber is heading the Economics and Financial Analysis division (Raiffeisen Research) at Raiffeisen Bank International (RBI) since 1 January 2021. Since 2011, Gunter Deuber has held leading positions in RBI's Economic and CEE Research and has continuously expanded the cooperation with his research colleagues in RBI’s subsidiary banks in CEE. Since the early 2000s, he has been analysing economies, banking sectors and market topics with a focus on CEE and EU/euro area topics for RBI in Vienna, but also in the international (investment) banking context in Frankfurt. He regularly presents the views of Raiffeisen Research and his research team at meetings with investors and clients. He is a well sought-after speaker at landmark events in the finance and banking industry and a guest lecturer at several universities/teaching institutions. In 2019, he was nominated for the US State Department's IVLP (International Visitor Leadership Program). Gunter has published several edited volumes on Euro/EU crisis issues and published various articles in professional journals and industry magazines. Outside the office, Gunter enjoys travelling with his family and long-distance running.