Eurozone Growth on solid footing
Eurozone growth remained solid in the fourth quarter. EZ Q4 GDP hit 0.6% q/q and accelerated to 2.7% y/y, up from 2.6% in Q3. The eurozone economy grew by 2.5% in 2017, up from 1.8% in 2016. Eurozone growth was faster than the US and now stands nearly a full percentage point above that of the UK. The momentum in Europe’s economy goes a long way to explain bullish attitudes towards the euro and European stocks.
The well-received GDP data figures helped lift the euro but global factors could limit the gains. EURUSD has eased back from the 1.25 big level and its over 3% year-to-date gains since Trump aired his support for the dollar in Davos.
State of the Union address could spur rebound
It is unlikely the State of the Union will make any specific reference to the dollar. The Donald is unlikely to want a repeat of the confusion caused by Treasury Secretary’s pro-weak dollar comments, which Trump had to tidy up shortly afterwards. The most probable channel for dollar demand generated by Trump’s State of the Union is via expectation for US growth.
The market reaction to the State of the Union will depend on the balance between growth and protectionism. We are likely to see a more America-first version of Trump than we saw at the World Economic Forum, which was moderately more inclusive. Should Trump reveal some juicy details on his long-awaited infrastructure plan, that could further pump up growth expectations. If the State of the Union returns the focus from inflation to growth, stocks can rebound from Monday’s sell-off.
Dollar looks strong with rising Treasury yields
Trump’s support as well as rising US Treasury yields have given rise to what could be a brief period of dollar-strength. The spread between 10-year Treasuries and German 10-year bunds is widening again, but this time it is the strength in Treasury yields because of higher inflation expectations- rather than falling German yields because of the ECB’s QE program. A potential bear market in bonds has already started make its presence felt with yesterday’s downturn in equities. A correction in equities after such a long bull run could spur a race to safe assets, including gold.
German CPI up next
Looking forwards, German CPI will be relevant given that sluggish inflation is what is allowing the ECB to keep its foot on the QE accelerator. This week ECB policymaker Benoit Coeure reiterated plans for a gradual winding down of the quantitative easing programme, rather than putting an end date to it. Investors will be keen to see if German CPI, which can act as a precursor for Eurozone CPI, is on the move closer to the ECB’s 2% target. CPI on a monthly basis is forecast to drop -0.6%, whilst the annualised reading is expected to stay constant at 1.7%.