Economic Outlook

Euro Area economy loses steam

Kiel Institute Economic Outlook Euro Area, Nr. 46 (2018 | Q3)

The Euro area economy has lost momentum in the first half of 2018. The slowdown was due to country-specific temporary factors and a weakness of world trade since the beginning of the year. Nevertheless, supportive factors remain in place such as low interest rates and a mildly expansionary fiscal stance. Early activity indicators suggest that the euro area is set to continue its expansion, though at a rather moderate pace. We expect GDP to expand by 2.1 percent in 2018, 1.9 in 2019 and 1.7 in 2020. According to current estimates, production capacities in the Euro area as a whole are well utilized already, and the slightly positive output gap is expected to open up further. Unemployment continues to decline and will be on a historical low by the end of the forecast horizon in 2020. Wages in the Euro area have been trending upward lately, and consumer prices reached 2 percent. So far, the increase in inflation can be mainly attributed to the energy component. Over the forecast horizon, we expect core inflation to gradually increase, while we assume the effect of rising energy priced to run out by mid-2019. In sum, HICP inflation will be 1.7 percent in 2018, 2019 and 2020. Downside risks to this forecast include escalating trade tensions, the possibility of a hard Brexit and finally Italy, if financial investors continue to lose confidence and try to get rid of Italian bonds, whereas the new Italian government turns out to be entirely uncooperative vis-à-vis the European partners.