Leaving the impact of Brexit aside, the European economy is little changed from the situation we described three months ago. While France seems to be continuing its efforts to address the cyclical disjunction caused by the fiscal overkill of 2012-2013, the underlying indicators of German growth are showing signs of weakening.
In France, growth has been supported by a clear rebound in corporate margins, which could stimulate investment spending. In Germany, strong consumer spending, which has been compensating for the sluggish foreign component (weakened by a lack of growth in global trade), looks less certain, in our view. The firming-up of consumer spending was mainly due to disinflation, as indicated by the fact that real retail sales growth has been outpacing nominal growth. With no German moves to encourage consumer spending, growth in the rest of Europe would inevitably be affected.
The situation of the UK is worrying in the very short term. The British economy, which is highly dependent on (especially financial) services, faces a threat to its financial pre-eminence in Europe from the loss of its euro-denominated clearing activities and the authorisation to market its financial products in the rest of Europe, as they stand to lose their European “passport”. A diminishment of the financial sector would be accompanied by a fall in the London property market and capital outflows.
At the macroeconomic level, the current-account balance, which already shows a deficit equal to 5% of GDP, will go further into the red as the services component - the only sector showing a surplus - weakens. The UK’s situation represents a destabilising factor for the European economy, but it could subsequently create new opportunities for alternative financial markets. Against this backdrop, is it possible to envisage a less radical outcome of Brexit than that provided for in the treaties, given the gloomy economic prospects for the United Kingdom, the major political crisis threatening the future of the UK’s internal union and the loss of a key member of the European Union?
This question reflects the political and economic uncertainties that will beset Europe over the coming months. But that fact that European bond yields are below zero, leading to an exodus of investors towards more lucrative assets, should support risk assets until negative rates start to present more disadvantages than advantages. Pension funds, insurance companies and, of course, banks are already being hit by the negative remuneration of cash. The Italian banks, as well as some of their German peers, may soon appeal to the markets once again. Europe will then need to switch to a policy of fiscal expansion, more focused on growth, which unfortunately only a new crisis will legitimise in the eyes of European decision-makers.