The FOMC statement last week was largely in line with the market expectations, with the Fed painting the current state of the economy in a more favorable light, indicating it will not expand the Treasury purchase program beyond $300bn. The only new wrinkle was the Fed will extend the buying program to the end of October by slowing the rate of purchases, whereas the program was set to end in mid-September. This action suggests the Fed may also slow the pace of purchases of agency mortgage-backed securities and agency debt as it approaches year-end, when these programs are set to be filled. The Fed reiterated that it planned to keep rates exceptionally low for an "extended period," and we continue to think rate hikes are unlikely to occur anytime soon.
Last week's 'flash' Q2 GDP growth estimates provided welcome upside news that euro area output contracted a mere 0.1 percent q/q. Although that decline represents the fifth consecutive quarterly fall in euro area GDP, it nonetheless denotes a marked improvement on the average decline over the prior two quarters of -8.3 percent q/q saar (seasonally adjusted annual rate). Moreover, at the national level, latest figures show that Germany and France officially emerged from recession in Q2, with (non-annualized) increases in GDP of 0.3 percent q/q. Given the market expectation of continued positive growth rates in Germany and France in H2 09 and the likelihood that the vast majority of euro area economies will have emerged from technical recession by the end of Q3, last week's releases have strongly reinforced forecasts for a return to positive euro area real GDP growth from Q3 onwards.
Central and Eastern Europe
In the previous publication we noted how last week's Q2 GDP releases would show how significant the growth contraction had been during H1. As expected, the Baltic economies led the way: Lithuanian GDP fell 12.3 percent q/q (not annualized), after -10.2 percent q/q in Q1, Latvia fell 1.6 percent q/q and Estonia fell -3.7 percent q/q. This ongoing contraction implied large double-digit GDP declines in y/y terms. In central Europe, Romanian Q2 GDP fell 1.2 percent q/q (-8.8 percent y/y 's highlighting that the recent growth forecast revision (to -8.5 percent for 2009) during the recent IMF review was justified. Similarly, in Hungary the Q2 GDP decline of 2.1 percent q/q (-7.6 percent y/y) was testimony to the difficult state of the economy.
Analysts expect that Bulgaria's Q2 GDP decline is likely to have surprised on the downside: some forecasts have penciled in -7 percent y/y, versus the -5 percent y/y consensus forecast. Last week's upside surprise in eurozone growth in Q2 and, in particular, the strong showing of Germany, is good news for the region. With domestic banking systems struggling and limited room for their own policy stimulus, the CEE countries largely depended on foreign demand from their main trading partner, ie, the euro area. Industries in the region tend to be highly integrated into the production chain, especially in German exports. Thus, a German recovery, particularly if biased towards exports, should directly help industries in central Europe. In addition, even a recovery in domestic activity such as construction (which grew in Germany in Q2) would indirectly help, since it would create employment opportunities for workers from CE Europe.
Written using materials from Bloomberg and Reuters Research