The Eurozone economy is gaining confidence, especially on the German front, with an "inflation factor" that had displaced most of the economic operators. The effects of the first round of interest rate hikes are expected in the coming months: Jerome Powell's Federal Reserve will begin. Incidentally, in the United States, inflation is at its highest level in 39 years. To monitor the next developments in the financial markets, it will be necessary to keep an eye on "the forward interest rate in the States and the timing and speed of the Fed's balance sheet reduction", observes Sebastien Galy, senior Macro Strategist at Nordea Asset Management, one of the largest investment funds globally.
What kind of inflation are we experiencing, fleeting or persistent?
“We expect inflation to be mainly transitory in Europe. A little less in the United States, because the economy is too hot and the Fed, as they say, is already "behind the curve".
Will European politics be able to maintain a balanced monetary orientation between controlling inflation and maintaining accommodative interest rate policies?
“Managing such a hot economy while real estate is expensive, inflation is high and money is very large is an objectively complex task. If the ECB hopes that a little tightening is enough to avoid a wage inflation spiral, house prices could become even more volatile. If, on the other hand, monetary policy were to tighten excessively, there would be a risk of drastically slowing down the economy».
What do you foresee?
"Probably the solution will be a slow rise in interest rates over the next few years, while raising the cost of lending to the housing market through specific economic policy strategies."
What will happen to the equity markets as the rate hike approaches?
«Inflation helps the equity sector if companies' revenues increase rapidly. It mainly depends on the wages of consumers. Europe will start to outperform, as will the Chinese tech sector. Even North American equities, after a hiatus, are now performing well. A persistent doubt is represented by the technology sector driven by perhaps excessive optimism».
For the stability of the financial markets, which major geopolitical events do you closely monitor?
“The main concern is the escalation of the trade conflict between the United States and China ahead of the midterm elections. These could open the door to a Republican victory, which would mean fiscal contraction in the United States.
What differences in approach do you see between the US and Europe in this economic phase?
“Monetary policy tightening is generally chosen when households start realizing significant wage gains. The Eurozone, unlike the USA, tends to still be very sensitive to the issue of high inflation. What characterizes the ECB compared to what is happening in the USA is a growing attention to the green economy».
The pandemic has magnified Western government debt. How long will sustainability not be an issue?
“We are facing a mountain of debt in the corporate sector, in the consumer world and in the government dimension. Public sector debt is manageable provided productivity-enhancing reforms are implemented and inflation does not heat up too much due to ESG cost integration. Another factor is the level of savings, which must remain high: this is not a problem in Europe, but it is in the United States. Another major issue is the household debt that has accumulated to enter an increasingly expensive housing market. Looking ahead, this could lead to a consumer credit crisis.
Specifically, are there any debt dynamics in Europe that are destined to become critical?
«No, in Europe the debt profiles seem very manageable. Also in Italy, and in a context of different importance and dimensions also in Greece. Because the growth rate should continue at a decent pace. However, a lack of implementation of reforms, primarily those to increase productivity, could be a long-term problem.
