Focus on Growth

Despite the new bailout agreement, Greece will continue to dominate headlines, but our attention is now drawn to the underlying problem of growth.

With so much debt, economic growth (rather than more austerity) is what Europe’s struggling economies need. Currently with the head rush of LTRO sugar still running through our veins, we are enjoying much better sentiment and are willing to buy into the economic plans of the politicians.

However, a failure to deliver on these plans (which promise to reduce deficits rapidly and bring debt under control) could easily return markets to a less forgiving mood than the one which we endured in the second half of last year.

So, with that in mind, we will be watching the PMI (Purchasing Managers Indices) very closely over the coming months, as these will give us the best indications as to what these future growth figures may eventually look like. Without growth, we will have tax shortfalls, which of course will result in the deficits not reducing and in Debt/GBP ratios increasing (IMF's Growth Forecast Implications for Debt). In fact, data suggests that usually the major contributor to increasing deficits and government debt levels in the aftermath of a financial crisis is a huge decrease in governments’ tax collections due to lower growth - not the costs of bailing out distressed banks and financial institutions as some people may think.

Today saw the release of the initial estimates for February’s PMIs, and overall they were slightly disappointing. The German figure dropped from 51 points in January to 50.1 which is just a tick over the 50 point level that separates an expansion from a contraction in the sector. In contrast, the Eurozone number showed a modest increase from 48.8 to 49 points. The glimmer of hope lies within the new orders component, which for the first time in several months,  read over 50 for both Germany and France.

It will be interesting to see whether the numbers for the UK and the US, which are out on March 1st, confirm this trend.

As the year progresses, more and more austerity measures will start to take effect across Europe which will certainly be negative for growth. This is just an economic fact. Tracking the PMI indices closely will allow us to assess whether the private sector is able to offset this drag on growth.
For the time being though, these figures are probably just enough for the market to keep believing in the growth forecasts; but close scrutiny of the PMI data has become ever more important indicator for diligent portfolio managers.