Euro area looks on as the UK flirts with recession – Goldman Sachs

Research Team at Goldman Sachs, suggests that the outcome of the UK’s referendum came as a surprise, both to us and the market and it represents an adverse idiosyncratic shock to UK growth, with modest spillovers to continental Europe.

Key Quotes 

“Economic activity in the UK is decelerating. Despite today’s large rebound in the Composite PMI, the average level over Q3 (50.2) still points to an economy that is losing momentum, as the decision to leave the EU weighs on business investment and delays hiring and expenditure on consumer durables.

That said, the downturn in the UK – while still substantial – is likely to be shallower than we thought in the immediate aftermath of the referendum. Macro policy is set to ease more significantly that we originally anticipated. A comprehensive fiscal easing package (that we expect to be announced in October), combined with a further cut in Bank rate to 10bp and £50bn of additional asset purchases (beyond what the Bank of England has already announced), will moderate the UK’s slowdown. We forecast UK growth at +1.8%yoy in 2016, falling to +0.9%yoy in 2017.

Through all this, we expect growth in the Euro area to remain resilient. Data have suggested little – if any – impact of the UK’s referendum on economic activity in continental Europe, with spillover effects through weaker external demand from the UK likely to be small.

More importantly, the Euro area growth outlook continues to be underwritten by a more flexible fiscal policy. Fiscal policy in the periphery stands ready to exploit the fiscal space created by ECB asset purchases and respond to downside risks to growth, as the support previously provided by lower oil prices and a weaker Euro dissipates. We expect Euro area GDP to expand by +1.5%yoy in 2016, and by +1.3%yoy in 2017.”