MNI Connect

MNI Connect
Video Conference
Governor of Latvijas Banka
Member of the ECB's Governing Council
Mārtiņš Kazāks, PhD

The short-term outlook for Euro area activity remains subdued and weak.
Main
takeaways
Inflation moderating from earlier peaks, reflecting the fading impact of
previous upward shocks. Need to watch out for domestic price pressures:
profit margins to soften and a clear peak in wage growth still to be seen.
Monetary policy transmission is strong, bank lending shows further
tightening.
Global economic activity has proven to be resilient; geopolitics is the
main risk contributing to the fragmentation of the global economy.
Monetary policy:
1) Ensure that interest rates are at sufficiently restrictive levels for as
long as necessary; the level and duration is determined in a data-
dependent manner, assessing the inflation outlook, the dynamics of
underlying inflation and the strength of transmission;
2) Discussion on rate cuts is premature;
3) Balance sheet to be reduced in a gradual and orderly manner, but no
reason to linger on

Bloomberg 1-year ahead recession probability index (in %) and
changes in probability since May, 2023 (% and % points)
-10
10
30
50
70
90
110
2013
2014
2015
2016
2017
2018
2019
2020
2021
2022
2023
UK US EA
45
65 65
65
50
60
-20
-10
0
10
20
30
40
50
60
70
80
EA US UK
Change since
May-23
Recession
probability in
May-23
Recession
probability, latest
(November, 2023)
3 Source: Bloomberg, Latvijas Banka staff calculations.
Global economic growth momentum is weak: although recession fears
have picked up lately, they remain below peak level reached last year

EA PMI (balance of answers)
30
35
40
45
50
55
60
65
11/21 02/22 05/22 08/22 11/22 02/23 05/23 08/23 11/23
Composite Manufacturing Services
EA GDP (%; q-o-q), Eurocoin (%; m-o-m) and
sentiment (point) indicators
4
* ESI divided by two to be on the same scale as PMISources: S&P Global, Eurostat, EC,
ECB, Eurocoin and Latvijas Banka's calculations.
Growth slowed in the recent quarters; rebound expected later
next year as real incomes boost demand... soft landing?
30
35
40
45
50
55
60
65
70
-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
02/22 06/22 10/22 02/23 06/23 10/23 02/24 06/24
GDP Sep MPE Jun BMPE
Eurocoin Composite PMI (rhs) ESI (rhs)*

Relationship between unemployment and wage
growth in EA (1Q2012 - 4Q2022)
Compensation per employee in EA countries
(annual % change)
5 Sources: Eurostat and Latvijas Banka's calculations.
Philips curve waking up?
Tight labour market and rising costs maintain wage demands
-14
-12
-10
-8
-6
-4
-2
0
2
4
6
8
10
12
14
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
2022
2023
DE EA FR EA IT
Q2 2023
0
1
2
3
4
5
6
6 8 10 12 14
Compensation
per
employee
(annual
%
change)
Unemployment rate (%)
Q1 2012-Q1 2021
Q3 2021-Q2 2023

Headline, core and energy inflation (%) and changes in inflation since May, 2023 (% points)
-20
-10
0
10
20
30
40
50
-5
0
5
10
15
20
2008 2009 2011 2013 2014 2016 2018 2019 2021 2023
Headline inflation
Core inflation
Energy rhs
6 Source: Eurostat.
Energy prices have dropped, but inflation dynamics likely to
remain bumpy
2.4
3.6
-11.5
-3.7
-1.8
-9.7
-14
-12
-10
-8
-6
-4
-2
0
2
4
6
Headline inflation Core inflation Energy
Annual rate, November 2023
Changes since May 2023

7
In terms of momentum, there has been a nice and consistent
downward trend since spring
Inflation momentum (%; y-o-y and 3m/3m annualized; SA)
0
2
4
6
8
10
12
14
16
18
05/22 12/22 07/23
Momentum_HICP
Total
7 Source: SDW, Latvijas Banka staff calculations.
-30
-20
-10
0
10
20
30
40
50
60
70
05/22 12/22 07/23
Momentum_energy
Energy
0
2
4
6
8
10
12
14
16
18
05/22 12/22 07/23
Momentum_core
Core inflation
0
2
4
6
8
10
12
14
16
18
05/22 12/22 07/23
Momentum_food
Food
0
2
4
6
8
10
12
14
16
18
05/22 12/22 07/23
Momentum_NEIG
NEIG
0
2
4
6
8
10
12
14
16
18
05/22 12/22 07/23
Momentum_Services
Services

Gross profit margin of NFCs in EA
(% of value added)
25
30
35
40
45
50
2013 2015 2017 2019 2021 2023
Germany Spain France Italy
Profit share of value added (nominal gross
operating surplus / nominal value added)
0.35
0.40
0.45
0.50
0.55
0.60
2013 2015 2017 2019 2021 2023
All activities
Construction
Industry (except construction)
Retail, transport, accommodation and food services
Sources: Eurostat and Latvijas Banka's calculations.
Latest data: Q2 2023.
Notes: when calculating profit share, taxes are not subtracted from profit due to lack of data. Actual profit share is lower.
No clear decline in profit margins visible yet
8

Euro area outstanding loan stock (tn €) and
growth rates (y-o-y %) by sector
Easing of credit standards by sector
(net % of reporting banks)
9 Source: ECB’s Statistical Data Warehouse, ECB`s Bank Lending Survey.
Banks report a further tightening of credit standards and
a decline in loan demand
-2
0
2
4
6
8
10
12
14
0
5
10
15
20
2020 2021 2022 2023
Loan stock, households
Loan stock, non-financial corporations
Growth rate, non-financial corporations (right)
Growth rate, households (right)
Growth rate, total (right)
-35
-30
-25
-20
-15
-10
-5
0
5
10
15
Q1
2019
Q3 Q1
2020
Q3 Q1
2021
Q3 Q1
2022
Q3 Q1
2023
Q3
Observed, non-financial corporations Observed, households (housing)
Forecasted, non-financial corporations Forecasted, households (housing)
Easing
Tightening

10Y government bond nominal yields (%) Government bond real yields* (%)
10
*Calculated as difference between GDP weighted nominal yield and corresponding euro area inflation swap rate.
Source: Bloomberg.
Interest rates in restrictive territory helping to slow inflation
towards its 2 percent target
-5
-4
-3
-2
-1
0
1
2
3
4
2020 2021 2022 2023
Euro zone 2Y US 2Y Euro zone 10Y US 10Y
-1
0
1
2
3
4
5
2020 2021 2022 2023
IT ES FR DE US

Market-based measure of inflation expectations (%)
11 Source: Bloomberg.
Long-term inflation expectations: anchored
* The value for Q4 is calculated based on data available until 29.11.2023
0
1
2
3
Q4 2005 Q2 2007 Q4 2008 Q2 2010 Q4 2011 Q2 2013 Q4 2014 Q2 2016 Q4 2017 Q2 2019 Q4 2020 Q2 2022 Q4 2023*
EA 5y5y US 5y5y EA 1y1y ECB target

12
Monetary policy –
maintaining a steady
hand, but keeping an eye
on risks (on both sides)
Given current economic outlook and medium
term-projection baseline, no need for rate cuts
in 1H 2024, but, if the outlook changes, and the
balance of risks for price stability shifts, also our
decisions on rates might change.
Interest rates have reached levels that are
contributing forcefully to inflation normalization.
Fiscal-Monetary policy mix remains important.
Excessively expansionary fiscal policy runs risks
to price stability, higher rates will have to be
maintained for longer. But mind Germany...
Short-term rates have normalized, but the
whole yield curve has not (yet), reduction of
Eurosystem’s balance sheet needed.
Focus now on the speed and extent of monetary
tightening as the impact of past rate hikes works
through the financial system.

13 Source: Bloomberg.
Flatter yield curve – one
of the side effects of the
large Eurosystem
balance sheet
Euro area yield curve (%)
-1
0
1
2
3
4
5
3M 6M 12M 2Y 3Y 4Y 5Y 6Y 7Y 8Y 9Y 10Y
Before APP (01.03.2015) Before rate rise (01.07.2022)
Now (29.11.2023)

14
Structural budget balance of the general
government in the euro area countries
(% of GDP, 2015-2025)
*EC projections.
Source: AMECO database.
Monetary policy is
never the only game in
town
-10
-8
-6
-4
-2
0
2
4
6
8
2015 2016 2017 2018 2019 2020 2021 2022 2023* 2024* 2025*
Euro area countries (range from min to max) Euro area average

MNI Connect

More Related Content

Similar to MNI Connect

More from Latvijas Banka

Recently uploaded

MNI Connect