German IP posts a disappointingly subdued rise

Chris Scicluna

Asian stocks up on Chinese gaming news, Japanese data and weak yen; but euro stocks subdued, and USTs and euro area govvies weaker
After the S&P500 and Nasdaq reversed initial losses to end yesterday up close to 1%, Asian stock markets had a decent day too. Hong Kong was buoyed by news on Chinese online gaming (the Hang Seng is up more than 2%), and Japan was supported by an improved Q1 GDP report and a stronger economy-watchers’ survey (the Topix closed up 1.2%) as well as further depreciation in the yen (touching 133.5/$ for the first time in more than 20 years, and 7-year lows against the euro and AUD. With the latest damp-squib German IP report hardly giving cause for enthusiasm, European stock markets have opened with a mix of modest gains and losses, however, while US futures are currently down about ½%. In fixed income, 10Y UST yields have rebounded a few bps from yesterday’s close back to 3.0%, with 5Y yields also back to 3.0% and 2Y yields back up 2bps to 2.74%. And ahead of tomorrow’s key ECB announcements, euro area govvies have reversed a fair proportion of yesterday’s gains, with 10Y Bund yields a couple of bps higher at 1.31% and 10Y BTP yields up more than 6bps to above 3.34%.

Drop in Japanese GDP in Q1 now estimated to be minimal but capex weak
While Japan’s revised national accounts had been expected to show a slightly larger drop in GDP in Q1, the opposite was the case. Indeed, the contraction was a minimal 0.1%Q/Q (0.5%Q/Q annualised) half the initial estimate of a drop of 0.2%Q/Q (1.0%Q/Q annualised). The principal cause of the revision, however, was not overly encouraging, with the contribution to growth from inventories revised up 0.3ppt to 0.5ppt. Admittedly, private consumption was very slightly firmer, growing a minimal 0.1%Q/Q compared to the initial estimate of zero. But disappointingly, business investment is now estimated to have dropped 0.7%Q/Q compared to the initial estimate of 0.5%Q/Q growth. The contributions to GDP growth from the public sector (+0.1ppt for consumption, but -0.2ppt for investment) and net trade (-0.4ppt) were unchanged from the initial estimate. The revisions meant that GDP is now estimated to have grown 0.4%Y/Y, twice the annual rate previously estimated. However, the level of economic output in Q1 was still 0.6% below the pre-pandemic level in Q419 and a hefty 3.4% below the peak in Q319 ahead of the most recent hike in the consumption tax.

Economy watchers beat expectations, signalling Q2 GDP growth and firm job demand
While the contribution to Japanese economic growth in Q1 from inventories was large and unlikely to be repeated in the current quarter, fortunately private demand – particularly consumption – is on track to be much stronger in Q2. Yesterday, the BoJ reported that its real consumption activity index – which provides one of the more reliable guides to the national accounts measure of private consumption – rose for a second successive month in April (the first full month without Covid-19 restrictions) and by 0.7%M/M to be a sizeable 2.2% above the Q1 average. The government’s household spending data – admittedly typically a less reliable guide to the national accounts – reported a similar rise in real expenditure of 1.0%M/M to be 2.8% above the Q1 average. And today’s economy-watchers’ survey for May was stronger than expected, with the current conditions index rising a larger-than-expected 3.6pts (more than twice the consensus forecast) to a 5-month high of 54.0 suggesting that the recovery in private spending gained further traction in the middle of Q2. And the outlook index was improved too, rising more than 2pts to a 6-month high of 52.5.

Encouragingly, all main sub-components of the economy-watchers’ survey picked up. The improvement in current conditions was most marked in food and drink (up almost 10pts to 62.2) and services (up 7.6pts to 60.1), as consumers continue to venture out and about more, with the index for household-related demand shifting into favourable territory too. Expectations for consumer-facing services were also improved. The current indices for manufacturing and housing, however, remained sub-50 although the manufacturing outlook index rose to a 6-month high (albeit just 50.1). Strikingly, current employment conditions were judged to be the most favourable since 2013, with the job outlook expected to be the best since October. Overall, the survey was judged to be consistent with a moderate pickup in economic activity that was expected to be maintained despite ongoing concerns about rising cost pressures and events in China and Ukraine.

A disappointingly subdued rise in German IP at the start of Q2
While yesterday’s factory orders data reported a third successive and steep decline to the lowest level since January 2021, this morning’s German industrial production numbers at least reported positive growth. However, the rise in IP of 0.7%M/M was smaller than expected and barely made a dent into the drop of 3.7%M/M the prior month, leaving the level 1.8% below the Q1 average. Within the detail, manufacturing output rose just 0.4%M/M to be a steep 2.2% below the Q1 average. Growth was strongest for output of durable consumer goods, which rose 4.0%M/M to be more than 3% above the Q1 level. But while capital goods production was also stronger it was still 3.8% below the Q1 level, with car production up 6.8% but almost 5% below the level last quarter. While chemicals output fell for a second successive month, overall intermediate goods output ticked up 0.4%M/M to be 1.8% below the Q1 level. Beyond the manufacturing sector, consistent with recent surveys, construction output dropped for a third successive month and by 2.1%M/M to be 2.6% below the Q1 average. But energy production rebounded an extraordinary 16.1%M/M to the highest level since January 2019 due to a timely and highly welcome surge in wind production.

Overall, the data inevitably suggest that supply constraints and cost pressures are impeding growth in production. While Germany’s manufacturing output rose more than 3pts in May to 51.2 to suggest a further modest improvement in the middle of Q2, certain other survey indicators (including the sector’s ifo indices) and high-frequency data such as truck-toll mileage point to a softer picture. And given those cost and supply-side barriers, a drop in German IP in Q2 looks highly likely to us.

Updated euro area GDP data to confirm modest growth in Q1 led by net trade and capex
With French economic output having been revised down but Italian economic output revised up, this morning’s updated euro area GDP data are forecast to confirm growth of 0.3%Q/Q in Q1, unchanged from the pace in Q4 and a touch firmer than the ECB’s forecast. That would also leave GDP up 5.1%Y/Y and around ½ppt above the pre-pandemic level in Q419. Last week’s Irish figures, which reported growth of 10.8%Q/Q in Q1, suggest risks of an upwards revision. The national accounts release will also bring the first expenditure breakdown. National data suggest that household consumption subtracted from growth but fixed investment (not least in construction) and net trade provided a boost. Meanwhile, final euro area job figures for Q1 are expected to confirm solid growth after the preliminary data suggested that employment rose 0.5%Q/Q (752k) and 2.7%Y/Y (4.29mn).

UK construction PMIs to be consistent with positive growth
In the UK, the construction PMI survey results for May are likely to suggest that activity in the sector continues to hold up well despite ongoing supply-side restraints and cost pressures. The headline construction activity PMI is expected to moderate about 1.5pts from 58.2 in April to a four-month low. But added together with yesterday’s final services PMIs, that would point to ongoing positive GDP growth in Q2.

A quiet day for US data brings mortgage applications and inventory data
Today’s US data are unlikely to trouble the markets, although given recent weakness against the backdrop of higher loan rates, high prices and associated affordability concerns, the weekly mortgage applications data are not without interest. And the final estimates of wholesale and retail inventories in April will plug into nowcasts of GDP growth in Q2.

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