Region Analysis:

 

Trend #1 – Slower Economic Growth Projection

 

The EU’s GDP growth in the second quarter of 2018 reached 0.4% over the previous quarter, compared to the average quarterly growth of 0.7% in 2017. On an annual basis, the EU’s GDP growth is expected to be 2.2% for 2018, and 1.8% for 2019, both weaker than growth of 2.8% in 2017. The sluggish pace was likely driven by weak exports and subdued domestic demand amid lower confidence, higher inflation and reduced global trade. The top four economies that contribute about 50.0% of economic output to the EU include Germany, France, Italy, and Spain. Within this group, Germany and France both have strong outlooks, with high GDP growth driven by increases in domestic demand. Spain and Italy have positive growth projection, but at a weaker rate than desired. Both of these economies are subject to weak domestic demand on top of subdued demand from the EU as a whole. In short, the Eurozone economy is expected to grow considerably this year and next, albeit at a lower rate than last year. Tailwinds from accommodative monetary policy, a tightening labor market and positive sentiment remain in place; however, rising inflation, a firm euro and concerns over geopolitics are expected to dent momentum somewhat. 

 

Trend #2 – Political Instability

 

The EU is exposed to political risk on multiple fronts: Italy, the US, and the rise of populism in several European countries. Italy’s current new government has recently proposed to cut income taxes and provide a basic universal income for every citizen, which makes Italy become extremely risky for investors since it is the second-most indebted country in the EU. This proposal also risks breaking the EU’s fiscal rule and have government officials butting head with the EU in the future. The recent foreign trade policy imposed by the Trump administration also poses a challenge for the economy of the EU. The two sides have recently agreed on a trade truce with US on July 27th, meaning no more tariffs will be levied and that the two would work together to reduce trade barriers. But Trump reiterated a threat of imposing tariffs on the European automobile sector on August 22nd. An escalation of tit-for-tat tariffs could further dent confidence and activity in both economies, while spillover from the ongoing trade dispute between the U.S. and China is also weighing on sentiment in the Eurozone. Finally, populism is on the rise in Europe, especially in Italy, Germany and Netherlands, but not as much in France, Spain, and Greece. This new political movement is mostly driven by fear over immigration and the accompanying problems including assimilation, welfare, and violence.  

 

Trend #3 – ECB’s Monetary Policy

 

The ECB delivered no surprises at its September 13th monetary policy meeting, leaving its main interest rates unchanged and reaffirming its commitment to winding down asset purchases related to its quantitative easing (QE) program by the end of the year. Accordingly, the Bank left the refinancing rate at 0.0%, the marginal lending rate at 0.3% and deposit facility rate at minus 0.4%. In addition, the ECB emphasized its plans to halve its asset-buying program to EUR 15 billion per month in October and to wrap it up entirely at the end of December—provided that incoming data plays out as expected. Looking ahead, the ECB is expected to keep monetary policy conditions accommodative, proceeding slowly with a gradual normalization of monetary policy. Although the end of QE will be viewed as de facto monetary tightening, Draghi reiterated the ECB’s intentions to reinvest the principal payments from maturing securities “for an extended period of time.” Moreover, low interest rates will keep conditions accommodative for the foreseeable future.

Trend #4 - Brexit

 

So far, Brexit has some effect on UK, even though these indicators could also be affected by global trade tensions, especially between US and China. Overall, trade deficit rises to second highest on record, the pound sterling devalued against USD and euro, and wage growth decreases despite low unemployment. Given that the UK will officially leave the EU in March 2019, both sides are trying to craft up an agreement to alleviate any negative impacts from the separation as no deal has been struck so far. The EU’s chief Brexit negotiator, Michel Barnier, repeated his offer to re-write his blueprint for avoiding a hard border between the U.K. and Ireland -- the issue that has held up progress in negotiations since March. The British premier initially rejected Barnier’s original plan as “unacceptable” because it involved keeping Northern Ireland in the EU’s customs territory. The two parties will gather again on September 20th, 2018, and both sides are thinking about setting up an official deadline for negotiation in November. Without an agreement with the EU, some possible changes that the UK would face include customs checks and tariffs on goods as well as longer border checks for travelers.

 

Trend #5 – Increasing Security Crisis and the Defense Sector

 

Tensions in Eastern Europe are rising about the increasing instances of Russian aggression in the region following the crisis in Crimea and eastern Ukraine. As a bulwark against this threat, the US is planning to establish a $2 billion permanent military base in Poland, as a joint facility for the militaries of both the countries. On a similar note, Turkish hostilities in southern Europe is causing concerns in Greece and at the US air force base in coastal Turkey. To continue having a strong stance in the ongoing Syrian civil war and to curb Turkish aggression, the US is expanding its military footprint in Greece. Lastly, as Russian engagement in the Syrian civil war got more convoluted due to the downing of one of their planes, Russia is expected to gear up its engagement in Syria in the coming time.

Keeping all these scenarios in mind, the defense sector in Eastern Europe will get a big boom. Czech Republic, Russia, Ukraine, and Bulgaria already have a very robust export-oriented defense industry, which will be further boosted by the increase in defense spending by countries around the region.

 

Trend #6 - Energy Sector and Oil

 

With the potential partial privatization of Saudi Aramco, the oil industry will be an important figure to watch for this region. While the sale of up to 5% of the company has been in discussion for some time now, questions regarding whether it will actually happen remain unanswered. This deal has the potential to internationalize and diversify Saudi Arabia’s economy away from oil, which may prove fundamental given the uncertainty in the future of the oil industry. Sanctions in Iran are set to decrease the supply in the market, causing a possible price hike in the short term. However, COP21 and shale pose threats to the sustainability of the industry and hint at a possible long term decrease in oil demand. The International Energy Agency predicts that demand for oil could decrease by over 100 billion barrels in the next few decades. Furthermore, the trade war with China may lead to a decrease in the Chinese oil demand, leading to an ever further potential price drop. This would have devastating implications for the Middle Eastern economy, where oil has long been the most fundamental source of growth.