global economy to gather pace in h2 14 - danske bank...upside risk to inflation from food in h2...
TRANSCRIPT
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The Big PictureGlobal economy re-accelerating
• Global economy to gather pace in H2 14
• US starting to take off as headwinds fade
• Euro recovery to strengthen further in 2015
• China in moderate recovery
• Inf lation in US and euro area bottoms
• Timing of Fed hikes to get more focus
June 2014
Investment Research
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Contents
Global overview The sky is clearing 4
US Escape velocity 7
Euro area Growth supported by the ECB 10
China Moderate recovery 14
Japan And now for the difficult part 17
The Big Picture is a semi-annual report focusing on the outlook for the global economy. Read about the
perspectives for and the most important risks to the global economy. The publication Nordic Outlook presents
our expectations for the Nordic economies.
Important disclosures and certifications are contained from page 19 of this report.
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Analysts
Editorial deadline: 17 June 2014 Economics Research
Editor-in-Chief:
Allan von Mehren
International Economy
+45 45 12 80 55
Macro economics:
Pernille Bomholdt Nielsen Euro area +45 45 13 20 21 [email protected]
Allan von Mehren US +45 45 12 82 29 [email protected]
Flemming J. Nielsen Asia + 45 45 12 85 35 [email protected]
This publication can be viewed at www.danskebank.com/danskeresearch
Where no other source is mentioned statistical sources are:
Danske Bank, Datastream, Macrobond, OECD, IMF and other national statistical institutes as well as proprietary
calculations.
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Global overview
The sky is clearing
The global recovery is gaining speed again following a soft spot
earlier this year. The US and China have reaccelerated and the
European recovery continues to unfold although manufacturing is
hitting a soft patch.
Looking ahead, we look for robust global growth in H2 above 4%
with all regions pulling. The positive momentum is expected to
continue into 2015. Our forecasts are slightly above consensus and we
still see Europe as the main candidate for a positive surprise due to
the large amount of pent-up demand and renewed monetary stimulus.
Risks to global growth are generally seen as low as emerging markets
have stabilised. The main risk is a repeat of a strong rise in US yields
as seen in 2013, which could lead to another soft patch.
Inflation is expected to rise gradually from here as global food prices
have increased and falling unemployment will ease the downward
pressure on wage growth. Central banks will keep monetary policy
very accommodative for a long time. This is good for growth but
poses the risk of creating new asset bubbles down the road.
Temporary headwinds are easing
We now have clear signs that the global economy is reaccelerating following
a weak start to the year in both the US and China.
There were three main factors behind the slowdown in the US. First, a
very harsh winter kept consumers inside and added to softness in housing.
Second, inventories started out at a high level keeping production subdued.
Third, the housing market slowed following the sharp rise in mortgage rates
in 2013, which typically works with a lag of six-nine months.
However, all of these headwinds have either stopped or are easing. The
weather effect is over now, the inventory imbalance has eased and the drag on
housing from higher financing costs is slowly reversing as mortgage rates
have declined again. This puts the US recovery on a stronger footing in H2
supported by strong fundamentals: the fiscal drag continues to fade, wealth
gains are very robust, job growth is picking up and real wage growth is
supported by subdued inflation. Also, visibility is the best in a long time as
political uncertainty has declined on both sides of the Atlantic. As a
consequence, businesses are starting to increase investment and hiring and
consumers are spending more. The positive momentum in growth in H2 is
expected to carry over into 2015 where we look for US growth to reach 3.5%.
In China, policymakers have stepped on the gas lately spurring a
moderate recovery. We expect this to continue over the summer and look for
growth around 8% annualised in H2 before moderating again to the
government’s target of 7.5%. Subdued inflation and a cooler housing market
have given the Chinese authorities some leeway to stimulate growth. The
main risk in China continues to be financial instability due to the sharp build-
up of debt in certain sectors and regions. However, overall we believe China
will be able to manage the situation without a system crisis as growth is
GDP outlook: Above consensus
Source: Danske Bank Markets, Bloomberg
US picking up speed again
Source: Danske Bank Markets, Macrobond Financial
China recovering moderately after weak Q1
Source: Macrobond Financial, Danske Bank Markets
% y/yD anske B ank C o nsensus D anske B ank C o nsensus
USA 2,2 2,2 3,4 3,0
Euro area 1,2 1.1 1.9 1.5
Japan 1.7 1,5 1.1 1,2
China 7,4 7,3 7,3 7,2
Global 3,6 3,5 4,1 3,9
2014 2015
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supported by rising productivity and China has high savings as a buffer to
potential high losses from non-performing loans.
We still see scope for positive surprises in Europe
In Europe, the recovery continues to unfold. A very positive development
is the improvement in private consumption. Consumers are now the most
optimistic since 2007 as a the low inflation has given a lift to purchasing
power and unemployment has started to move lower. Uncertainty has been
reduced substantially since the euro crisis ended and the recovery has started
with substantial pent-up demand, which is now slowly being unleashed. We
continue to see potential for upside surprises in the euro area in coming years.
The manufacturing sector is currently hitting a soft patch as exports are
suffering from the weak growth in China and US at the start of the year.
However, this should soon reverse as both countries are regaining speed. The
recent stimulus from the ECB will help to gradually freeze up credit flows,
which is likely to take the recovery to the next level in 2015 where we look
for growth of 1.9% after 1.2% in 2014.
Especially Spain, Ireland Portugal and Greece are surprising on the
upside and have potential for more surprises. These are the countries
where the negative shock hit the hardest; therefore, also where the relief is the
biggest and pent-up demand the highest. The weak link in Europe is France
where house prices are still overvalued and competitiveness is poor.
The UK continues to be the star performer of Europe as the economy has
entered a virtuous cycle where rising house prices and strong job gains are
supporting consumer spending and spurring investments. Although
unemployment has fallen sharply, wage pressures are still moderate, leaving
the Bank of England with patience before raising rates. Macro-prudential
measures to put a dent on the housing market could come very soon though
and are also advisable to avoid another housing bubble from building.
Japan is currently hitting a weak spot following the VAT hike in April.
However, in the context of a global reacceleration, this should prove
temporary and we look for growth to pick up again in Q3.
The list of risk factors is getting smaller
EM have for some time been the biggest risk factor for the global economy as
we have seen several bouts of instability over the past year. However, the
depreciation of many EM currencies in combination with restraint on
domestic demand has helped to repair external imbalances in countries
such as India and Indonesia – two of the big EMs. The weak spots continue to
be Brazil and Russia but things seem to be stabilising here as well. Turkey
and South Africa still have substantial imbalances but they are very small
economies in the grand scheme of things. The risk of a negative outcome in
the Russia/Ukraine crisis has also diminished recently although uncertainty is
still in place regarding this conflict. An escalation with renewed sanctions
could hurt European growth in particular.
Overall, though, the risk picture is improving for the global economy and
the main risk factor now seems to be another sharp rise in US bond yields.
During H2, we expect to see an intensified discussion about the timing of the
first rate hike, which may be a small wake-up call for the markets. If there is
overshooting again, it could cause another soft patch in global growth and
lead to uncertainty in EM markets. However, this is not our main scenario.
Euro recovery gradually strengthening
Source: Macrobond Financial, Danske Bank Markets
Euro area consumers getting uplifted
Source: Danske Bank Markets, Macrobond Financial
EM markets supported by Chinese growth
Grey bars show bottoms in China PMI and EM stocks
Source: Macrobond Financial, Danske Bank Markets
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Inflation bottoming, central banks stay accommodative
Inflation reached very low levels in not least the euro area but also the US in
H1 this year. A long period of declining commodity prices and subdued wage
growth are the main factors behind the low inflation. However, we believe
inflation is currently bottoming: first, food prices on world markets have
risen around 25% since the beginning of the year, which will likely feed into
global consumer price inflation during Q3 and Q4. Second, as unemployment
declines the downward pressure on wage inflation will slowly fade. Third,
pricing power will improve as the recovery strengthens. We already see signs
that US core inflation has bottomed and we expect inflation to move towards
the Fed’s 2% target over the next year. In the euro area, we look for inflation
to stay very low around 0.5% in the short term but to increase in Q4. The
deflation scare should thus ease a bit. In China, we see some temporary
upside risk to inflation from food in H2 (food is a third of consumer basket).
Central banks are generally expected to keep monetary policy very
accommodative. The ECB has just launched substantial further stimulus and
has solid forward guidance in place indicating rates will stay at zero for at
least a couple of years. The Bank of Japan may have to step even further on
the accelerator in late summer to get inflation higher. The Fed will not start
raising rates until the middle of next year, in our view. While positive for
growth, it leaves concern over the creation of new bubbles. Most assets are
already in expensive territory and with the combination of robust growth and
zero rates in the next couple of years, the risk of new bubbles is quite high.
Macro-prudential measures are needed to avoid these from building.
Expectations for key figures and central banks over coming quarter
Source: Danske Bank Markets. Note latest GDP is Q1 for all countries.
Country Indicator Comment Measure Latest Sep/Q3
USA GDP Growth was surpressed by temporary factors in Q4 and we expect a rebound % q/q, AR -1,0% 3,3%ISM ISM expect to go broadly sideways from current decent level Index 55,4 55,0Employment Job growth to increase slightly in H2 3 mth. mavg. 234k 250kInflation (PCE) Inflation has bottomed and is expected to grind higher % y/y 1,6% 1,7%Federal Reserve Fed continues tapering until it ends in October, first hike seen in mid-2015 % p.a. 0,13% 0,13%
Euroland GDP Positive growth surprises due to pent-up demand and the ECB's support to the recovery % q/q, AR 0,7% 2,0%PMI Manufacturing PMI to increase in Q3 when the impact from the global slowdown vanishes Index 52,2 53,1
Inflation Headline inflation will remain low during Q3 but we look for a pick-up in Q4 % y/y 0,5% 0,5%ECB In our main scenario the ECB will remain on hold, but an ABS programme is likely in Q4 % p.a. 0,15% 0,15%German ifo exp. German ifo exp. has trended lower but remains high and we expect a modest increase Index 106,2 107,3
Japan GDP Recovery poised to lose steam in the wake of the April tax hike… % q/q, AR 6,7% 2,6%PMI ..but Japan is expected to return to growth in Q3 Index 49,9 52,0Inflation Inflation is expected to decline slightly as impact from weaker yen wanes % y/y 3,2% 3,0%BoJ Leading interest rate unchanged until at least 2016 but further QE possible in Q4 % p.a. 0,1% 0,1%
China GDP Moderate recovery in H2 % q/q AR 6,1% 8,5%HSBC PMI Manufacturing PMI is only expected to improve moderately and peak below 52 in Q4 Index 49,4 51,4Inflation Inflation is expedted to increase on the back of higher food prices % y/y 2,5% 2,8%PBOC Leading intereast rate unchanged but PBoC has de-facto easing bias % p.a. 6,0% 6,0%
Euro inflation to stay subdued for long time but
should rise gradually in H2
Source: Macrobond Financial, Danske Bank Markets
US inflation and unemployment closing in on Fed
goals, Fed to hike rates no later than mid-2015
Source: Macrobond Financial, Danske Bank Markets
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US
Escape velocity
Following years of headwinds the US economy is ready to take off.
While growth slowed a bit more than we expected in the beginning of
the year, we feel confident the outlook is strengthening and the
economy is about to reach escape velocity entering a positive feed-
back loop that keeps the recovery self-sustained.
Easing fiscal headwind, strong wealth gains, rising sentiment and
pent-up demand from investments are among the factors that will
take the recovery to the next level. We look for growth to accelerate
to 3.5% in H2 and 2015. This is above consensus expectations of
3.0%.
As unemployment continues to decline and inflation rises gradually
towards the Fed’s target, we expect the debate on the timing of the
first Fed hike to intensify in coming quarters. We look for the first
hike no later than mid-2015.
Temporary slowdown before take-off
The US recovery came to a halt in Q1 due to bad weather, high inventory
levels in the companies and lingering effects from a sharp rise in mortgage
rates last year that dampened the housing recovery. The slowdown in H1
seems to have been a little deeper than we expected as growth currently looks
set to average 1.0-1.5% – below our estimate of 2% for H1 going into the
year. However, at the same time, the job market has been remarkably resilient
with job gains of around 200k per month and a continued decline in the
unemployment rate. It leaves a picture of poor productivity growth which for
the longer run may be a concern for the US economy. However, in the short
term, it means the economy is still able to create jobs which is giving support
to consumers.
Looking into H2 and 2015, we believe the US economy is heading for a
period of a self-sustained recovery. The economy is, in our view, finally
going to reach escape velocity and break free from the gravity of the
numerous drags that have held back the recovery in recent years. These were
(a) a high level of uncertainty from the euro crisis and political brinkmanship
domestically, (b) strong fiscal consolidation, (c) household deleveraging
following the bursting of the housing bubble, (d) periods of commodity price
shocks, and (e) a temporary ‘bond yield shock’ on the back of tapering of US
asset purchases last year. These drags have kept the recovery at a slow pace
over the past four years in which growth has averaged only 2.5%.
However, all of these drags have diminished sharply, paving the way for
moving the recovery a notch higher. Starting in Q2, we believe growth is set
for a 3.5% pace over the coming years.
Apart from the diminishing headwinds, there is also rising support from a
number of factors.
US recovery strengthening after temporary
moderation in H1
Source: Danske Bank Markets, BEA
Drag on housing from mortgage rates is going to
fade and give new impetus to the housing recovery
Source: Macrobond, Danske Bank Markets
Rising wealth is supporting lower savings
Source: Macrobond, Danske Bank Markets
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1. The very low rates and improving economy have led to strong increases
in asset prices in both financial securities as well as house prices. This has
given a significant boost to US wealth and made the average American
more than 20% richer compared with two years ago.
2. Improving sentiment in the corporate sector is likely to lead to more
investment spending after several years of low growth in investment in
new machinery and technology. Rising earnings growth and very low
corporate bond yields also work to underpin business spending.
3. The decline in inflation has given rise to decent real wage growth of
around 0.5-1.0% despite quite low nominal wage gains. This is because a
big part of the decline in inflation has to do with lower commodity prices
related to the rise of oil production due to the shale oil revolution.
4. Pent-up demand in the housing sector should continue to give support to
consumers and construction activity. The construction of houses is still
running far below the level needed to keep the housing stock at pace with
household formation and as the impact of last year’s bond yield increase
fades we expect to see renewed strength in housing in the coming years.
With robust impulses to the economy we also expect job creation to gain
strength and look for an average of 250k in H2 and in 2015. This will be part
of the positive feed-back loop that gives more confidence and income to
consumers paving the way for a lift in consumption growth, which in turn
underpins job creation further.
The main risks to the economy come from the potential for another sharp rise
in bond yields creating a new headwind for the economy as was the case last
year. Our main scenario is for a gradual rise in bond yields by around 50bp
for 10-year yields over the next six months but if the economy moves faster
towards the Fed’s goals, the hiking cycle could move closer and make way
for a stronger rise in yields than foreseen.
Inflation bottoming – wage pressures to rise gradually
After a period of very low inflation in the US, measures of core inflation are
now starting to grind higher. This is partly a result of base effects as health
care costs had a one-off decline in April last year connected to the sequester.
But it also reflects that the downward pressure from commodity prices is
starting to ease a bit as global commodity prices have edged higher recently
following years of a declining trend.
Wage growth is still fairly subdued and certain measures suggest that there is
plenty of slack still in the US labour market (part-time employment, sharp
decline in participation ratio). However, it is uncertain how much of this slack
consists of more marginalised labour because many people have been out of
the labour market for several years. This could imply that wage pressures will
emerge sooner than the Fed expects. For a discussion of this subject, see
Research: How tight is the US labour market?, 6 May 2014.
We look for core PCE inflation (the Fed’s preferred measure) to continue to
rise gradually from the current level of 1.4% towards 2.0% over the next year.
Rising sentiment to boost investment spending
Source: Macrobond, Danske Bank Markets
Still pent-up demand in housing
Source: Macrobond, Danske Bank Markets
Signs that wage pressures could build soon
Source: Macrobond, Danske Bank Markets
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The first rate hike is getting on the agenda
With inflation moving higher and unemployment continuing gradually lower,
the Fed will move closer to its goals of 2% inflation and unemployment at the
estimated long-term rate, which is currently at 5.4% according to the latest
projections by FOMC members.
The Fed is very likely to end tapering of asset purchases in October but the
focus on the timing of the first rate hike will likely gain momentum in H2 as
inflation and unemployment continue to move closer to the Fed’s goals. We
look for the first rate hike in mid-2015 and then around 100bp of hikes per
year over the following years. The risk to this scenario in our view is that the
Fed starts earlier and hikes 150bp per year which would correspond to 25bp
per meeting.
Macro forecast – US
Source: Reuters, Macrobond Financial, CBO, Danske Bank Markets
% Change q/q AR Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2013 2014 2015
GDP -1,0 3,3 3,3 3,5 3,5 3,5 3,3 3,5 1,9 2,2 3,4
Private Consumption 3,1 3,6 3,2 3,2 3,6 3,6 3,6 3,6 2,0 3,0 3,5
Private Fixed Investments -2,3 6,9 7,7 7,5 7,4 7,4 7,0 7,0 4,5 3,7 7,3
Residential -5,1 4,1 8,2 9,1 8,2 8,2 6,1 6,1 9,8 2,8 7,5
Non-residential -1,6 7,6 7,6 7,1 7,2 7,2 7,2 7,2 2,7 4,3 7,2
Change in inventories ($bn, real) 49,0 30,0 30,0 35,0 35,0 40,0 40,0 40,0 85,4 36,0 38,8
Change in inventories 1 -1,6 -0,5 0,0 0,1 0,0 0,1 0,0 0,0 -0,4 -0,3 0,0
Public Consumption -0,8 4,1 0,4 0,8 0,8 0,8 0,8 0,8 -0,6 0,0 1,0
Exports -6,0 6,1 8,2 8,2 7,8 7,8 7,8 7,8 2,7 3,8 7,8
Imports 0,8 8,2 8,2 8,2 8,2 9,5 9,5 8,2 1,4 4,2 8,6
Net exports 1 -0,9 -0,5 -0,2 -0,2 -0,3 -0,5 -0,5 -0,3 0,1 -0,2 -0,3
Unemployment rate (%) 6,7 6,3 6,2 6,1 6,0 5,9 5,8 5,7 7,4 6,3 5,9
Inflation (PCE) (y/y) 1,1 1,5 1,6 1,6 1,7 1,8 1,9 2,0 1,1 1,5 1,9
Core inflation (PCE) (y/y) 1,1 1,4 1,5 1,6 1,7 1,8 1,9 2,0 1,2 1,4 1,9
Public Budget 2 -4,1 -2,9 -2,6
Public Gross Debt 2 72 74 73
Current Account 2 -2,3 -2,2 -2,9
Fed funds rate 3 0-0.25 0-0.25 0-0.25 0-0.25 0-0.25 0,5 0,75 1,0 0-0.25 0-0.25 1,0
1: Contribution to GDP growth, 2: Pct. of GDP (CBO), 3:End of period
2015 Calendar year average2014
Rate hike debate in focus as the Fed moves closer
to meet their goals
Source: Macrobond, Danske Bank Markets
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Euro area
Growth supported by the ECB
Sentiment continues to improve in the financial market and the real
economy. Domestic demand is recovering despite global weakness.
We expect positive growth surprises as pent-up demand is unleashed.
The recovery is still without credit but the ECB has stepped in, and it
will help banks’ funding situation. If capital constraints are the main
issue behind weak bank lending, the ECB signals it is ready to take
banks’ credit risk through purchases in the ABS market.
Inflation is back at this cycle’s low of 0.5% and we expect it to stay
low until Q4 when upward price pressure from the labour market
and food commodity prices should result in a gradual increase.
The ECB delivered a stimulus package of negative rates and more
liquidity to be injected over the next two years. In our main scenario
of stronger growth and higher inflation this will be the end of easing.
Recovery driven by domestic demand
The recovery in the euro area continues and is driven by growth in private
consumption and investments. Weaker global growth resulted in lower-than-
expected activity in Q1, when the economy expanded 0.2% q/q. Domestic
demand contributed 0.3pp in Q1, up from 0.1pp in Q4. Some of it was due to
higher government consumption but growth in private consumption was also
higher. On the other hand, the weakness in the US and China in Q1 resulted
in lower export growth and net export dragged down growth by 0.2pp after a
positive contribution of 0.3pp in Q4.
The weakness in foreign demand is also reflected in euro manufacturing PMI,
which peaked at 54.0 in January. We expect the lagged effect from the global
slowdown to have a temporary negative impact on the activity indicator
during Q2. The service PMI, which is mostly dependent on domestic demand,
has not worsened and in line with that consumer confidence continues its
upward trend suggesting higher growth in private consumption.
We expect GDP growth to pick up to 0.5% q/q in H2, when exports should
again support the ongoing recovery in domestic demand. Looking further
ahead we believe growth will surprise on the upside as the improved
sentiment will result in pent-up demand being unleashed. There is a gap to
trend growth in both private consumption and investments of 7pp and 20pp
respectively. In a situation where these gaps close within the next four years it
will add around 1.9pp to GDP trend growth. Moreover, growth should
strengthen further, when the credit multiplier normalises and ECB’s easing
package results in lower real rates and a weaker currency, see more below.
The outlook for economic activity in 2015 implies we have revised our GDP
growth forecast up to 1.9% from 1.7% (consensus 1.5%). The weaker-than-
expected activity in Q1 has resulted in a slight downward revision of our
2014 forecast to 1.2% from 1.3% but it is still marginally higher than
consensus at 1.1%.
Recovery driven by domestic demand
Source: Eurostat, Danske Bank Markets
Manufacturing PMI at a plateau due to weak export
Source: Eurostat, Markit PMI
Positive growth surprises due to pent-up demand
Source: Eurostat, Danske Bank Markets
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Stronger growth when credit growth starts to improve
Bank lending to the private sector continues to decline although the recovery
started a year ago and looking ahead higher growth depends on a normalised
credit multiplier. The ECB’s Bank Lending Survey shows credit demand is
increasing slightly but economic activity will only strengthen if there are no
binding constraints on credit supply through the banking system.
The ECB has stepped in and accommodated banks’ funding situation through
a targeted LTRO at a very low interest rate. The TLTRO implies the ECB
will inject liquidity during the next two years if banks’ net lending exceeds a
specified benchmark. However, the TLTRO will not remove loans from
banks’ balances and it is not necessarily sufficient to boost lending. In case
capital constraints are the main lending issue, the ECB signals it is ready to
take banks’ credit risk through purchases in the ABS market.
We expect the cheap funding will be able to improve bank lending as banks
have made capital improvements ahead of the ECB Asset Quality Review
(AQR) and stress tests. Moreover, after the ECB took its snapshot of bank
balances for the AQR, some early signs of improvement have been seen in
lending and this should strengthen further after the review and stress tests.
Virtuous cycles again helped by the ECB
The virtuous cycles in the periphery countries, initiated by the ECB’s OMT
programme in summer 2012, continue and are again helped by the ECB. First
of all, the positive market sentiment has spilled over to consumers and busi-
nesses where it has strengthened growth and improved the debt development.
This has resulted in sovereign rating upgrades, which in turn improves mar-
ket sentiment and gives lower yields. Consequently governments’ funding
costs are reduced, implying less pressure for fiscal austerity measures and less
headwind to growth. The ECB’s easing package has initiated an intensified
search for positive yield, while it should support activity later.
A strong rebound in the periphery would improve debt sustainability
significantly. If annual GDP growth is lifted by 1pp and the primary budget is
improved by an additional 0.5% of GDP the next five years, it reduces the
debt ratio in 2020 by around 10pp for each of the periphery countries. Lower
government funding costs would reduce debt further but the impact will be
gradual as only part of the debt will mature each year. In our view the
virtuous cycles in the periphery countries are likely to continue.
Inflation still very low, we expect it to increase in Q4
Inflation declined to this cycle low of 0.5% in May, see Euro Area Deflation
Monitor. The most recent fall in inflation is a result of lower food price
inflation but looking ahead we expect the trend to reverse as global food
prices in EUR terms have increased by close to 20% since early 2014.
We also expect core inflation to move gradually higher and in Q4 it should be
back around 1.0%. This follows although the nominal wage growth declined
further to 1.2% y/y in Q1 2014. Nevertheless the short-term unemployment
rate, which has been a good indicator for wage pressure during the crisis,
suggests an increase in nominal wages to around 2.0% y/y in 2014. This will
result in the highest real wage growth since the crisis kicked in and should be
positive for private consumption, which is already supported by higher
purchasing power through lower commodity prices.
Credit growth is still not following GDP
Source: ECB, Eurostat, Danske Bank Markets
Virtuous cycles to reduced debt development
Source: IMF (baseline), Danske Bank Markets
Short-term unemployment rate points to higher
nominal wage growth
Source: Macrobond Financial, Danske Bank Markets
60
70
80
90
100
110
120
130
140
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Italy (baseline) Italy (alternative) Portugal (baseline) Portugal (alternative)
Spain (baseline) Spain (alternative) Ireland (baseline) Ireland (alternative)
Debt in % of GDP
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Given the latest development we have lowered our inflation forecast to 0.6%
from 0.7% in 2014, but we still expect inflation to increase to 1.1% in 2015.
The ECB finally delivered a stimulus package
The ECB announced an easing package containing negative deposit rate,
targeted LTRO with a fixed rate until maturity and a halt to the SMP
sterilisation at the meeting in June, see ECB research: Implications of the
ECB easing measures.
The negative deposit rate has some non-standard effects but overall we expect
it will be growth supportive as it will drive down yields. The mechanism
behind lower yields can be explained as a ‘hot potato’ that is passed between
investors with no one wanting to be the one getting burnt by placing the
excess liquidity at negative rates with the central bank. The search for yield
should also help reduce fragmentation, as strong banks would lend to weaker
banks instead of paying negative rates at the ECB. Eventually, it could feed
through to the private sector and support the weak credit supply, see more in
ECB research #4: Implications of negative rates.
Additionally the more standard effects of ECB’s stimuli will also be growth
supportive as lower real rates will lead to higher growth in consumption and
investments. A stronger recovery should reduce the unemployment rate and
slowly put upward pressure on wage growth and inflation. The easing is also
expected to weaken the exchange rate and support growth through improved
competitiveness, while inflation will also be higher as imported inflation goes
up. As described above, the TLTRO should support bank lending and lead to
higher economic activity.
Given our macroeconomic forecast ECB’s easing measures announced in
June are likely to mark the end of easing. However, if bank lending remains
subdued we expect the ECB to initiate an ABS purchase programme. Another
trigger for easing would be further unexpected declines in inflation but
Draghi said the easing will have a delayed effect on the economy and the
ECB will likely be willing to wait around a year to see the impact.
Macro forecast – euro area
Source: Danske Bank Markets
1. Contribution to GDP growth, 2. Pct of GDP, 3. End of Period
% Change q/q
Annualised rate Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2013 2014 2015
GDP 0.7 1.5 2.1 2.1 1.9 1.9 1.9 1.9 -0.4 1.2 1.9
Private Consumption 0.4 0.8 1.5 1.5 1.5 1.5 1.5 1.5 -0.6 0.7 1.4
Private Fixed Investments 1.4 3.6 3.9 3.9 4.1 4.2 4.2 4.2 -2.8 2.7 4.0
Change in inventories 1 0.2 -0.1 0.1 0.0 0.0 0.0 0.0 0.0 -0.1 0.1 0.0
Public Consumption 1.2 0.8 0.8 0.8 0.1 0.1 0.1 0.1 0.1 0.5 0.4
Exports 1.3 4.1 5.1 5.1 4.7 4.7 4.5 4.5 1.5 3.7 4.7
Imports 3.4 4.1 4.7 4.7 4.6 4.6 4.3 4.3 0.4 3.9 4.5
Net exports 1 -0.9 0.2 0.4 0.4 0.3 0.3 0.3 0.3 0.5 0.1 0.3
Unemployment rate (%) 11.8 11.7 11.6 11.4 11.3 11.3 11.2 11.1 12.0 11.6 11.2
CPI (y/y) 0.7 0.6 0.5 0.9 0.9 1.1 1.2 1.2 1.4 0.6 1.1
Core CPI (y/y) 0.8 0.8 0.8 1.0 1.0 1.1 1.2 1.3 1.1 0.9 1.2
Public Budget 2 -3.0 -2.5 -2.2
Public Gross Debt 2 95.0 95.9 95.2
Current Account 2 2.6 2.9 2.9
ECB refi rate 3 0.25 0.15 0.15 0.15 0.15 0.15 0.15 0.15 0.25 0.15 0.15
2014 2015 Calendar year average
A lowering of the rate corridor and boosted liquidity
Source: ECB, Macrobond Financial
Negative rates help growth through lower yields
Source: Danske Bank Markets
Banking system
Bank A
Bank C
Bank BBank D
Negative rates
Real economy
Households
Corporates
Lower yields
Hot potato effect
Leverage effect
Unintended cons.
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China
Moderate recovery
We expect China to recover moderately in H2 14 on the back of easier
financial conditions, mini-fiscal stimulus and improving exports to
developed markets.
We expect growth to lose some momentum again in H1 15, as the
impact of the stimulus starts to wane.
We expect inflation to increase towards 3% y/y in H2 14, on the back
of higher food prices.
The risk of financial stress remains elevated but, in the short term,
the risk has declined substantially due to easier financial conditions.
The yuan is still slightly undervalued and remains on a moderate
appreciation path in the medium term.
Stealth tightening last year has slowed growth
In China, the focus of economic policy has shifted towards structural
economic reforms and containing credit growth since the leadership
transition within China’s Communist Party (CCP) in October 2012 and the
appointment of a new government in March 2013. To rein in the excessive
credit growth, particularly in shadow finance, a number of regulatory tightening
measures targeting shadow finance were implemented last year. In addition, in
spring last year, the People’s Bank of China (PBoC) started to drain excess
liquidity in the money market through its open market operations.
The policy change pushed the money market in particular and broader
financial markets into a state of stress last year. Money market rates surged,
particularly in June and December, and government bond yields also rose
markedly as corporations and smaller banks suddenly faced much more difficult
refinancing conditions. Credit risk premiums also surged in the wake of a
number of defaults on corporate debt and trust products and the corporate bond
market has been fundamentally repriced to discount a higher probability of
default. Hence, overall financial conditions tightened substantially last year, even
though the PBoC kept its main policy instruments – the benchmark interest rates
and the reserve requirement ratio for banks – unchanged. In this sense, it was a
substantial monetary tightening by stealth.
The tighter financial conditions have also been evident in credit growth,
which has slowed markedly since spring last year. Growth in total social
finance, which includes both traditional bank loans and loans from non-bank
sources (shadow finance), has slowed from 22.5% y/y in May last year to
15.2% y/y in May this year . This slowdown in credit growth has been driven
primarily by a substantial slowdown in shadow finance. Some sources of
shadow finance, such as loans from trust funds, appear to have dried out
completely, meaning that corporations such as smaller property developers
that are dependent on these sources of finance are facing very difficult
refinancing conditions when their loans expire and, for this reason, the
probability of default has also increased markedly for these companies.
Moderate recovery in H2 14 but growth could lose
some momentum again in H1 15
Source: Macrobond, Danske Bank Markets
Monetary conditions tightened substantially last
year but have eased again so far in 2014
Source: Macrobond, Danske Bank Markets
Credit growth has slowed mainly on the back of
slower growth in shadow finance
Source: Macrobond, Danske Bank Markets
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Property market is the weakest spot
The tighter financial conditions last year and weaker investment demand have
been the main reason for the slowdown experienced by China since Q3 last
year, although weaker exports have also been a slight drag on growth. A
closer look at investment demand shows weak housing construction, in
particular, has driven the recent weakness in investment demand.
Manufacturing investment has been cyclically weak but has started to
stabilise. Investments within transportation (mainly public infrastructure)
have been resilient and have started to improve probably reflecting that the
government’s mini-fiscal stimulus announced in March has started to kick in.
However, a firmer recovery appears to be dependent on stabilisation on the
Chinese property market.
It does not look like a severe credit crunch yet
So far, it does not look as though China is facing a severe credit crunch.
First, the tighter financial conditions from last year are now to some degree
being reversed. The PBoC has again started to ease monetary policy by
injecting liquidity both through its open market operations and targeted cuts
in the reserve requirement ratio for mainly smaller bank. Although this is only
cautious monetary easing, money market rates and government bond yields
have nonetheless declined markedly in H1 14, meaning monetary policy has
effectively been eased.
Second, most credit risk and stress indicators for China’s financial sector have
improved markedly in recent months, suggesting that the likelihood of a
replay of last year’s money market stress is limited in the short run (see
Monitor: Chinese Credit crunch, 13 June).
Third, the decline in credit and money supply growth has so far been
relatively modest and has stabilised recently. Month-on month credit growth
has also started to pick up as resilient bank loans and very strong corporate
bond issuance have more than offset the sharp slowdown in loans from trust
funds.
Moderate recovery expected in H2 14
The less tight financial conditions should gradually start to support growth
and are likely to be particularly positive for the housing market. At the local
level, some of the restrictions on home purchases and down payment
requirements that have been introduced in recent years are now being eased
where the slowdown in the housing market has been most severe. The
housing market typically responds with a six-month lag to easier financial
conditions. If the usual pattern prevails, sales of new homes should start
improving in Q3 and construction of new homes should start improving in
Q4.
In March, the government announced a mini fiscal stimulus consisting of
frontloaded public infrastructure spending (mainly railways) and construction
and renovation of subsidised housing.
Housing construction has slowed markedly
Source: Macrobond, Danske Bank Markets
Decline in money supply growth gas been less than
usual in the recent slowdown
Source: Macrobond, Danske Bank Markets
China’s exports have slowed markedly but China
still gaining market share
Source: Macrobond, Danske Bank Markets
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Finally, exports also appear to be improving, supported in particular by
improving exports to Europe and the US. We expect China’s export growth to
be around 9% y/y in H2 14 and hence China continues to gain market share in
global export markets. This also suggests the Chinese currency remains
slightly undervalued. Hence, we do not expect the recent depreciation of the
Chinese currency to be a more permanent reversal of the appreciation trend in
recent year. The main purpose of the wider daily trading band for the
currency and the recent depreciation has been to deter speculative capital
inflows. We expect the yuan to resume a moderate appreciation path in H2 14
when the economy has stabilised.
Recovery could lose steam again in H1 15
We expect the recovery in H2 14 to be relatively modest and growth will
probably lose a bit of momentum again in H1 15 as the boost from the fiscal
stimulus starts to wane. The implication is that the increase in manufacturing
PMIs will probably be modest again, with a peak below 52 in the
Markit/HSBC in Q4 14.
We expect inflation to increase towards 3% y/y in H2 14, mainly on the back
of higher food prices. This is still below the government’s 3.5% ceiling for
acceptable inflation, so this is unlikely to force the PBoC to adjust monetary
policy although its manoeuvring room will become more limited.
Macro forecast – China
1: % of GDP
Source: Macrobond , IMF, Danske Bank Markets
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2013 2014 2015
GDP, % y/y 7.4 7.4 7.3 7.5 7.6 7.4 7.1 7.1 7.7 7.4 7.3
GDP, % q/q AR 6.1 7.4 8.4 7.8 6.6 6.6 7.8 7.0 7.7 7.4 7.3
CPI, % y/y 2.4 2.5 2.7 2.9 3.0 3.1 3.1 3.1 2.6 2.6 3.1
Public Budget 1 -1.9 -2.2 -2.0
Public Gross Debt 1 22.8 21.3 30.0
Current Account 1 2.0 2.2 2.6
I-year benchmark lending rate 6.0 6.0 6.0 6.0 6.0 6.0 6.0 6.0 6.0 6.0 6.0
2014 Calendar year average2015
China appears to have bottomed out
Source: Macrobond, Danske Bank Markets
Inflation poised to move higher in H2 14
Source: Macrobond, Danske Bank Markets
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Japan
And now for the difficult part
The recovery is expected to lose steam in the wake of fiscal tightening
but after a brief contraction in Q2 it is expected to return to moderate
growth in Q3.
However, with the boost from monetary easing waning and Japan’s
exports performing poorly, there are mainly downside risks.
It will be difficult for Bank of Japan (BoJ) to reach its 2% inflation
target in H2 15. Hence, further easing is still on the cards, albeit the
likelihood that BoJ will not ease further in 2014 has increased.
With Japan facing considerable fiscal headwinds in the coming years,
BoJ’s exit from the current aggressive QE programme is not expected
to happen sooner than 2016.
This was the easy bit – now for the difficult part
The Japanese economy is entering less certain territory where Abenomics –
the economic strategy of the current LDP-led coalition government – will
really be tested. The first phase of Abenomics has mainly focused on kick-
starting the economy and defeating deflation. The main tools have been
aggressive monetary easing and fiscal stimulus. Japan is now moving into the
much more difficult second phase of Abenomics where focus to a larger
degree shifts to structural economic reforms to the raise Japan’s dismal long-
term growth potential and improve public finances.
The basic idea behind Abenomics is that the first phase should by now have
created a more favourable macroeconomic and political foundation for
improving public finances and implementing structural reforms. Arguably,
Abenomics differs from the austerity-focused strategies in the euro area by its
higher priority on growth and macroeconomic stabilisation in the short run.
The logic is that a more favourable macroeconomic foundation will reduce
the economic costs of budget consolidation in terms of lost output but also
increase the likelihood that structural economic reforms can be implemented
successfully.
Abenomics has so far been a success
So far Abenomics has been relatively successful. Importantly, it has
achieved political stability. The LDP led by Prime Minister Shinzo Abe won
landslide victories in connection with the Lower House election in December
2012 and the Upper House election in July 2013. Together with its coalition
partner, LDP now has a clear majority in both houses and will not face a
major election until 2016. Hence, Japan finally appears to have a prime
minister and government that will be able to last more than one year and face
Japan’s long-term challenges. With Abenomics, Japan at last has a coherent
economic strategy for facing these long-term challenges
Recovery is poised to lose steam in wake of tax hike
but return to positive growth in Q3
Source: Macrobond, Danske Bank Markets
Labour market has improved markedly
T
Source: Macrobond
Inflation expectations have increased markedly
T
Source: Bloomberg, Danske Bank Markets
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The first phase of Abenomics that started with the LDP’s assumption of
power in December 2012 has so far been relatively successful. The recovery
has been strong albeit growth has been uneven. The unemployment rate has
dropped markedly to just 3.6% and is now at its lowest level since 2006.
Other labour indicators suggest that the labour market is now the strongest it
has been since the early 1990s.
Consumer prices and inflation expectations have both moved out of
deflationary territory. Inflation surged in April to 3.2% y/y in the wake of
the consumption tax hike. Consumer prices excluding fresh food and the
impact from indirect taxes (the measure that BoJ targets) increased to 1.5%
y/y in April from -0.4% y/y in April last year. Hence, at least on the surface
BoJ within striking distance of BoJ’s 2% inflation target.
Recovery remains fragile
Nonetheless the Japanese recovery remains fragile for several reasons.
First, the increase in inflation has so far mainly been driven by the
weaker yen through higher import prices – particularly higher energy prices.
While there are signs that wage growth is picking up, real wage growth has
remained negative. For BoJ to be successful, it is necessary that wage growth
starts to improve substantially. In light of the tight labour market, it is not
unreasonable to expect that it will eventually pick up. However, in the short
inflation will most likely start to decline slightly again because the impact
from the weaker yen starts to wane.
Second, tighter fiscal policy is poised to be a drag on growth in the
coming years. The blow from the hike in the consumption tax rate in April to
8% from 5% has been softened by higher public infrastructure spending, but
nonetheless fiscal policy will still be tightened by about 1% of GDP in 2014.
The consumption tax will probably be raised again in October 2015 from 8%
to 10% and overall fiscal policy is expected to be tightened by close to 1% of
GDP in both 2015 and 2016. If the government’s goal to balance the primary
budget balance by 2020 is to be achieved, it will probably require that fiscal
policy is also tightened by 1% annually from 2016 to 2020.
Third, monetary conditions (measured by the impact from changes in the
real interest rate, the real effective exchange rate and stock prices) have
become less accommodative (see chart). In other words, the boost to growth
from the aggressive monetary easing has started to wane just as the growth
impact from the fiscal policy turns negative.
Fourth, Japan’s exports have performed extremely poorly despite the
sharp depreciation of the yen since late 2012. Japan has continued to lose
market shares on global export markets and overall Japan’s total exports have
only increased 0.2% since Q4 12. Hence, the recovery so far been driven by
domestic demand. However, it will be extremely difficult to achieve the
ambitious improvement in public finances in the coming years without
support from exports.
Short-term contraction, but return to growth in Q3
Growth in Q1 14 accelerated sharply to 6.7% q/q ann. from just 0.3% q/q ann.
in Q4 13 as consumers frontloaded purchases of consumer durables ahead of
the consumption tax increase in April. Hence, there will be a substantial
payback on private consumption and a slight contraction in GDP in Q2 is
unavoidable.
Difficult to reach 2% inflation target in H2 15
Source: Macrobond, Danske Bank Markets
Financial conditions becoming less
accommodative
Source: Macrobond, Danske Bank Markets
Japan’s exports continue to lose market share
Source: Macrobond, Danske Bank Markets
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The big question is to what degree will the economy be able to recover in Q3.
In our view, the Japanese economy is unlikely to slip into a recession as it
did in 1997 when the consumption tax last was raised. First, the overall
tightening of fiscal policy is less this time. Second, the external environment
is more positive today. In 1997, Asia was in the midst of the Asian crisis,
while the global economy is expected to be in a moderate recovery in the
second half of this year. Third, the domestic economy today is stronger.
Exit from QE not on the agenda until at least 2016
Nonetheless, the recovery is poised to lose considerable steam in 2014 and
2015 and this will make it extremely difficult for BoJ to reach its 2% inflation
target in H2 15 (BoJ’s current projection). If this is the case, BoJ will
eventually be forced to ease further. In the short run, BoJ is unlikely to
respond with further easing on the back of a slight contraction in GDP in Q2.
For BoJ it will be more important to what degree the economy recovers in
Q3. We believe that further easing is possible in Q4 14, particularly if
inflation starts to decline and/or if JPY fails to depreciate further. That said,
with growth probably returning, the likelihood that BoJ does not ease at all in
2014 has admittedly increased.
BoJ is already easing monetary policy aggressively compared with other
major central banks. With Japan entering an extended period with fiscal
headwinds, monetary policy will have to stay extremely accommodative
well into 2016. In our view, exit from BoJ’s aggressive QE programme will
not be on the agenda well into 2016. Fundamentally, this is more important
for our expectations of weaker JPY than a slight increase in the pace of asset
purchases in connection with additional easing. The main risk for our forecast
of a weaker yen is an early exit from the QE in connection with a faster-than-
expected increase in inflation.
Macro forecasts – Japan
Source: Macrobond, Danske Bank Markets 1: Contribution to GDP growth, 2: Pct. of GDP
% Change q/q
Annualised rate Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2013 2014 2015
GDP 6.7 -4.0 2.4 1.0 1.3 1.3 2.3 -0.9 1.5 1.7 1.1
Private Consumption 9.4 -7.8 1.6 1.2 1.2 1.2 2.8 -2.0 2.0 1.6 0.4
Private Fixed Investments 30.2 -2.9 0.9 1.0 1.0 1.0 1.0 1.0 0.2 9.0 0.0
- Residential investment 13.0 2.0 -3.9 -3.9 -3.9 -3.9 -3.9 -3.9 8.8 7.9 -0.6
- Non-residential 34.2 -3.9 2.0 2.0 2.0 2.0 2.0 2.0 -1.4 9.3 6.4
Public Investments -10.5 2.0 2.0 -5.9 -5.9 -5.9 -5.9 -5.9 11.5 3.1 -0.5
Change in inventories 1 -1.7 -0.2 0.9 -0.1 0.0 0.0 0.0 0.0 -0.3 -0.4 0.4
Public Consumption 0.4 0.8 0.8 0.8 1.2 1.2 1.2 1.2 2.0 0.8 0.7
Exports 26.3 4.1 2.0 4.1 4.1 4.1 4.1 4.1 1.6 8.1 6.7
Imports 27.6 -3.2 1.6 1.6 1.6 1.6 1.6 3.6 3.4 10.6 6.9
Net exports 1 0.1 1.2 0.1 0.4 0.4 0.4 0.4 0.1 -0.2 0.9 0.8
Unemployment rate (%) 3.6 3.6 3.5 3.5 3.5 3.4 3.4 3.3 4.0 3.6 3.4
CPI, excl. Fresh food (y/y) 1.3 3.2 3.0 3.1 3.2 1.3 1.4 2.6 0.2 2.7 2.1
Public Budget 2 -8.4 -7.2 .6.4
Public Gross Debt 2 243 244 245
Current Account 2 0.7 1.2 1.3
O/N target rate 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10 0.10
2014 2015 Calendar year average
Japan faces fiscal headwinds
Source: IMF Fiscal Monitor, Danske Bank
BoJ is already easing monetary policy aggressively
Source: IMF Fiscal Monitor, Danske Bank
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P e te r P o s s i n g A n d e r s e n + 4 5 4 5 1 3 7 0 1 9p a @ d a n s k e b a n k . d k
L a r s Tr a n b e r g R a s m u s s e n+ 4 5 4 5 1 2 8 5 3 4 l a r a s @ d a n s k e b a n k . d k
M o r te n T h r a n e H e l t+ 4 5 4 5 1 2 8 5 1 8m o h e l @ d a n s k e b a n k . d k
A n d e r s Ve s te r g å r d F i s c h e r+ 4 5 4 5 1 3 6 6 4 1a f i s @ d a n s k e b a n k . d k
J e n s N æ r v i g P e d e r s e n + 4 5 4 5 1 2 8 0 6 1j e n p e @ d a n s k e b a n k . d k
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L o u i s L a n d e m a n+ 4 6 8 5 6 8 8 0 5 2 4l l a n @ d a n s k e b a n k . s e
J a ko b M a g n u s s e n + 4 5 4 5 1 2 8 5 0 3j a k j a @ d a n s k e b a n k . d k
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L a r s H o l m+ 4 5 4 5 1 2 8 0 4 1l a h o @ d a n s k e b a n k . d k
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C h i e f A n a l y s t & H e a d of M i c h a e l B o s tr ö m+ 4 6 8 5 6 8 8 0 5 8 7m b o s @ c o n s e n s u s . s e
R o g e r J o s e f s s o n+ 4 6 8 5 6 8 8 0 5 5 8 r j o s @ c o n s e n s u s . s e
M i c h a e l G r a h n + 4 6 8 5 6 8 8 0 7 0 0m i k a @ c o n s e n s u s . s e
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S ta n i s l a v a P r a d o v a + 4 5 4 5 1 2 8 0 7 1s p r a @ d a n s k e b a n k . d k
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V l a d i m i r M i k l a s h e v s k y + 3 5 8 ( 0 ) 1 0 5 4 6 7 5 2 2v l m i @ d a n s k e b a n k . co m
D a n s k e B a n k , D a n s k e R e s e a r c h , H o l m e n s K a n a l 2 - 1 2 , D K - 1 0 9 2 C o p e n h a g e n K . P h o n e + 4 5 4 5 1 2 0 0 0 0 w w w. d a n s k e r e s e a r c h . co m