What sort of Euro area future is wrapped up in a 1% benchmark bond yield?

14th August 2014 by The Harried House Hunter

It was only a week ago that European Central Bank President Mario Draghi was cheerily telling us that he was off to take a holiday in Italy. However the cheer will be on hold as he observes today’s data from the two largest economies in the Euro area. As discussed in the comments section yesterday, it was going to be touch and go as to whether there was economic growth in France and Germany. It turned out that one did not have any and the other contracted although not the one you might expect.

Germany contracts

Not two words you generally associate but here is the news from the Federal statistics office.

The German economy is losing momentum. In the second quarter of 2014, the gross domestic product (GDP) decreased 0.2% on the previous quarter after adjustment for price, seasonal and calendar variations.

So not quite what you expect from the economic “locomotive” or “powerhouse”. Also if you are thinking that adding drugs and prostitution will soon fix that, actually they are already there!

These results are based on the new ESA 2010 methodology for the first time.

If we look for the factors which weakened the German economy we see that they are ones usually considered to be its strengths.

 In a quarter-on-quarter comparison, the increase in exports was smaller than the increase in imports, so that the balance of exports and imports had a negative effect on the German economic development. Also, capital formation, especially in construction, fell markedly, one of the probable causes being anticipatory effects due to the unusually mild winter of 2013/2014.

So a contraction, although some care is needed as on an annual comparison the German economy is still moving forwards.

The price-adjusted GDP in the second quarter of 2014 was up by 0.8% (1.2% when calendar-adjusted) on the second quarter of 2013.

Although we do have a nuance to this as this is supposed to be the Euro area recovery phase and German growth was hoped to be much better than that. Oh and Germany seems to have adopted the British ‘blame the weather’ attitude to poor economic statistics.

However, one of the reasons probably was the extremely mild weather leading to high growth rates at the beginning of the year.

France stagnates

The travails and problems of the French economy have been a theme of this blog for some time now and they are not getting any better.

In Q2 2014, French growth domestic product (GDP) in volume* remained steady (0.0%).

That means that the French economy has flatlined so far in 2014. So the hopes of the official forecasters that the 0.2% growth of the last quarter of 2013 would continue have turned to dust. In the latest quarter this is in spite of the fact that consumption rose (+0.5%) and the fact that (in spite of the austerity claims) government spending rose too. However in a similar pattern to Germany net trade and investment subtracted from growth.

Thus we are left with a ‘same as it ever was’ theme for France where even what is supposed to be a recovery period does not seem to have helped the economy much. The French government has already stated today that it will not now be able to hit its austerity and budget deficit targets for 2014.

What about the whole Euro area?

I do not think that this is the type of stability that several ECB Presidents have lauded.

Seasonally adjusted GDP remained stable in the euro area1 (EA18) during the second quarter of 2014.

This meant that the annual rate of economic growth dropped from 0.9% to 0.7% in the Euro area. Also the ECB will note that weak growth is being accompanied by low inflation.

Euro area annual inflation was 0.4% in July 20142 , down from 0.5% in June. This is the lowest annual inflation rate since October 2009.

I am reminded of the period about 18 months to two years ago when the Euro area Presidents Juncker and Von Rompuy promised us that their focus would be “growth, growth, growth” which does not seem to have quite worked out. Mind you according to the Algarve News there is growth for some.

Luís Durão Barroso…. has landed a top job at the struggling Bank of Portugal.

The 31-year old formally was taken on without having to suffer the stress of an interview as no other candidates were sought by Portugal’s struggling central bank.

Luís’ father is José Manuel Durão Barroso, the 11th and current President of the European Commission.

What about the Purchasing Managers’ Indices?

This is a dual edged sword for the Purchasing Manager’s Index (PMI) series as published by Markit. First let us start with the praise which is that the PMI series has indicated economic problems in France when the official series have predicted growth. However we were told this about Germany.

robust growth in Germany……An ongoing robust expansion of output meant the region‟s largest member state continued to enjoy its best spell of growth for three years….

This was from May 24th and is symbolic of a what turned out to be over-optimism about Germany’s prospects. This also led them to forecast this for the wider Euro area.

 GDP looks set to rise by 0.5% in the second quarter after the lacklustre 0.2% rise in the first three months of the year

So the series was over-optimistic and over emphasised the gap between France and Germany’s economic performance. So we advance in a more sanguine and humble fashion as yet another economic indicator shows its flawed nature.

Looking forwards

There is something of a curate’s egg here. The downside is definitely the impact of the Ukrainian crisis and the sanctions on Russia which will have a depressing effect on the economy in this quarter. However on the other side of the coin there may be the beginnings of a boost should the recent fall in the oil price be sustained. The price of a barrel of Brent crude oil has dipped to around US $104. Although in an irony this may show up first in even lower inflation numbers which will create something of a media storm.

Also the Euro has drifted lower since the heights of the spring and has now fallen below 1.34 versus the US Dollar. Although some of the gains will be negated by the fact that the previously strong UK Pound is weakening against the Euro.


The ten-year bond yield in Germany fell below 1% this morning in response to these figures and is as low as records have seen. If you prefer this in price terms then the futures contract on it also passed a benchmark as the September contract rose above 150. For perspective it was nearly 2% as 2014 opened.

Firstly congratulations to anyone running a portfolio long of German bonds. However as we analyse the situation we see that there are plenty of worms in this particular can. The Euro area crisis saw German bonds surge but now prices are higher and yields lower which implies another type of crisis in itself.

Putting it another way, if investors are willing to accept a return of 1% per annum for ten years what does that imply for expectations of economic growth and inflation in Germany? I have written before that it is my opinion that the ECB keeps telling us “inflationary expectations are anchored” to try to obscure the fact that they are plainly not, and perhaps also to try to convince itself.

The current situation in Euro area bond markets has many of the features of a bubble and is likely to be volatile but it is asking questions which the economic and political establishment are simply not listening too.

Another example of this is the French ten-year bond yield. It was not that long ago that I was writing about it falling below the equivalent UK Gilt (last summer if I recall correctly). At the time of typing it is now 1.4% whilst the UK Gilt is 2.4%.


The recovery in the Euro area seems to be thematically asking a question that Muhammed Ali had the courage to ask George Foreman in the “rumble in the jungle” all those years ago.

That all you got, George?

If it is then there is more trouble ahead as debt burdens mount.









9 thoughts on “What sort of Euro area future is wrapped up in a 1% benchmark bond yield?”

  1. Pavlaki says:

    ‘Morning Shaun, your predictions yesterday about the poor Eurozone data were spot on and yet at the moment the data was released (early this morning) the Euro shot up against the pound! If I was puzzled yesterday, I am even more so today! I am not a forex trader, not even an amateur one, but I do find the currency gyrations fascinating, if lacking in logic.

    1. Anonymous says:

      Hi Pavlaki

      I have a feeling that the UK Pound £’s run against the Euro is over for now. One factor in the background is that the ECB’s balance sheet continues to shrink as each Friday more of the LTROs gets repaid. Last week it was another 4 billion Euros as we await tomorrows news.

  2. Forbin says:

    Hello Shaun,

    but ” ……if investors are willing to accept a return of 1% per annum for ten
    years what does that imply for expectations of economic growth and
    inflation in Germany?”

    Doesnt this mean they think that the ROW will be a lot worse off ? Germany as a safe haven ?

    you know , from Bail-ins ?


    PS: and aren;t they just canny investors avoiding negative rates from the ECB?

    1. Anonymous says:

      Hi Forbin

      The safe haven argument is a fair point. Although other Euro nations are seeing much lower bond yields too as for example even Portugal has a 10 year yield of 3.54%. For a country that needs a default of some sort that is rather extraordinary…

      Does it mean though if we take that logic further that the UK (10 year 2.44%) and the US (10 year 2.4%) are considered bail-in risks?

  3. zummerzetman says:

    ‘Germany seems to have adopted the British ‘blame the weather’ attitude to poor economic statistics’.
    So we all need to be in the weather equivalent of the ‘goldilocks zone’ to achieve consistent growth now? It’s a shame about the mounting evidence of climate change then. With all the extreme weather events we’ll never get the right conditions for recovery!!

    1. Anonymous says:

      Hi Zummerzetman and welcome to my part of the blogosphere

      It is a feature of weak economic statistics these days that the weather finds itself taking at least some of the blame. The US 1st quarter of 2014 was an example and the UK has had several such experiences but currently does not require them. Perhaps the oddity in today’s data was that Germany blamed the weather but it in fact helped keep France from a decline.

      “Global expenditure on energy bounced back in Q2 (+3.5% after –3.9%) after rather soft weather conditions in winter.”

      If the UK was looking for something to blame then the hailstorms and mini-monsoons of this week in SW London would no doubt be used!

  4. Fraser Bailey says:

    The news about Barosso’s son should be on the front page of every newspaper in Europe. But it won’t be. We are now inured to nepotism, corruption and incompetence in Europe. We are now little or no better than South America and Africa.

    1. Anonymous says:

      Hi Fraser

      it is rather extraordinary isn’t it? Especially the bit that no interview was required for someone who has no previous experience! As the Algarve Daily News put it.

      “Luis Barroso was hired without competition for the Prudential Supervision Department. The rule in the bank is for open contests for posts, unless ‘proven and recognised professional competence’ has been established.”

    2. Noo 2 Economics says:

      “We are now inured to nepotism, corruption and incompetence in Europe” And the UK.

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