PRESS RELEASE : Remarks by Commissioner Gentiloni at the 2022 Autumn Economic Forecast press conference [November 2022]

The press release issued by the European Commission on 11 November 2022.

Let me begin with the key messages that we are giving through this forecast:

First, the EU economy is at a turning point.

After a surprisingly strong first half of the year, the EU economy lost momentum in the third quarter and recent survey data point to a contraction for the winter.

The outlook for next year has weakened significantly. We now forecast the EU economy to grow by only 0.3% in 2023 before a progressive recovery to 1.6% in 2024.

Second, inflation has continued to rise faster than expected, but we believe that the peak is near, most likely at the end of this year. We project headline inflation to reach 9.3% in the EU and 8.5% in the euro area and to decelerate only mildly next year, to 7.0% and 6.1%, before coming down more forcefully in 2024.

Third, the EU labour market remains the bright spot of the EU economy and is expected to show again resilience. The increase in unemployment next year is projected to be moderate before falling again in 2024.

Fourth, we project government deficits to remain above 3% but debt ratios to continue declining.

From in 4.6% – that was the deficit in 2021, the deficit should reach 3.4% this year, 3.6% next year and 3.2% in 2024.

The aggregate debt-to-GDP ratio is projected to fall from  89.4%, which was the figure in 2021 to 84.1% in 2024.

Fifth, uncertainty remains exceptionally high, with predominantly downside risksS. Our forecast baseline is yet again underpinned by some crucial working assumptions that I want to stress. In particular:

It is assumed that geopolitical tensions will neither normalise nor escalate before the end of the forecast horizon and all adopted sanctions against Russia will remain in place. This is an assumption of the forecast.

Second assumption: Continuation of demand reduction and supply diversification will ensure that the EU economy avoids major gas shortages over the forecast horizon.

Final assumption is that monetary policy tightening is assumed to continue without inducing disorderly adjustments in financial markets.

As far as growth is concerned, real GDP growth in the first half of the year surprised on the upside. GDP increased at a quarterly rate of 0.7% in both the first and the second quarter. The expansion continued at a weaker pace of 0.2% in the third quarter.

But the forces driving the post-pandemic expansion have now largely faded away, and the shocks unleashed by the war and a broad-based slowdown in external demand are taking the upper hand.

As inflation has continued to surpise on the upside, the sharp erosion of purchasing power has shifted consumer sentiment dramatically. Confidence plunged also in the business sector, amid high production costs, remaining supply bottlenecks, tighter financing conditions and heightened uncertainty.

We expect the EU economy to contract in both the current quarter and the first quarter of 2023. This technical recession is set to be broad-based across demand components but also across countries, with a majority of Member States experiencing two consecutive quarters of contraction.

Energy prices: after soaring to unprecedented levels in late summer, wholesale prices of gas and electricity in the EU have come down significantly in recent weeks. This reflects the successful filling of storage tanks and possibly the recent mild temperatures. Futures prices for 2023 and 2024 have declined as well.

Current gas storage levels appear sufficient to allow our economies to through this winter, but the near absence of Russian gas and difficulty in further expanding LNG imports, also considering infrastructure bottlenecks, will make refilling storages ahead of the winter of 2023/2024 more challenging.

Electricity prices remain highly correlated with gas.

Inflation has kept outpacing wage growth. High inflation is eroding the purchasing power of disposable incomes of households, but also the real value of their wealth.

Growth in the volume of private consumption is thus projected to decelerate sharply from 3.7% in 2022 to 0.1% in 2023, before picking up to 1.5% in 2024.

Investment is also projected to continue to grow, albeit at a more subdued pace next year, under the impact of higher input and labour costs, coupled with rising borrowing costs. These adverse developments are partially mitigated by continued implementation of the Recovery and Resilience Facility, which is set to sustain public investment, markedly so in some countries.

Finally, weakness in the EU’s external environment is expected to persist, providing little support over the forecast horizon.

All in all EU GDP growth is expected at 3.3% this year thanks to a significant carry-over from 2021 and, as I said before, a strong first half of the year.

The upward revision from the Summer Forecast should not distract from the main message: The economic situation has deteriorated markedly and we are heading into two quarters of contraction. And by the way, this shows that our decision to extend the general escape clause to 2023 was warranted.

Economic activity is expected to stabilise in spring next year, before starting to regain some strength, on the back of progressively easing inflation, increasing households’ disposable income and abating supply disruptions. But the rebound is set to be subdued, as uncertainty remains high, the negative shock from energy market developments lingers, monetary policy tightens, and external demand recovers only mildly.

For 2023 as a whole, this forecast projects real GDP growth in both the EU and euro area at 0.3%.

In 2024, growth is set to progressively regain traction, averaging respectively 1.6% and 1.5% in the EU and the euro area.

What is the map of this growth for 2022 and 2023? All the EU economies are expected to continue growing in 2022, then experience a marked slowdown of activity in 2023, before seeing a pick-up in 2024. This is for all Member States.

Preliminary data indicate that some Member States already registered a contraction in GDP in the third quarter of this year, and most EU economies are set to see one contraction in the current quarter.

The main economies:

In Germany, soaring energy costs are a major drag on income and output growth. Together with costlier borrowing, this is likely to weigh on investment. Further losses in purchasing power amid high inflation are expected to curtail private consumption, despite partial relief from policy support. GDP is forecast to grow by 1.6% this year but decline by 0.6% in 2023 before recovering by 1.4% in 2024.

In France, economic activity is expected to remain subdued over the first half of 2023. In the second half of next year, the projected moderation of inflation is set to allow for a gradual recovery, with private consumption gaining momentum and investment growing again. Real GDP in France is forecast to grow by 2.6% this year, by 0.4% in 2023, and by 1.5% in 2024.

In Italy, the energy price shock and the worsening external outlook are taking their toll. Thanks to solid growth in the first three quarters of the year, real GDP growth is forecast at 3.8% this year. In 2023, consumer spending is likely to stagnate, while high input costs, tightening financing conditions and slowing demand are projected to dampen corporate investment. Accordingly, GDP growth is set to slow down from the 3.8% of 2022 to 0.3% in 2023, before picking up to 1.1% in 2024.

Spain is forecast to see a deceleration of growth next year. Pressures stemming from high energy prices are expected to partially ease from mid-2023, enabling a gradual pick-up in activity on the back of the moderate revival of private consumption and a further normalisation of tourism. This expansion is projected to be more robust in 2024 also on the back of invigorated domestic and external demand. Real GDP is projected to grow by 4.5% this year before easing to 1.0% in 2023, and edging up to 2.0% in 2024.

Lastly, in Poland, economic growth is set to decelerate visibly in 2023 and 2024 and become negative at the beginning of 2023. After strong growth in 2022, the weakening is due to increased uncertainty, a tightening of financing conditions, and the economy’s adjustment to higher commodity prices. Overall, the economy is forecast to grow by 4.0% in 2022, 0.7% in 2023 and 2.6% in 2023.

Energy inflation is expected to keep increasing until year end, before starting to decline next year. Headline inflation for this year is now projected at a rate of 9.3% in the EU and 8.5% in the euro area.

It is expected to gradually decelerate next year to 7.0% in the EU and 6.1% in the euro area. Only in 2024, inflation is expected to moderate more significantly, to 3.0% in the EU and 2.6% in the euro area.

The broadening of inflationary pressures suggests that core inflation is set to peak only in the first quarter of 2023 and abate very slowly thereafter. Core inflation is thus projected to settle above headline inflation for most of 2024.

The impact of adopted or planned fiscal energy measures adds uncertainty to the forecast for energy inflation.

The inflation map shows a lot of differences among Member States. In 2022 inflation is expected to range from 5.8% in France to 19.1% in Estonia. Next year, from 3.7% in Denmark to 15.7% in Hungary.

As is evident from the map, there is a strong geopolitical pattern to intra-EU inflation differentials. Namely, Central and Eastern Europe ranks visibly higher than the rest of the EU, both in 2022 and 2023.

The labour market is still very strong, the strongest labour market in decades. Unemployment rates are at record low and participation and employment rates at record high. What is more, vacancy rates and reported labour shortages remain extremely elevated, though they have started declining. Our analysis suggests that as demand weakens and even contracts, the number of vacancies and labour shortages will abate significantly, before unemployment starts increasing again.

Labour markets are therefore expected to remain strong as employment growth is likely to react to the slowing of economic activity with a lag. The unemployment rate is projected to increase only marginally from 6.2% in 2022, to 6.5% in 2023, before falling again to 6.4% in 2024.

Wage growth increased to above-average rates in 2022 and is expected to remain strong, but to compensate for lost purchasing power only partially. In other words, we do not yet see significant feedback loops between wages and inflation.

The trade balance: the current account surplus is projected to shrink from 3.1% of GDP in 2021 to 2.1% in 2022, recovering somewhat in the next years.

Despite a faily good performance in goods exports, the strong surge in import prices dominates, turning the EU’s large surplus of the trade balance into a small deficit in 2022. Next year, the balance is projected to be less negative, while in 2024 it would turn mildly positive.

In contrast to goods, the balance of services is projected to increase this year thanks to the substantial rebound of the tourism industry. And here a weaker euro is of help of course. 

Deficits: The economic expansion in the first nine months of the year and the phasing out of pandemic-related measures is driving a further reduction in deficits this year, despite new measures to mitigate the impact of energy prices on households and firms. The general government deficit is forecast to fall from 4.6% of GDP in 2021 to 3.4% in 2022.

As the economy weakens, the deficit is expected to increase again to 3.6% of GDP in 2023.

But in line with the Commission’s ‘no-policy-change assumption’, these projections take into account only measures credibly announced and specified in sufficient detail by the cut-off date. Importantly, at the cut-off date, which was at the end of October, some Member States had not yet announced which energy measures they plan for 2023. Moreover, while several energy measures are planned to expire in the course of 2023, with energy prices set to remain high, Member States may of course prolong existing measures or implement new ones. As such, the budgetary cost of energy measures in 2023 may be higher than expected and the budgetary deficit in consequence underestimated.

The additional costs related to measures to mitigate the impact of high energy prices are currently estimated to have a net impact of 1.2% of GDP this year and 0.9% next year. In a stylised exercise, Commission services estimated that if energy measures had to be kept in place for the full year 2023, their total net cost could increase by an additional 1% of GDP in both the EU and the euro area, reaching close to 2% of GDP in 2023. So we are now forecasting 0.9%, but in this stylised scenario, it could reach 2% – the additional spending related to GDP for energy measures – if they become permanent, or if you have new unannounced measures.

In 2024, the aggregate deficit in the euro area is forecast to fall again, to 3.2% of GDP, thanks to the projected resumption of economic activity and in the assumed absence of energy-related measures in 2024.

The number of countries with a deficit exceeding 3% of GDP is set to remain at 15 this year. This number is expected to increase to 16 in 2023, before falling again to 11 in 2024 based on unchanged policies.

Overall, these developments imply a supportive stance in 2022 and in 2023, followed by normalisation in 2024.

Inflation should mechanically support a further reduction of the debt throughout the forecast horizon through the denominator effect. The debt-to-GDP ratio for the EU as a whole is set to decline to 84.1%in 2024. Yet, over the longer term high inflation (especially if imported) is bound to negatively affect public finances as well.

Risks, which is always the last part, and not always the best part of our forecast.

And you may not be surprised that risk is titled to the downside.

Because of the extraordinary uncertainty, the potential for further economic disruptions due to  Russia’s war is far from exhausted.

The largest threat comes from adverse developments on the gas market and the risk of shortages, especially not this winter but next winter.

Beyond our baseline scenario, the Commission provided an additional estimate on the economic costs of a complete stop of gas flows from Russia compounded by insufficient gas consumption savings and cold winters. These costs would be sizeable. These costs could be mitigated if we continue to increase gas imports from other (non-Russia) suppliers to prepare for the next winter. However, if we fail to prepare for a high-demand season in advance, economic costs could be somewhat higher in 2023 and markedly higher in 2024. Inflation could increase by an additional 2 percentage points in 2024 compared to our baseline, if this scenario of complete cut from Russian gas will materialise.

Finally, rising borrowing costs compounded by strongly rising production costs at a time when demand cools, amplify pre-existing financial vulnerabilities in the corporate sector. Renewed stress in financial markets may also emerge in response to a worsened profit outlook for firms and a general context of higher interest rates.

We are approaching the end of a year marked by the return of war in our continent: a brutal war of aggression for which Russia alone is responsible.

In spite of this major shock in the first months of the year, growth was markedly stronger than analysts expected in the both first and second quarters, and even in the third quarter.

So our economies have shown great resilience – thanks in no small part to the bold decisions taken over the past couple of years in a spirit of unity and solidarity. These decisions have supported both the labour market and investment.

But inevitably, the impact of soaring energy prices and rampant inflation are nonetheless taking their toll. We have some difficult months ahead of us. I have highlighted the many risks surrounding this forecast.

So let me conclude by telling you that if we as Europeans can remain united, we will be able to successfully navigate also this challenging period, making it short, and emerge stronger from it.

In sum, I want to say that the economic prospects are not only subject to huge uncertainty, but are crucially policy-dependent. If we are able to show, based also on the experience of the pandemic, that we are able to agree on a common policy strategy, this will have confidence effects on markets and investors and may change the outlook for the better. In this sense, I believe that also a rapid convergence on the new proposals by the Commission on the reform of our economic governance could be key in giving this positive contribution.

And now I am here for your questions.