Euro area needs more bank lending

These are the political and economic problems the ECB is dealing with.

France, for example, just got a three-page letter from the EU Commission with a detailed description of demand- and employment-stifling structural reforms it has to implement – as a condition of getting access to the €300 billion investment package the highly-paid Brussels commissioners have yet to figure out how to finance.

The key part of these reforms are more flexible labor markets, a euphemism for easier hiring and firing and all sorts of part-time and fixed-term employment contracts. At the moment, 84.2 percent of all French labor hires are based on loathed CDD fixed-term contracts (contrats à durée determinée).

The rub is that without a permanent job contract you can’t even rent an apartment in Paris, or, apparently, anywhere else in France.

Read More Job losses and weak demand dent euro zone economy

This example makes it easy to understand the social outrage at radical labor market reforms. The present French government, with record-low approval ratings (somewhere between 15 and 20 percent), and squeezed from left and right, is likely to ignore the demand for further labor market reforms while insisting on its share of any future EU manna.

Italy is another example of a country that is getting nowhere with its reform agenda. Mired in a continuing recession, with a jobless rate of 12.6 percent, 43 percent of unemployed youth, and government’s approval ratings falling 13 points so far this month, Italy is experiencing daily protests against the proposed changes in labor protection laws. The three main labor unions – more than 8 million strong — have scheduled a nationwide strike for December 12.

¡Si se puede! (“Yes, we can!”)

With a growth rate of 1.2 percent in the first nine months of this year, Spain looks like a booming euro area country, despite its 24 percent unemployment rate, more than 50 percent of its jobless youth and 30 percent of its working poor earning less than €1,216.00 per month.

With a budget deficit of about 6 percent of the gross domestic product (GDP) expected to be overshot by the end of this year (after a deficit of 7.1 percent of GDP in 2013), Spain is very far from the euro area budget deficit limit of 3 percent of GDP. In spite of that, a number of fiscal stimulus measures have been put forward as the governing center-right party gets ready for elections in late 2015. It is currently running neck-and-neck with a recently launched radical left Podemos (“We Can”) party polling at about 28 percent. Podemos is led by a pony-tailed political science professor whose members are chanting President Obama’s slogan “yes, we can!”

Germany’s weak economy will probably end up with a balanced budget next year, but its center-right and center-left governing coalition will also face growing political challenges. In a historic deal, the three left parties – the far-left party Die Linke, Social Democrats (who are now part of the governing coalition) and the Greens – have agreed last week to form a “red-red-green” government in the federal state of Thuringia.

ECB Must Weaken Euro to Aid France and Italy, Ex-BOE’s King Says

Euro-area stagnation poses the largest threat to the global economy and Mario Draghi should weaken the euro to help boost the flagging economies of France and Italy, according to former Bank of England Governor Mervyn King.

“The euro area is the biggest risk because I don’t think the leaders in the euro area actually have a true vision of how to cope with the problem,” King said in an interview yesterday with Bloomberg Television’s Olivia Sterns in Naples, Florida. “Many are trying to put in place structural reforms, but that is not going to be sufficient to generate a recovery. They also need to have macroeconomic stimulus.”

The euro area’s recovery has been in peril since economic malaise transferred from once crisis-stricken periphery nations to countries in the region’s core. Data last week showed that while Germany and France, the currency bloc’s two largest economies, returned to growth in the third quarter, Italy remained a weak spot, shrinking for a second quarter.

The euro has fallen from a 2 1/2-year high in May after European Central Bank President Draghi unveiled a medley of stimulus measures and signaled a desire to grow the institution’s balance sheet by as much 1 trillion euros ($ 1.25 trillion). The currency fell versus most of its 31 major peers yesterday after he said stimulus to lift the region’s “abysmal” performance may include buying government bonds. It was trading at $ 1.2520 as of 10:08 a.m. London time, up 0.6 percent on the day.

Photographer: Jason Alden/Bloomberg

Former Bank of England Governor Mervyn King said, “The challenge for the ECB now is to find a stance of monetary policy that would allow the euro to weaken sufficiently to give France and Italy a chance to start see a recovery in growth.” Close

Former Bank of England Governor Mervyn King said, “The challenge for the ECB now is to… Read More

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Photographer: Jason Alden/Bloomberg

Former Bank of England Governor Mervyn King said, “The challenge for the ECB now is to find a stance of monetary policy that would allow the euro to weaken sufficiently to give France and Italy a chance to start see a recovery in growth.”

Diverging Policy

While Draghi says the exchange rate isn’t a policy target, a depreciation increases the cost of imports and boost exporters’ competitiveness, which would aid efforts to revive inflation that’s close to the weakest since 2009. Draghi has said the devaluation reflects a divergence between Federal Reserve and ECB policy.

“Despite the success in reducing sovereign bond yields, which helped the periphery countries, the side effect of that was probably to push up the euro a little and that’s done damage to France and Italy,” said King, now a professor at the New York University Stern School of Business. “The challenge for the ECB now is to find a stance of monetary policy that would allow the euro to weaken sufficiently to give France and Italy a chance to start see a recovery in growth.”

Such remarks evoke language used in competitive devaluations, or “currency wars,” a term popularized by Brazil Finance Minister Guido Mantega in 2010 to describe using the exchange rate to boost growth. King said such policies may increase strains in the global economy over the next year.

“Given monetary policy is as easy as it is, then policies now designed to push the exchange rate down will look to other countries rather like currency wars and I think this is an area of potential tension in the next 12 months,” King said. “We will need big changes in exchange rates I think over the next few years, but it’s very important they’re not done as a means of trying to get whatever demand there is in the world into your hands rather than someone else’s.”

To contact the reporter on this story: Scott Hamilton in London at [email protected]

To contact the editors responsible for this story: Fergal O’Brien at [email protected] Zoe Schneeweiss, Andrew Atkinson

Draghi’s Morality Tale Echoes as Euro-Area Economy Grinds

Mario Draghi’s morality tale on the need for structural reform will resonate this week in data revealing Spain outshone the region’s biggest economies yet again.

Reports on Nov. 14 predicted by economists to show a recession in Italy, and marginal growth in France, Germany, and the euro area as a whole, will reinforce a parable the European Central Bank president tells every month. That theme has particular poignancy for Draghi, an Italian whose country has become the poster child of economic sclerosis.

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Spanish wedding-dress designer Jordi Dalmau says he can see animal spirits taking hold in the economy from the way his creations sell. The lack of buoyancy elsewhere in the 18-nation region, which Draghi blames in part on a lack of effort by governments, may lead officials to cut their economic outlook in December.

“After four years of doing nothing other than saving, Spanish people have started spending again,” Dalmau said in a telephone interview from Granollers, close to Barcelona. “Business is going much, much better than in previous years, there’s no comparison.”

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With growth of 0.5 percent in the July-September period, the Spanish economy outperformed the German one for a second quarter, something it hasn’t done since 2007. By contrast, the euro-area economy probably expanded 0.1 percent, according to economists surveyed by Bloomberg News. Eurostat will publish that report following data from France, Germany, Slovakia, the Netherlands, Italy and Portugal.

Diverging Trend

“We expect a very heterogeneous outcome” for this week’s GDP reports, said Daniel Lenz, lead market strategist at DZ Bank in Frankfurt. “Those countries that have undertaken more reforms are now in a better state — the examples of Ireland and Spain demonstrate that.”

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Draghi has identified “insufficient progress” in structural reforms as a key downside risk to the economy. While the outlook for a modest recovery remains in place, a weakening in momentum signals cuts in the ECB’s staff projections, he said last week after policy makers kept interest rates unchanged. New forecasts are due in December.

In Finland, industrial production expanded 0.7 percent in September from the month earlier, its statistics office said today.

Forecast Cut

The European Commission already lowered its GDP outlook for the euro area and its largest member economies — Germany, France and Italy.

In Spain, where growth is projected to accelerate next year, Economy Minister Luis de Guindos has committed that the government will continue the policies that turned the economy around — changes to labor law and measures to encourage enterprise. Unemployment at 24 percent is still the second-highest in the region, and the government’s budget deficit won’t fall back in line with European Union rules before 2017.

Ireland, which exited its bailout program last December, will expand at the fastest pace in the euro region this year, the commission said.

Profit at Banco Santander SA (SAN), Spain’s largest lender, surged 52 percent in the third quarter as charges for bad loans dropped. Ryanair Holdings Plc (RYA), the Irish carrier that’s Europe’s No. 1 discount airline, upgraded its full-year profit goal this month, days after Air France-KLM Group (AF) and Deutsche Lufthansa AG said sluggish growth would weigh on demand.

Manufacturing data for last month painted a similar picture, with gauges for Ireland and Spain signaling some of the strongest expansions, while a downturn in France accelerated and Italy fell back into contraction.

Struggling Economies

“Most of the signs are that the euro-zone countries are still struggling,” said Howard Archer, chief European economist at IHS Global Insight in London. “If the euro zone does do a bit better next year, it’s largely because of external factors – – it’s got its problems.”

The ECB in Frankfurt has already unleashed a barrage of stimulus, including a negative deposit rate, long-term loans and asset purchases. Draghi said last week that more unconventional measures are being prepared in the event they’re needed, stoking expectations that the ECB will buy government bonds before long.

Economists at Nomura International Plc now predict a classic quantitative-easing program in the first half of 2015, while analysts at BNP Paribas SA expect a broadening of asset purchases to be announced next month.

Serious Intent

Investors should “feel more convinced that the euro will depreciate further and that prices of assets on securities from the euro zone’s periphery countries will rise,” said Andrew Bosomworth, managing director at Pacific Investment Management Co. in Munich. “From an economic perspective, households and corporations should feel more convinced that the ECB is serious about reflating the euro-zone economy.”

Back in Granollers, dress-maker Dalmau says sales in Spain, which represents 85 percent of his revenue, have hit 470,000 euros ($ 584,000) so far this year, compared with 400,000 for all of 2013. That’s despite the economic sobriety that has caught up with customers, who no longer take out bank loans for his gowns.

“Most clients now come when they’ve got the money to spend,” he said. “So if we’re seeing more of them, it’s a sign of improvement.”

To contact the reporters on this story: Angeline Benoit in Paris at [email protected]; Catherine Bosley in Zurich at [email protected]

To contact the editors responsible for this story: Fergal O’Brien at [email protected] Kevin Costelloe

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Euro zone to avoid recession – Commission

The EU has sharply cut its growth forecasts for the euro zone as a whole, warning that France and Italy remain huge problems for the sluggish European economy.

In its autumn economic forecasts, the EU has predicted that output in the euro zone will grow by only 0.8% this year, instead of the earlier prediction of 1.2%.

The growth outlook for 2015 is also much lower, cut down to 1.1% from an earlier forecast of 1.7%.

But it has pencilled in an Irish growth rate of 4.6% for this year.

While today’s figures show the euro zone economy avoiding a triple-dip recession for now, they will renew global concerns about its sluggish recovery from the euro debt crisis that nearly sank the single currency three years ago.

“The economic and employment situation is not improving fast enough,” said Jyrki Katainen, the commission’s vice president for jobs and growth in a statement announcing the bleak numbers.

Also haunting Europe is the danger of deflation, and while the commission believes prices will not fall outright, it said inflation will remain very low and also drag on growth.

The commission said inflation in the euro zone this year would sink to a “very low” 0.5% this year and rise only to 0.8% next year. Both forecasts are way off the European Central Bank target of just under 2%.

In its breakdown of all the EU member states, France and Italy stand out as the biggest problems for a struggling European economy.

Those two countries are under huge pressure from the commission to cut back on government overspending and push through reforms that Rome and Paris have promised but largely failed to implement.

In its dire forecasts, Brussels said the public deficit in France would surge to 4.5% of total GDP in 2015 and keep widening to 4.7% in 2016, making it the biggest in the euro zone.

These figures are way off the EU’s limit on public deficits of 3% of output and if left unaddressed, could lead to the commission imposing humiliating penalties on the already fragile government of French President Francois Hollande.

Italy meanwhile is burdened with the EU’s biggest mountain of government debt, and the commission expects this will remain more than double the EU’s limit if 60% of output in the coming years.

Italy will have a debt of 133.8% of output in 2015 and slip only very slightly to 132.7% in 2016, according to the commission’s forecasts.

“The slowdown in Europe has occurred as the legacy of the global financial and economic crisis lingers,” said Marco Buti, the director general of the Commission’s economics department.
The Commission data appears to avoid the relapse into recession that European Central Bank President Mario Draghi warned EU leaders of at a summit in Brussels last month, but despite a slowly improving trend, indicators remain dour.
Inflation will be 0.5% this year, 0.8% in 2015 and 1.5% in 2016, still below the ECB’s target of the 2% level it judges as healthy for the economy, while unemployment will barely budget at 10.8% in 2016. 
The data is likely to support calls by economists and some investors for the ECB to embark on the kind of bond-buying programme of quantative easing that Japan, Britain and the US have employed to recover from the crisis. 
But Draghi has told the euro zone it cannot just rely on the ECB, which is banned from directly financing governments, to help, and that countries such as France must reform to get more young people into work and help carry the burden of an ageing population. 
For now, euro zone leaders are putting their faith in a proposed €300 billion fund to invest in projects to get the economy going, while calling on Germany, Europe’s biggest economy, to spend more. 
But the Commission forecasts Germany will post a budget surplus this year, a balanced budget in 2015 and another surplus in 2016, showing little appetite for more government spending.

Bund yields fall on euro deflation worries, shrug off upbeat Fed

* Fed ends bond-buying, shows confidence in U.S. recovery

* Spain Oct inflation minus 0.2 pct; German inflation at 1300 GMT

* Italy sells up to 7.25 billion euros of bonds (Updates with German states inflation data, new comment)

By Marius Zaharia

LONDON, Oct 30 (Reuters) – Bund yields fell on Thursday as deflation worries in the euro zone, underscored by figures from Spain and Germany, trumped the impact of the U.S. Federal Reserve ending its bond-buying programme with a positive note on the economic outlook.

Spanish consumer prices fell 0.2 percent in October compared with a decline of 0.3 percent in the previous month. While in line with expectations, the fact the figure held below zero reinforces bets the European Central Bank may have to ease monetary policy even further.

German data is due at 1300 GMT, but inflation numbers from regional states throughout the day pointed to a subdued overall reading. In North Rhine-Westphalia, the most populous state, inflation eased to 1.0 percent from 1.1 percent.

On the other side of the Atlantic, the U.S. central bank dropped a reference to labour market slack as “significant”, in a show of confidence on the economy.

It also largely dismissed recent market volatility, dimming European growth and low inflation as unlikely to undercut progress towards its unemployment and inflation goals.

As a result, yields on U.S. Treasuries rose roughly 4 basis points on Wednesday, while short-term interest rate futures suggested markets had brought forward their Fed rate hike expectations to September from October next year.

German 10-year Bund yields, which often take their cue from moves in U.S. Treasuries because both share safe-haven benchmark status, did not replicate the move. They were last 4 basis points lower at 0.85 percent.

“The price action … has been driven by European data, specifically the below consensus inflation reading from the German states,” said Patrick O’Donnell, fixed income investment manager at Aberdeen Asset Management.

U.S. T-note yields fell as well on Thursday, last trading down 2 bps at 2.30 percent.

The ECB has just launched a programme of buying covered bonds and asset backed securities, and several sources have said it is considering buying corporate bonds to inject more money into the sluggish economy. Many in financial markets expect the ECB to eventually start buying government bonds.

National German inflation data is expected to show a 0.9 percent rise, which should contribute to an overall figure for the euro zone of 0.4 percent, well below the ECB’s target of just below 2 percent.

Figures for the region are due on Friday at 1000 GMT.

ITALIAN PREMIUM

Italy issued 7.2 billion euros of floating rate notes linked to euro zone inflation, as well as five- and 10-year conventional bonds.

Demand was in line with previous auctions, but the five-year yield rose slightly, reflecting the recent weakness in Italian bonds following news that nine domestic banks failed the ECB’s stress tests.

Rome has also been criticised for the slow pace of economic reforms needed to boost growth and ease a 2 trillion euro debt burden. Italy’s economy is in recession and is one of the underperformers in the region. Spain’s expanded by 0.5 percent in the third quarter, data showed on Thursday.

Italian 10-year yields were up 4 basis points at 2.54 percent on Thursday.

“We see (yields) drifting higher until we get some kind of intervention from the ECB,” said Alessandro Giansanti, senior rate strategist at ING.

Greek 10-year yields rose back above 8 percent, with traders citing ongoing worries over the prospect of early elections next year.

(Editing by Catherine Evans)

Morgan Stanley cuts euro zone forecast

Growth in the euro zone remained at 0.2 percent in the second quarter, disappointing economists and politicians who had hoped for stronger economic acceleration.

Germany, the euro zone’s biggest economy, disappointed in particular, posting a 0.2 percent contraction in growth. The zone’s second- and third-biggest economies of France and Italy reported zero growth and a 0.2 percent contraction respectively.

With low growth and deflation risks in mind, ECB President Mario Draghi announced a triple-rate cut last Thursday, along with purchases of both covered bonds and asset-backed securities (ABS)—a sort of private-sector version of the quantitative easing (QE) used by the U.S. Federal Reserve.

This is quite complex package of measures,” Draghi told journalists at his regular press conference on Thursday.

“The purpose is very different from previous programs… the aim is to increase the measures that produce credit-easing… and also to significantly stir the size of our balance sheet towards the dimensions it used to have at the beginning of 2012,” Draghi told a news conference on Thursday.

Read MoreECB’s stimulus surprise: Reactions around Europe

Despite Thursday’s announcement, and other stimulus measures unveiled in June, Bartsch said the ECB alone would be unable to prevent the “Japanification of Europe”—referring to the zero growth and inflation which Japan was mired in from 1991 to 2010.

“While we believe that the recovery will likely continue, we fear that it, at least initially, will remain lackluster,” said Bartsch.

Morgan Stanley downgraded its growth forecasts for each of the euro zone’s major economies on Sunday—including cutting Germany’s 2014 outlook by 25 percent to 1.5 percent. Its growth forecasts for the euro zone as a whole are below those of the ECB—even though the central bank cut its predictions last Thursday. It now sees growth at 0.9 percent this year and 1.6 percent next.

Bartsch termed Germany a “reform laggard”—along with France and Italy—even though the former has led calls for reforms in struggling euro zone members like Portugal and Greece.

Read MoreItaly economy in ‘acute emergency’: Ex-PM Monti

Morgan Stanley cuts euro zone forecast despite ECB

Growth in the euro zone remained at 0.2 percent in the second quarter, disappointing economists and politicians who had hoped for stronger economic acceleration.

Germany, the euro zone’s biggest economy, disappointed in particular, posting a 0.2 percent contraction in growth. The zone’s second- and third-biggest economies of France and Italy reported zero growth and a 0.2 percent contraction respectively.

With low growth and deflation risks in mind, ECB President Mario Draghi announced a triple-rate cut last Thursday, along with purchases of both covered bonds and asset-backed securities (ABS)—a sort of private-sector version of the quantitative easing (QE) used by the U.S. Federal Reserve.

This is quite complex package of measures,” Draghi told journalists at his regular press conference on Thursday.

“The purpose is very different from previous programs… the aim is to increase the measures that produce credit-easing… and also to significantly stir the size of our balance sheet towards the dimensions it used to have at the beginning of 2012,” Draghi told a news conference on Thursday.

Read MoreECB’s stimulus surprise: Reactions around Europe

Despite Thursday’s announcement, and other stimulus measures unveiled in June, Bartsch said the ECB alone would be unable to prevent the “Japanification of Europe”—referring to the zero growth and inflation which Japan was mired in from 1991 to 2010.

“While we believe that the recovery will likely continue, we fear that it, at least initially, will remain lackluster,” said Bartsch.

Morgan Stanley downgraded its growth forecasts for each of the euro zone’s major economies on Sunday—including cutting Germany’s 2014 outlook by 25 percent to 1.5 percent. Its growth forecasts for the euro zone as a whole are below those of the ECB—even though the central bank cut its predictions last Thursday. It now sees growth at 0.9 percent this year and 1.6 percent next.

Bartsch termed Germany a “reform laggard”—along with France and Italy—even though the former has led calls for reforms in struggling euro zone members like Portugal and Greece.

Read MoreItaly economy in ‘acute emergency’: Ex-PM Monti

Italy's Padoan would welcome lower euro

Italy’s minister of economy and finance said on Sunday a lower euro would be good for European competitiveness.

Pier Carlo Padoan’s comments, made in an interview with CNBC at the Ambrosetti Forum in Italy, echo those made by French policymakers. Prime Minister Manuel Valls has called on the European Central Bank to take more action weaken the euro.

“A lower euro by definition helps competitiveness and feeds in a little more inflation which I’m concerned about because it’s much too low,” Padoan said.

The European Central Bank (ECB) surprised investors and markets on Thursday by cutting interest rates to record lows and announcing a bond-buying program in response to growth-sapping disinflation.

The euro fell by over 1 percent against the dollar to under $ 1.30 after the rate announcement, before paring some losses.

A lower euro would be “appropriate”, he said. “It would be good for the euro zone. It would be good for the global economy because we’ll be part of the global rebalancing.”

Padoan said he strongly believe that — given disappointing real growth and disappointing inflation — there is a real risk that Europe as a region enters into stagnation territory.

“This is a risk. This is not a certainty but avoiding that risk is fully dependent on what we do on the policy side, and we enact a decisive growth policy which means structural reforms, investment, more internal market,” he said.

‘Don’t tell us what to do’

Turning to Italy, which fell back into recession in the second quarter, Padoan said the country knew it needed to push through fiscal reforms.

“We don’t need anybody to tell us what we need to do,” he said.

Enacting those reforms would take some time, he said, and government was aiming to make permanent spending cuts to achieve permanent savings.

Follow us on Twitter: @CNBCWorld

Euro zone GDP: Brace yourself

Neighboring France is also unlikely to provide much of a fillip to growth, as pressure grows on its government to enact economic reforms more quickly.

“Growth in the euro area is perilously low, and vulnerable to even slight setbacks in sentiment,” according to Claus Vistesen, chief euro zone economist at Pantheon Macroeconomics.

“At the current rate, growth is far too low and uncertain to make a meaningful difference to a still high unemployment rate and too high debt levels.”

Read MoreEuro zone’s surprise growth boosts recovery hopes

More clouds on the horizon

The diverging performance of the peripheral euro zone economies is also raising eyebrows. While Spain’s return to growth has been heralded, Italy has slipped back into recession. Like France, Italy appears to not be enacting promised structural reforms as quickly as hoped.

The second-quarter figures are unlikely to show the effects of the Asset Quality Review of the region’s banks and the sanctions against Russia, so there are likely to be clouds on the horizon for a while. This makes the European Central Bank’s forecast of 1 percent growth this year look optimistic, and any change downward of this forecast may increase the pressure on the bank to start a money printing program, like the Fed and Bank of England before it.

Follow us on Twitter: @CNBCWorld

Italy Recession, German Orders Signal Euro-Area Struggle

Italy unexpectedly returned to recession and German factory orders dropped the most since 2011 as political tensions and slowing global growth threaten the euro area’s recovery.

Italy’s economy shrank 0.2 percent in the second quarter after contracting 0.1 percent in the previous three months. German orders slid 3.2 percent in June from May. Both reports were worse than forecast by economists in separate Bloomberg News surveys.

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The figures come on the eve of the European Central Bank’s August interest-rate meeting, two months after it announced an unprecedented package of stimulus measures including a negative deposit rate and targeted loans to banks. Those policies will take time to have an impact, leaving the economy at risk from a crisis in eastern Europe that is already undermining business and investor confidence.

“Today’s data are a serious reason for concern and confirm that the euro-area recovery is still sluggish at best,” said Joerg Kraemer, chief economist at Commerzbank AG in Frankfurt. “Evidence is mounting that risks to the ECB’s economic outlook are to the downside.”

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The euro slid to its weakest against the dollar in nine months after the reports. The single currency fell as low as $ 1.3333 and traded at $ 1.3342 at 1:19 p.m. Frankfurt time.

Italian Downturn

The renewed recession in Italy, the euro area’s third-biggest economy, will weigh on the region’s second-quarter gross domestic product figures. The currency bloc’s economy expanded 0.2 percent in the three months through March, and the ECB predicts growth of 1 percent this year.

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Second-quarter GDP data are scheduled to be published on Aug. 14 along with figures for Germany and France, the region’s biggest economies. Spain, the fourth-biggest economy, has already reported growth of 0.6 percent for the period, beating estimates and marking a fourth straight quarter of expansion.

“The euro-zone recovery, which began in spring last year and has gradually spread around most of the currency area, has not yet taken hold in Italy,” said Christian Schulz, senior European economist at Berenberg Bank in London. Countries such as Spain “were out of the blocks fast and have put themselves at or near the top of the euro-zone growth table courtesy of their sweeping reforms in the last three years. Italy continues to struggle.”

German Outlook

While Germany has so far led the regional recovery, it is feeling the pain of increasing political tension. The European Union agreed last week on its widest-ranging sanctions yet over Russia’s backing of rebels in eastern Ukraine. Russia counts Germany as its biggest trading partner in Europe.

German Vice Chancellor Sigmar Gabriel this week blocked a deal for Rheinmetall AG to build a military training center east of Moscow in light of the sanctions. The contract has a value of more than 100 million euros ($ 133 million) and the Dusseldorf-based company had planned to build more facilities in Russia.

The Economy Ministry said in today’s report that geopolitical risk led to “reticence” in placing factory orders. The Bundesbank has cited such risk as contributing to a probable stagnation of GDP in the second quarter. Those data are also scheduled to be released next week.

“The manufacturing-sector outlook does not look encouraging,” said Evelyn Herrmann, European economist at BNP Paribas SA in London. “Geopolitical tensions, which have intensified again in July and showed in the latest set of Ifo business climate, could furthermore dampen the momentum.”

Global Slowdown

German business sentiment dropped for a third straight month in July to the lowest level since October, according to the Munich-based Ifo Institute. Investor confidence as measured by the ZEW Center for European Economic Research in Mannheim declined for a seventh month.

Separate data today showed further signs that global growth may be lower than investors expect. The pound fell after U.K. industrial production in June rose at half the pace economists forecast. Output climbed 0.3 percent from May. Another report showed U.K. shop prices fell by a record 1.9 percent on an annualized basis in July. Still, the country’s house prices climbed at the fastest pace in almost eight years, according to Halifax.

The International Monetary Fund last month cut its outlook for global economic growth in 2014, predicting an expansion of 3.4 percent, down from its 3.6 percent forecast in April.

ECB officials are gathering in Frankfurt today and will announce their monthly interest-rate decision tomorrow. They’ll leave the benchmark rate unchanged at a record low of 0.15 percent, according to all 57 economists in a Bloomberg News survey. Policy makers including Governing Council member Ardo Hansson have indicated the central bank will refrain from further action until the impact of the latest stimulus is clear.

To contact the reporters on this story: Stefan Riecher in Frankfurt at [email protected]; Chiara Vasarri in Rome at [email protected]

To contact the editors responsible for this story: Craig Stirling at [email protected] Paul Gordon

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