SCENARIOECO Societe Generale Economic and sectoral studies department

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1 N MARCH 16 SCENARIOECO Societe Generale Economic and sectoral studies department WEAK GROWTH, LOW INTEREST RATES WHAT S THE LIMIT? The slower growth of emerging countries in 15 has given way to a moderation in the growth rate of developed countries. Therefore, global growth is not expected to accelerate in 16. Accordingly, central banks continue to call the shots and have accentuated the ultra-low interest rate environment, raising the issue of its effects on activity and financial markets participants. This issue is especially relevant given the expansion of an unprecedented phenomenon: negative interest rates. FURTHER DETERIORATION IN THE GLOBAL GROWTH AND INFLATION OUTLOOK The soft spot experienced by global growth in 15 looks set to persist this year, with the prospect of an acceleration in activity postponed to 17. Whereas the weakness of emerging countries was known and has been confirmed since the beginning of 16, the developed economies appear more fragile than expected. The latter have had to face both a sluggish international trade and the persistent uncertainty regarding the outlook for activity, which has increased households and companies propensity to save. This phenomenon is harmful as this saving postpones the stimulus resulting from the prolonged weakness of oil prices. wake of the United States. As for the emerging economies, growth is expected to stop declining, but this is likely to result primarily from recessions bottoming out in Russia and Brazil, rather than from accelerating growth in the other countries. FUELLING THE BROAD FALL IN INTEREST RATES In light of the further deterioration in the outlook for activity, the ECB again reduced the interest rate on its deposit facility in March, to -.%. In parallel, the Bank of Japan (BoJ) adopted a negative rate (-.1%) system in January affecting a portion of banks surplus liquidity deposited with it. 1,5 As % SOVEREIGN YIELD CURVES Index MANUFACTURING PMI 1,,5, Jun-13 Oct-13 Feb-1 Jun-1 Oct-1 Feb-15 Jun-15 Oct-15 Feb-16 Developed countries Emerging countries Source: Markit Consequently, we have again lowered our growth and inflation forecasts for the majority of the large world economies. Accordingly, growth in the developed economies looks set to weaken slightly this year, in the -,5 5y 1y 15y y 3y Germany - last point Germany - end 15 Japan - last point Japan -end 15 Source : Bloomberg The decline in short-term interest rates has driven investors to purchase securities with increasingly longer maturities in order to gain higher returns. However, this strategy is fuelling a downward shift in yield curves, both in Europe and Japan, but also in the United States despite the different direction of the Fed s monetary policy. This phenomenon, combined with central banks Ended the 5th of March 16 Next issue: June 16

2 SCENARIOECO N MARCH 16 asset purchases, has reached such a scale that interest rates are now negative on a large section of German and Japanese yield curves. In this respect, according to our estimates, 19% of outstanding sovereign and corporate bonds in the world had a negative rate on the 3 rd of March. What was still an anomaly a few months ago has therefore become the norm. NEGATIVE RATES, SYMPTOMS OF THE DURABLE DIFFICULTIES OF THE GLOBAL ECONOMY The spread of negative interest rates is an indicator of the extent of the global economy s difficulties in clearing past debt excesses. The debt reduction process in some countries and the wait-and-see attitude in the others is fuelling abundant savings and their corollary, persistently sluggish investment. These factors are adversely affecting the equilibrium real interest rate. In some of the developed countries, this equilibrium real interest rate is therefore likely to be below zero, which limits the effectiveness of conventional monetary policies, given the weakness of inflation. In fact, if central banks are not able to reduce effective interest rates towards the equilibrium rate, then the credit conditions are too tight to enable an upturn in activity towards its potential. This situation provides the general framework prompting central banks to adopt negative policy rates, in parallel with quantitative easing, in order to: Reduce real interest rates in the absence of inflation. Discourage the retention of liquidity and encourage lending. Exert pressure on exchange rates, so as to support imported inflation and exports. MODEST EFFECTS ON THE ECONOMY, A SIGNIFICANT IMPACT ON FINANCIAL ACTORS However, the effect of negative rates on activity is limited by problems of transmission via the bank credit channel. Therefore, the general weakness of interest rates reduces banks interest margin, especially if banks are unable to pass negative rates on to customer deposits. More generally, the flattening of yield curves reduces the profitability of banks maturity transformation activity. This activity is also structurally affected by recent changes in regulation, which requires banks to more effectively match the maturities of their assets and liabilities. Finally, the incentive for banks to use the abundant liquidity is limited by the cost of credit in terms of capital as well as by the still high proportion of doubtful loans in the balance sheets of some banks in eurozone peripheral countries. All these factors have an adverse effect on the credit offering and partially explain the poor general effectiveness of monetary policies, especially as credit demand is also hampered by the uncertainty regarding the economic outlook and the weight of past debt. In the financial markets, the low interest rates on short maturity and low risk securities is encouraging investors to increase their exposure to more risky and less liquid assets. While this effect is in part desired by central banks, it can lead to imbalances between assets and liabilities, notably for investment funds. In the case of life insurance and defined benefit pension funds, current interest rate levels, if they were to last too long, would raise the issue of the sustainability of their business models, which are based on an adequate remuneration of long-term savings. These players are also more highly exposed to the risk of a rise in interest rates, even if this is still a long way off in Europe. Accordingly, the greater the spread of negative rates, the more these risks, both for investors and banks, will increase. This therefore raises the issue of the lower limit of these negative rates. However, this limit is probably close, particularly in Europe. Indeed, Mario Draghi acknowledged, after the March ECB monetary policy meeting, that the ECB was increasingly aware of the problems raised by negative rates. DOWNSIDE RISKS ON ACTIVITY CONTINUE TO PREVAIL Finally, the global economic environment is more than ever faced with major risks, both in the short and long term. In the short-term in particular, the global growth drivers remain fragile and boil down to two factors: accommodative monetary policies (with the long-term risks mentioned above) and low oil prices. The latter remain a positive factor for the global economy, even though they penalise energy producers and their effects on consumption and investment are moderated by the considerable propensity to save. However, while oil price forecasts have again been downgraded by the majority of analysts over the last few months, this price also remains subject to geopolitical uncertainties. This therefore raises the issue of the global economy s ability to absorb any upward shock on oil prices.

3 SCENARIOECO N MARCH 16 MACROECONOMIC FORECASTS Real GDP (growth rate, as %) (f) 17 (f) Purchasing power parities Current prices rates GDP - 15 USDbn Current prices rates Industrialised countries ,768 United States ,765 Japan ,633 Euro area ,65 Germany ,936 France ,868 Italy ,16 Spain ,8 United Kingdom ,61 Emerging countries ,368 Asia ,963 China ,771 India ,66 Africa ,16 Latin America ,1 Brazil ,39 Eastern Europe (incl. Turkey, ex. Russia) ,6 Russia ,8 Middle East ,3 World - Purchasing power parities ponderation World - Current prices rates ponderation ,136 Oil price (Brent USD/Barrel) Consumer prices index (growth rate, as %) United States Japan (CPI national) Euro area Germany (HICP) France (CPI) Italy (HICP) Spain (HICP) United Kingdom (HICP) The annual numbers are seasonnaly and working-day adjusted and hence may differ from the basis used for official projections. Share of world GDP 15 (As %) Purchasing Power Parity (PPP) is the monetary exchange rate that equalises the cost of a standardised basket of goods between different countries. The GDP weighting of different countries as a share of world GDP expressed in PPP is based on the latest estimates by the World Bank Interest rates /3/16 Jun 16 Dec 16 Dec (f) 17 (f) United States Fed Funds target rate year Gvt Bonds Japan Complementary Deposit Facility rate year Gvt Bonds United Kingdom Bank rate year Gvt Bonds Euro area Refinancing rate year Gvt Bonds Germany France Italy Spain Exchange rates EUR / USD EUR / GBP EUR / JPY GBP / USD USD / JPY

4 SCENARIOECO N MARCH 16 Macroeconomic Forecasts... 3 Eurozone: Endless monetary expansion?... 5 Germany: Consumption, for lack of exports... 6 France: A so sluggish improvement... 7 Italy: A lacklustre recovery... 8 Spain: Political deadlock and slowing growth... 9 United Kingdom: Under Brexit uncertainty... 1 United States: Slowdown rather than recession Japan: Another monetary policy bullet... 1 China: Hard times India: Growth outperformer... 1 Brazil: A still hard first semester in sight Russia: Disinflation to the rescue Euro area Forecasts Non-euro area Forecasts...

5 SCENARIOECO N MARCH 16 EUROZONE: ENDLESS MONETARY EXPANSION? Growth accelerated to 1.5% in 15, but is not expected to increase further, despite slight fiscal easing and reinforced monetary accommodation. Households and companies are likely to maintain a strong propensity to save while we expect exports to be sluggish. Inflation therefore looks set to remain close to % this year. Growth strengthened in 15, thanks to consumption as well as to a pick-up in investment, including in Spain and Italy. It also proved resilient in Q, remaining at.3% QoQ. However, at the beginning of 16, PMI surveys have suggested a loss of dynamism in activity, including in the services sector. Moreover, consumer prices have declined again year-on-year (-.% in February) following the further fall in oil prices. In light of these risks on activity and inflation, the ECB reinforced its monetary easing in March. Its asset purchases have been increased from EUR 6 billion to EUR 8 billion per month and will now include corporate bonds. The three key rates have been reduced, with the deposit facility rate therefore standing at -.%. Finally, new -year refinancing operations (TLTRO) have been launched with a cost of zero for the banks (or even negative under certain loan production conditions). While monetary policy alone is unlikely to be sufficient to change the situation for the eurozone, these measures could nevertheless enable investment to continue its modest recovery in in spite of an expected loss of momentum in exports. Consumption still looks set to benefit from low oil prices, the gradual recovery in employment and slight fiscal easing, without however accelerating further. In this context, the ECB is now likely to opt for a wait-and-see attitude, while leaving the door open for further action. If additional measures were to be decided, these are likely to take the form of unconventional policies, rather than additional declines of interest rates into negative territory PMI indices EUROZONE PMI SURVEYS 7 Jun-13 Oct-13 Feb-1 Jun-1 Oct-1 Feb-15 Jun-15 Oct-15 Feb-16 Manufacturing PMI Services PMI Source: Markit As % ECB POLICY RATES AND MONEY MARKET RATES Refi rate EONIA Euribor 3 months ECB marginal lending facility Source: ECB FISCAL STANCE 1-year change in structural primary balance, as % of GDP Fiscal tightening (Commission forecasts) Eurozone Germany France Italy Spain Source: European Commission As % (f) 17 (f) Real GDP Household consumption Total investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Saving rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

6 SCENARIOECO N MARCH 16 GERMANY: CONSUMPTION, FOR LACK OF EXPORTS Growth was curbed by the decline in external demand at end-15. In 16, weak exports are likely to keep weighing on activity. However, growth is expected to remain healthy due to robust consumption, resulting from dynamic household purchasing power, as well as public spending related to the influx of migrants. Increased international trade would enable a greater acceleration in growth in 17. Although German GDP growth remained solid in 15, it slowed to 1.% after 1.6%. On the positive side, the fall in energy prices and the dynamic labour market fuelled a marked acceleration in consumption. However, this effect was more than offset by the slowdown in investment and a lower contribution from foreign trade. In the coming quarters, the largest European economy is likely to continue to be confronted with the challenge of weak global growth. While Germany benefited in the past from its heavy dependence on international trade when the latter increased more rapidly than global GDP, this is no longer the case. Consequently, capital goods investment is likely to stagnate in H1 16. Thereafter, strengthening external demand, as well as companies strong self-financing capacity, should enable investment to accelerate again. Private consumption looks set to remain the main growth driver in 16 and beyond. Households real disposable income is still likely to be underpinned by low inflation this year, as well as continuing strong wage growth. At the same time, public consumption is expected to continue to enjoy robust growth, due in part to spending on accommodating refugees. Although these expanses could exceed.5% of GDP in 16, it is unlikely to prevent Germany from posting another budget surplus. All in all, GDP growth is expected to strengthen marginally this year and then more significantly in 17. YoY, as % GOODS EXPORTS Total France Hong-Kong US China Russia Source : Destatis WORLD TRADE AND GERMAN INVESTMENT YoY, as % World trade Germany - Equip. goods investments Sources: Destatis, CPB YoY, as % WAGES, INFLATION AND UNEMPLOYMENT YoY, as %, invertedscale Wages (LHS) Inflation (LHS) Unemployment rate (RHS) Source: Destatis As % (f) 17 (f) Real GDP Household consumption Capital goods investment Construction investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Saving rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

7 SCENARIOECO N MARCH 16 FRANCE: A SO SLUGGISH IMPROVEMENT The long-awaited acceleration in growth actually occurred in 15. However, the improvement is modest given the considerable factors supporting activity: low interest rates, depreciation of the euro, decline in oil prices, etc. In 16 and 17, activity is expected to grow slightly faster, by nearly 1.5%, thanks to investment. Weak growth is likely to adversely affect tax revenue and therefore the pace of the reduction in the budget deficit. With modest growth of 1.% in 15, GDP posted its strongest rise since 11. In particular, activity proved resilient in Q, increasing by.3% QoQ. Dynamic corporate investment and the further strong contribution from inventories in Q offset the decline in household consumption that resulted from the terrorist attacks in November and the mild winter YoY, as % CONSUMPTION AND INVESTMENT (F) At the beginning of 16, growth is expected to remain close to its recent rate, before modestly accelerating. Admittedly, the dynamism of exports is likely to be moderated by lacklustre external demand. However, domestic demand is expected to gather pace. Private consumption looks set to remain the main engine of growth thanks to a further significant rise in household purchasing power, as we do not anticipate a rapid rebound in oil prices. Inflation is therefore expected to remain around % for a large part of 16. The acceleration in growth is set to stem from increased investment. In particular, housing investment is likely to pick up slightly after four years of decline, in line with the recent rise in building permits. However, the possibility for growth to accelerate significantly above 1.5% seems limited. Despite improving margins and Government support measures (over-amortization of some investments until end-16), businesses are only likely to slightly accelerate their investment. Indeed, the average capacity utilisation rate remains low. Lacklustre external demand and the structural lack of competitiveness are also likely to limit export prospects Private consumption Non-financial corporates investment Housing investment GDP Thousands RESIDENTIAL CONSTRUCTION Sources: INSEE, SG Housing starts Building permits (housing) Source: SOeS As % of value added NON-FINANCIAL CORPORATES' PROFIT MARGINS Sources: INSEE, SG As % (f) 17 (f) Real GDP Household consumption Corporate investment Household investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Saving rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

8 SCENARIOECO N MARCH 16 ITALY: A LACKLUSTRE RECOVERY Despite a turbulent start to the year in the markets, the Italian economy s recent performance does not undermine the scenario of a slight acceleration in growth in 16, underpinned by internal drivers. The risks to this outlook remain nevertheless on the downside, in conjunction with the fragility of the banking sector and sluggish global demand. After three years of recession, the Italian economy returned to the growth path in 15, stimulated by internal drivers. With.6 % growth in 15 and 1.1 % expected in 16, Italy s performance nevertheless remains below the eurozone average (1.5 %) due to persistent structural weaknesses. While growth disappointed in Q, adversely affected by substantial destocking, confidence indicators remain healthy. Index SERVICES CONFIDENCE INDICATOR long term average Household consumption is expected to accelerate in 16, underpinned by the increase in purchasing power of disposable income. Firstly, job creations look set to continue, boosted by the extension of exemptions from of social security contributions on hiring under permanent contracts. Secondly, inflation is likely to remain contained by low energy prices, and tax pressure is expected to be reduced (removal of the tax on primary residences, increase in the tax threshold for pensioners). This more dynamic consumption is therefore likely to be at the expense of a slight widening of the public deficit, which would be corrected in 17. However, the pick-up in domestic demand is coming up against the difficulties of Italian companies (weak margins, low productivity) and the banking system which is suffering from a high rate of doubtful loans. Consequently, total investment has plummeted by 3% since 8 and is struggling to pick up despite the easing of financial conditions. It is nevertheless expected to benefit from an improvement in the construction sector and attractive tax measures for the corporate sector (additional depreciation of 1%). Italian foreign trade looks set to remain contained by sluggish global demand. Ultimately, growth is likely to be insufficient to cause a significant decline in the unemployment rate and public debt Source : European Commission YoY, in % REAL GROSS DISPOSIBLE INCOME Source : Istat yoy, as a % FOREIGN TRADE Imports Exports Source : Bank of Italy As % (f) 17 (f) Real GDP Household consumption Capital goods investment Construction investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Savings rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

9 SCENARIOECO N MARCH 16 SPAIN: POLITICAL DEADLOCK AND SLOWING GROWTH Spain enjoyed its best performance in 15 since 7 with 3. % growth, or more than twice the eurozone average. However, the economy is expected to slow in 16 and 17, due to the deceleration of exports and an internal momentum that is likely to be hit notably by political uncertainty. The general elections on December, 15 showed electors distrust of the traditional parties and opened a new era of uncertainty on the Spanish political scene, which is likely to adversely affect the confidence of economic agents. Companies could postpone certain investment projects and slow the pace of job creations. The impact on investment is likely to be limited by Spanish companies healthy financial situation and the need to rebuild capital stock. Spanish companies continue to benefit from attractive financing conditions, the past improvement in their competitiveness and a high margin rate. In 15, Spanish households benefited from the dynamic labour market and a slight increase in remuneration. However, the purchasing power of disposable income is still 9% lower than the pre-crisis level. It is expected to increase by 3 % in 16 thanks to the persistent reduction in energy prices and bolster household consumption. The unemployment rate looks set to continue to fall to 18 % of the working population in 17, i.e. 8 points less than at its 13 peak. Dynamic domestic demand has generated a sharp increase in imports, with the pace of imports now exceeding that of exports. Consequently, Spain has a negative contribution from foreign trade and its trade balance excluding energy has deteriorated. We therefore anticipate a contraction in the current account by 17, in conjunction with the rise in oil prices. Finally, the absence of a majority in Parliament prevents the voting of a budgetary adjustment requested by the European Commission. As a result, the public deficit looks set to stay above 3 % until 17, while the public debt ratio would continue to increase. Index INDUSTRIAL CONFIDENCE INDICATOR 1-1 long term average Source : European Commission INVESTMENT RATE In % of GDP 3 3 (f) Source : INE, SG forecast Euro billions TRADE IN GOODS BALANCE Total Excluding energy Source : Bank of Spain As % (f) 17 (f) Real GDP Household consumption Total investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Savings rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

10 SCENARIOECO N MARCH 16 UNITED KINGDOM: UNDER BREXIT UNCERTAINTY Economic activity is expected to gradually slow but would remain close to % over the next two years. The uncertainty related to the Brexit risk is likely to penalise investment in the short term and fiscal consolidation is expected to adversely affect growth in 16 and 17. The only modest rise in inflation and the risks on activity are likely to prompt the Bank of England to delay the normalization of its monetary policy to 17. Activity accelerated slightly in Q 15 (+.5% Q/Q after +.%) but business investment shrank substantially (-.1% Q/Q), reflecting the deterioration in the external environment and the business climate in 15 year-end. Investment s weakness is likely to persist in H1 16 due to the uncertainty related to the Brexit risk, illustrated by the rise in sovereign CDS and credit spreads, but also by the accentuation of the sterling s depreciation (-7% against the euro and -6% against the dollar) since the beginning of the year. The pound has even reached its lowest level against the dollar since 9. Our scenario assumes that the United Kingdom will remain within the EU, which would trigger a rebound in investment after the June 3 referendum. Domestic demand is expected to decelerate over the next two years, as the output gap closes. Households consumption and purchasing power are expected to slow with the gradual rise in inflation and the deceleration in employment, while their saving rate (at.5% in Q3 15) is set to slightly rise. Meanwhile, public current and capital spending would be affected by the ongoing fiscal consolidation, which is expected to gradually accelerate in the coming years. All in all, growth is expected to stand at % in 16 and 1.8% in 17, after.% in 15. The Bank of England (BoE) revised downward its growth and inflation forecasts in February, postponing once again the prospects of a normalization of its monetary policy. With the only modest rise in inflation (.3% in February) and the numerous downside risks on activity, we anticipate that the BoE will postpone its first rate hike to H BoE's Survey: investment intentions (L) Private Investment (R) Source : BoE, ONS BUSINESS CONFIDENCE AND PRIVATE INVESTMENT Balance of opinions GDP points, % UNITED KINGDOM: CONTRIBUTIONS TO GDP YoY,% Private consumption Government spending Residential investment Non-residential investment Inventories Net exports GDP YoY,% INFLATION (F) Sources: ONS, SG forecasts Total inflation Core inflation (less food and energy) Source : ONS As % (f) 17 (f) Real GDP Household consumption Non residential fixed investment Residential investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Saving rate Inflation rate (HICP) Public sector balance (as % of GDP) Current account balance (as % of GDP)

11 SCENARIOECO N MARCH 16 UNITED STATES: SLOWDOWN RATHER THAN RECESSION The risks on the US economy have increased since 15 year-end. That said, they remain mainly related to financial or external factors. Still solid domestic fundamentals prompt us to favour the scenario of a slowdown rather than a recession. In this context, the Federal Reserve is likely to take a pause of a few months, before pursuing the normalization of its monetary policy at a very gradual pace. Activity slowed in Q 15 (+1% Q/Q on an annualised basis, after +%), penalised by foreign trade, inventories and corporate investment. Since 15 year-end, the deterioration in the external environment, the tightening of financial conditions, the impact of the decline in oil prices on US producers and the associated contagion risks have fuelled fears of a recession. That said, internal fundamentals remain sound and available indicators (private consumption, employment and confidence surveys) suggest a slight rebound in activity in Q1 16, even if GDP growth is likely to remain below % on an annualised basis. Despite a slowdown, household s purchasing power is likely to continue to be underpinned by the decline in energy prices and some acceleration in wages, the latter appearing as a belated reflection of the persistent fall in unemployment. The adjustment in the energy sector is expected to continue to adversely affect investment, but to a lesser extent compared to 15 given the adjustment already made. The net effect of the decline in oil prices on GDP is likely to be neutral to slightly positive, with the resulting surplus in private consumption offsetting the negative effect on investment. Foreign trade looks set to continue to weigh on growth, due to the appreciation of the dollar and the weakness of external demand. All in all, activity is expected to slow in 16 and 17, growing by nearly %, a rate closer to its potential. Given the dominance of downside risks on activity, the Fed is only expected to resume its rate hike cycle in June 16, albeit at a very gradual pace (two rate hikes of 5bp in the year, in line with the policy path projected by the FOMC members at their march meeting). This should go along with a pickup in inflation and a wage acceleration, while the unemployment rate would remain close to full employment levels, below 5% , 1,5 1,,5, 3,5 3,,5, 1,5 7,5 5,,5 HOUSEHOLDS' CONSUMPTION, PURCHASING POWER YoY, % AND SAVINGS % of GDI Private consumption Purchasing power Saving rate (R) Source : BEA ENERGY SECTOR : SHARE OF THE ECONOMY % %, Share of total non-residential investmentl (L) Share of total employment (D) Source : BEA INFLATION AND WAGES YoY, % YoY, % 1,, Hourly wages (private sector, L) Core inlfation (R) Source : BLS ,6 1, 1, 1,,8,6, 3,,5, 1,5 1, As % (f) 17 (f) Real GDP Household consumption Non residential fixed investment Residential fixed investment Exports Imports Contribution of inventories to growth Households Purchasing power of disposable income Unemployment rate Saving rate Inflation rate Public sector balance (as % of GDP) Current account balance (as % of GDP)

12 SCENARIOECO N MARCH 16 JAPAN: ANOTHER MONETARY POLICY BULLET Real GDP growth is expected to accelerate to.9% in 16 before slowing to.6% in 17 due to the second hike of the consumption tax (CT). Continued disappointment in activity and price developments calls for more policy easing. Given the limited effectiveness of the monetary stance at this juncture, more attention would be paid on the fiscal side. Real GDP contracted by.3% QoQ in Q-15 due to a drop in private consumption resulting from a warmer than usual winter. This translated into an annual GDP growth rate of.5% in 15. In early 16, activity indicators did not improve and inflation fell back further. Significant downside risks to the growth and inflation outlook have led the BoJ to impose a negative interest rate (-.1%) on excess deposits in February. The BoJ also pushed back the timing of its commitment to the % price stability target to the first half of Fiscal Year 17. Yet, the introduction of Quantitative and Qualitative Easing (QQE) with negative interest rate does not seem effective so far, as the JPY has been appreciating against the USD. Against this backdrop, the economy is projected to accelerate by.9% in 16 supported by a strong rebound in private consumption in anticipation of the April 17 hike in the CT. Exports are also likely to improve in line with the projected gradual recovery in global demand. In addition, monetary and fiscal policies are expected to be laxer. In particular, QQE could be expanded. On the fiscal front, there is a possibility that the second CT hike (originally set for October 15) is postponed again or that a fiscal stimulus package is implemented. These latter options would raise concerns on the sustainability of the already high level of public debt (3% of GDP). YoY, as % CONSUMER PRICE INDEX - Jan-13 Jun-13 Nov-13 Apr-1 Sep-1 Feb-15 Jul-15 Dec-15 Total Total excluding Food and Energy Source : Datastream CORPORATES: CURRENT PROFITS AND BANK DEPOSITS JPYtr JPYtr Current profits Cash and bank deposits (RHS) Sources: CEIC, SG per USD FINANCIAL MARKETS Index Mar-1 Jun-1 Sep-1 Dec-1 Mar-15 Jun-15 Sep-15 Dec-15 Mar-16 JPY Topix (RHS) Source : Datastream As % (f) 17 (f) Real GDP Household consumption Non residential fixed investment Residential investment Exports Imports Contribution of inventories to growth Households Purchasing power of net disposable income Unemployment rate Saving rate Inflation rate (CPI) Public sector balance (as % of GDP) Current account balance (as % of GDP)

13 SCENARIOECO N MARCH 16 CHINA: HARD TIMES Economic growth is expected to continue to gradually ease to 6.5% and 6.3% in 16 and 17. The policy mix is likely to remain accommodative, exacerbating the risk of larger imbalances in the economy. Sustained capital outflows have constrained monetary policy as a tool to support the economy. The rebalancing of the economy is still underway: consumption being the most important growth engine and the service sector accounting now for half of total output. In early 16, investment and car sales continued to decelerate and the PMI further deteriorated. Capital outflows have eased in February 16 on the back of tightening capital controls and RMB stabilisation. As a result, the monthly pace of decline in forex reserves has softened (USD 8bn from USD 1bn on average over the previous three months). Despite recent communications efforts made by the PBoC emphasizing that there was no intention to depreciate the RMB, the forex policy remains blurred by referring rather than pegging to a currency basket. To offset the tightening of domestic liquidity conditions inflicted by forex selling, the PBoC lowered the reserve requirement ratio by 5bp in March. Yet, accommodative monetary conditions could further exacerbate excess capacities in heavy industries (coal, steel, etc.) and the high level of indebtedness of the economy (% of GDP). Fiscal policy is set to be more expansionary over the next two years. The fiscal deficit is expected to widen to.6% of GDP and the public debt to increase to 8% of GDP. A repeat of the 9 fiscal stimulus is unlikely and the fiscal expansion would take the form of social spending and tax cuts. In this context, growth is expected to gradually ease to 6.5% in 16 and to 6.3% in 17, slightly below the authorities 6.5-7% growth target. Inflation is projected to remain low, below % in 16-17, due to excess capacity and weak oil prices. % REAL GDP GROWTH Jan-1 Jul-1 Jan-13 Jul-13 Jan-1 Jul-1 Jan-15 Jul-15 In USD bn,5, 3,5 3,,5 Year on year % Quarter on quarter - RHS Sources: NBS, SG FOREIGN EXCHANGE RESERVES, Jan-1 Jul-1 Jan-13 Jul-13 Jan-1 Jul-1 Jan-15 Jul-15 Jan-16 Source : Datastream RMB EXCHANGE RATE VS USD per USD Jan-1 Jun-1 Nov-1 Apr-13 Sep-13 Feb-1 Jul-1 Dec-1 May-15 Oct-15 Mar-16 Sources: Bloomberg, SG As % (f) 17 (f) Real GDP Consumption (contrib. to growth, pp) Investment (contrib. to growth, pp) External trade (contrib. to growth, pp) Inflation rate General Government Balance (as % of GDP) General Government Debt (as % of GDP) External Debt (as % of GDP) Current Account Balance (as % of GDP)

14 SCENARIOECO N MARCH 16 INDIA: GROWTH OUTPERFORMER Economic growth accelerated to 7.6% in 15, the fastest in any major country. It is expected to stabilize at around 7.5% in the next two years. Fiscal consolidation and slightly lower inflation are likely to pave the road for further monetary easing. Real GDP is estimated to have increased by 7.6% in Fiscal Year 16 (ending March 31st, 16). Private consumption remained the main growth engine. On the supply side, growth is driven by services while the manufacturing sector suffers from the weakness of trade. Exports contracted for fourteen straight months and industrial production declined by % YoY, 3m-MA (from +% YoY, 3m-MA a year ago) in January 16. One silver lining is the strong acceleration in credit supported by the accommodative monetary policy put in place since early 15. The consumer price index (CPI) hit a 17-month high at 5.7% YoY in January 16, driven by higher food prices. It remained below the RBI s inflation target of 6% for the FY16. It could slightly overshoot the target of 5% in FY17 due to lagged effects of the accommodative monetary stance and INR depreciation. Yet, the core CPI (excluding food and energy prices) remains contained, suggesting an absence of inflationary pressures. The budget presented early March reiterated the government s commitment to fiscal consolidation. The central government deficit for FY17 targets 3.5% of GDP (down from 3.9% in FY16). The budget contains major measures focusing on rural areas and the recapitalization of public banks (USD bn equivalent to.% of GDP have been allocated to the latter). Tighter fiscal policy as proposed in the budget gives some room for interest rate and/or reserve ratio cuts. Against this backdrop, GDP growth is expected to stabilize at 7.5%. Private consumption and investment are set to remain the main drivers. Meanwhile, exports would gradually improve in line with the recovery in global demand. YoY, as % MONEY AND CREDIT 8 Jan-13 Jun-13 Nov-13 Apr-1 Sep-1 Feb-15 Jul-15 Dec-15 Money Supply (M3) Credit to Commercial Sector Source : Reserve Bank of India, SG. YoY, as % INFLATION Jan-13 May-13 Sep-13 Jan-1 May-1 Sep-1 Jan-15 May-15 Sep-15 Jan-16 per USD Consumer Price Index USD/INR EXCHANGE RATE Wholesale Price Index Source : CEIC 5 Jan-13 May-13 Sep-13 Jan-1 May-1 Sep-1 Jan-15 May-15 Sep-15 Jan-16 Sources : Bloomberg, SG As % (f) 17 (f) Real GDP Private consumption Gross Fixed Capital Formation Exports Imports Inflation rate General Government Balance (as % of GDP) General Government Debt (as % of GDP) External Debt (as % of GDP) Current Account Balance (as % of GDP)

15 SCENARIOECO N MARCH 16 BRAZIL: A STILL HARD FIRST SEMESTER IN SIGHT Economic activity should prolong its contraction at least through the H1-16 as the domestic and external headwinds would continue to weigh. The progressive deceleration of inflation should enable a modest recovery of consumption in H-16. Economic activity remains in a strongly recessionary environment. GDP contracted 5.6% Y/Y in Q-15, resulting in a 3.8% recession in 15. The most worrisome feature of the current downturn is the investment dynamic. Investment has contracted for the seventh consecutive quarter (-18.5% Y/Y in Q-15), further dragging potential GDP. Activity is expected to remain subdued in the coming months as a result of increasing uncertainties linked to the political crisis, further deterioration of the labor market and ongoing private sector deleveraging. In this context, the external sector is likely to continue to be the only support to the economy this year, benefiting from past BRL depreciation. Inflation began to modestly decelerate in February, easing to 1.% Y/Y as the slowdown of regulated prices (15% Y/Y from 17.% in January) wasn t fully offset by rising services and tradable goods prices. Overall, inflation is expected to progressively slow down to 7.5% in the coming quarters, mainly reflecting the fading impact of past regulated prices increases (weighting 5% in the consumer price index). In this context, the BCB could start reducing its policy rate, currently at 1.5%, during the H-16 enabling a modest pick-up of credit and consumption. The central government posted a primary surplus in January (5.6% of monthly GDP), its first since April 15, mainly as a result of one-off revenues from last year public auctions. In spite of this improvement, the global deficit widened to 9.1% of GDP in January, as debt service increased to 7.3% of GDP. All in all, beyond these one off revenues, the underlying trend of fiscal accounts is not expected to significantly improve in the coming months as revenues should continue to contract while the political gridlock would limit the scope of the proposed fiscal consolidation reform %, Y/Y GROSS FIXED CAPITAL FORMATION Q1 11 Q 11 %, Y/Y Q3 11 Q 11 Q1 1 Q 1 Q3 1 Q 1 Q1 13 Q 13 Q3 13 Q 13 INFLATION RATE Q1 1 Q 1 Q3 1 Q 1 Q1 15 Q 15 Q3 15 Q 15 Sources: IBGE, SG Regulated prices Non-regulated prices Headline Sources: IBGE, SG % of GDP CENTRAL GOVERNMENT FISCAL ACCOUNTS Global Primary Debt service Sources :BCB, SG As % (f) 17 (f) Real GDP Households consumption Government consumption Investment Exports Imports Inflation rate (CPIA) Public balance (as % of GDP) Current account balance (as % of GDP)

16 SCENARIOECO N MARCH 16 RUSSIA: DISINFLATION TO THE RESCUE Activity shows signs of stabilisation while oil prices appear to have ceased their downward spiral and the rouble s exchange rate is less volatile. This has contributed to the decline in inflation which should ultimately improve the situation of households. Meanwhile, 16 looks set to be another year of recession before the return of growth in 17. After undergoing, in 15, the worst consumption shock that the country has experienced in 5 years, the economy is showing a few signs of stabilisation. Inflationary pressures following the massive depreciation of the rouble have had a substantial adverse effect on households real income. However, the rapid decline in inflation since end-15 is a pleasant surprise. The inflation rate went from a high of 15% year-on-year last October to 8% in February, despite still very high exchange rate volatility. Weak demand and the base effects of the sharp depreciation at the beginning of 15 seem to have played an important role in this disinflationary momentum. This has prompted us to significantly reduce our inflation forecast for 16. This trend is likely to be reinforced by the expected stabilisation of oil prices for the rest of the year followed by a very gradual upturn in 17. In this context, consumption, the main growth driver in Russia, looks set to stabilise towards the end of the year before picking up. There could be an upward surprise in investment in 17 after three consecutive years of contraction. Fiscal policy is likely to remain restrictive insofar as low oil prices have put the public accounts under pressure and the authorities do not seem prepared to resort to debt. Monetary policy could support activity in the event of a confirmed decline in inflation. For this, it is necessary to ensure the stability of the exchange rate. In this respect, the Central Bank has put in place a series of measures aimed at limiting the dollarization of the banking sector coming into force in April. The reduction in prospects of rate hikes by the Fed is also likely to lessen the pressure on the rouble, which could trigger the start of cuts in Russian interest rates over the next few months. YoY, as % CONSUMPTION AND INVESTMENT Retail sales Investment Source: ROSSTAT INFLATION YoY, as % CPI Food Goods Services Sources : ROSSTAT % POLICY RATE Source: CBR As % (f) 17 (f) Real GDP Private consumption Public spending Gross Fixed Capital Formation Exports of goods and services Imports of goods and services Consumer prices (CPI) Foreign debt (as % of GDP) Budget balance (as % of GDP) Public debt (as % of GDP)

17 SCENARIOECO N MARCH 16 EURO AREA FORECASTS EURO AREA Annual % change (f) 17 (f) Gross Domestic Product (GDP) Total domestic demand Private consumption Public consumption Total investment Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices % Change year-on-year, end of period Real Disposable income (% Change) Unemployment rate (% average) (National accounts adjusted for seasonal and calendar effects) GROSS DOMESTIC PRODUCT Annual % change (f) 17 (f) Germany Austria Belgium Cyprus Spain Finland France Greece Ireland Italy Luxembourg Malta Netherlands Portugal Slovakia Slovenia

18 SCENARIOECO N MARCH 16 FRANCE Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Private consumption General gov. consumption expenditure GFCF of non financial enterprises GFCF of households GFCF of general government Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices (CPI) % change year-on-year, end of period Employment Unemployment rate (ILO) Real Disposable income Household saving rate GERMANY Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Private consumption Public consumption GFCF of capital goods GFCF of construction GFCF of general government Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices (HICP) % change year-on-year, end of period Employment Unemployment rate Unemployment rate (ILO) Real Disposable income Household saving rate

19 SCENARIOECO N MARCH 16 ITALY Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Private consumption Public consumption Expenditure on capital goods Expenditure on construction Total investment Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices (CPI) % change year-on-year, end of period Employment Unemployment rate Real Disposable income Household saving rate SPAIN Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Private consumption Public consumption Total investment Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices (CPI) % change year-on-year, end of period Employment Unemployment rate Real Disposable income Household saving rate (National accounts adjusted for seasonal and calendar effects) 19

20 SCENARIOECO N MARCH 16 NON-EURO AREA FORECASTS UNITED STATES Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Personal consumption Public consumption Residential fixed investment Nonresidential fixed investment Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices, excl. fresh food (CPI) % change year-on-year, end of period Employment Unemployment rate Real disposable income Household saving rate UNITED KINGDOM Annual % change (f) 17 (f) Gross Domestic Product (GDP) Domestic demand (incl. inventories) Private consumption Public spending Housing investment Business investment Total investment Contrib. of inventories to GDP growth External trade contribution Exports of goods and services Imports of goods and services Consumer prices (HCPI) % change year-on-year, end of period Employment Unemployment rate (ILO) Real disposable income Household saving rate