With the ECB needing to balance out introducing more QE and surging inflation pressures, how are the other macro developments going to play out for Europe next year? Let's take a look.
Germany remains the economic backbone
2021 has not been a kind year for Germany. The worsening supply bottlenecks across the globe has only served to dampen industrial output, the key sector of the economy. And what bodes ill for Germany also spells trouble for Europe as a whole, mostly.
So, what's next for Germany in 2022?
A new government with robust investment policies is a welcoming sign but at the end of the day, the pandemic remains the major uncertainty. Even if omicron may be more mild, it may not necessarily help in terms of global reopening. As such, supply chains may continue to suffer and remain more stretched.
The worst-case scenario is that supply bottlenecks persist for much longer than anticipated. That will further elevate surging cost/inflation pressures and eventually dampen consumption even more.
But on the flip side, if the pandemic turns more endemic, that will be a major boon for the German economy.
As supply bottlenecks ease, it will bolster industrial output and in turn help with private consumption as inflation pressures start to tail off. If anything else, Germany may be one of the frontrunners in such a recovery scenario and help to carry the European economy in a more flourishing environment next year.
France a considerable question mark
From an economic perspective, France looks to be managing the pandemic fairly decently. And given that we'll be having elections in April, don't expect Macron to make any unpopular decisions until then.
There's still a fine balance between balancing out health and economic considerations but from a social aspect, it seems like France has moved past the worst of the pandemic. We'll have to see if there is any new virus strains to follow but omicron does not look like one to hurt France all too much.
The political scene may be the more interesting aspect but Macron at least looks to be able to consolidate his seat, at least basing off how things are going now. As such, the lack of change isn't going to make France as stellar as Germany under thriving conditions but they will still be there to do their part in carrying Europe's growth.
What next for the ECB?
Perhaps this is the more pertinent issue when it comes to viewing Europe next year.
The ECB is basically caught in a pickle right now, wanting to introduce more QE but is facing mounting pressure from rising inflation.
Policymakers' hope is that inflation will abate in 2022 but be reminded that there is a key difference between stalling inflation at elevated levels and also falling inflation back towards 2%.
If anything, we may see the former play out. While policymakers can take some comfort in that, it will not help in alleviating pressure on the economy stemming from high inflation.
I would expect the ECB to go with more asset purchases in April (maybe even as early as March) but rate hikes are certainly not out of the window - even if it may be a long shot - heading towards 2023.
That said, if anything else, expect the ECB to kick the can down the road for as long as they can get away with it.
They aren't quite in the best position now and rate hikes aren't exactly the ideal solution to counter the current circumstances that is leading to rising prices.
Considering the policy divergence, I would expect the euro to be among the laggards particularly against commodity currencies and the dollar for large parts of 2022. The former even more so if risk sentiment thrives as the world slowly moves past the pandemic as a whole.