The April bank lending survey signals an “endogenous” tightening of monetary conditions, which the ECB should – but won’t – offset with policy easing.

A previous post suggested that the Gulf War III shock would interact with concerns about private credit exposure to cause banks to tighten lending standards. April Fed and ECB lending surveys were flagged as important markers.

The ECB survey confirms the thesis, showing significant rises in reported and expected credit tightening balances across loan categories – see chart 1. (The Fed survey is expected next week.)

Chart 1

The shock, however, appears to have had an even greater negative impact on the risk appetite of borrowers. An average of expected demand balances fell to a level historically consistent with GDP contraction – chart 2.

Chart 2

With both supply and demand weakening, loan growth may slow sharply, in turn threatening a fall in meagre broad money expansion. Non-financial M3 rose by only 3.3% in the year to March.

Prospective monetary weakness argues for pre-emptive policy loosening but the ECB, following new Keynesian convention, is focused on upside risk to inflation expectations. Expectations measures, unlike money trends, failed to give timely warning of the 2021-22 inflation surge, contributing to policies remaining excessively loose. An opposite mistake may be brewing.

Eurozone monetary trends suggest that interest rates remain above a “neutral” level.

The ECB’s deposit rate has been stable at 2.0% since June, following a 200 bp reduction over the prior 12 months. Lower rates should be feeding through to money trends by now.

Six-month growth of non-financial M3, however, was 2.4% annualised in October, half its average in the five years before the pandemic and slightly below the level when rate cuts started.

Chart 1

Non-financial M3 comprises broad money holdings of households and non-financial corporations (NFCs). Six-month growth of headline M3, including volatile financial sector money, was even weaker, at 1.8% annualised.

Narrow money growth – as measured by non-financial M1 – is stronger but also below its pre-pandemic average.

There is no sign of acceleration in the latest numbers, with three-month rates of change close to six-month levels.

Broad money probably needs to expand by at least 4% pa to accommodate potential growth of about 1.25% pa and 2% inflation, allowing for a long-run decline in velocity. (The ratio of nominal GDP to non-financial M3 fell by 1.9% pa on average over 2000-19.)

Money growth below this level implies downward pressure on output relative to trend and / or inflation – inconsistent with rates being at “neutral”.

Slow broad money growth is partly attributable to sluggish credit trends: lending to households and NFCs rose by 2.8% annualised in the six months to October, with momentum stable recently.

A drag from ECB QT, meanwhile, has been fully offset by solid buying of government bonds by banks. Purchases have been spread across countries but were largest in France over the past 12 months – chart 2.

Chart 2

Money growth would have been weaker without support from external inflows, reflecting a basic balance of payments surplus and a corresponding rise in banks’ net external assets – chart 3.

Chart 3

Eurozone narrow and broad money measures rose respectably on the month in September but six-month momentum remains sluggish, at roughly half the pre-pandemic pace – see chart 1.

Chart 1

Six-month real narrow money momentum is below a peak reached in February, consistent with a stalled recovery in the manufacturing PMI – chart 2. A recent pick-up in services results may prove short-lived.

Chart 2

Country details show French relative weakness, with M1 deposits of households and non-financial firms stagnant in nominal terms over the last six months, implying real contraction – chart 3.

Chart 3

Six-month bank lending growth has cooled, with expected credit demand balances in the latest ECB loan officer survey suggesting a further slowdown – chart 4.

Chart 4

Bullish economic hopes rest on German fiscal easing but restriction elsewhere will temper the impact. The Eurozone cyclically adjusted fiscal deficit is projected by the IMF to widen by a modest 0.3% of GDP in 2026, after no change this year.

A downturn in the stockbuilding cycle could more than offset fiscal support. A rise in stockbuilding accounted for 0.8 pp of GDP growth of 1.5% in the year to Q2 2025. (The “true” contribution will have been smaller because of an associated increase in imports.)

Stockbuilding is a key influence on firms’ demand for short-term credit. Year-on-year changes in credit demand balances in the bank lending survey have weakened, consistent with a prospective stockbuilding downswing – chart 5.

Chart 5

Eurozone money trends have been giving a downbeat signal for economic prospects. Incoming evidence is consistent with a loss of momentum.

Eurozone GDP rose by only 0.8% at an annualised rate during H1 excluding distorted Irish numbers – see chart 1. Growth was dependent on an increase in stockbuilding, to an above-average level as a percentage of GDP – chart 2.

Chart 1

Chart 2

Rises in bond yields and the euro exchange rate have tightened monetary conditions, offsetting ECB rate cuts. Six-month Eurozone real narrow money momentum peaked in March, although the subsequent reversal has been modest – chart 3.

Chart 3

German Ifo manufacturing business expectations – closely correlated with Eurozone / German manufacturing PMIs – reached a two-year high in July, consistent with earlier monetary acceleration. Expectations moved sideways in August, with the March peak in real money momentum suggesting an inflection weaker soon.

Other evidence supports this forecast. The one-month change in the OECD’s German leading index also anticipates turning points in Ifo expectations and has eased since May – chart 4.

Chart 4

European cyclical sector equities often start to lag as business surveys inflect weaker and have given back some outperformance since mid-August – chart 5.

Chart 5

The Sentix and ZEW surveys of financial analysts correlate with Ifo results, with Sentix September numbers already available and showing a second monthly decline – chart 6.

Chart 6

The slowdown in Eurozone / German real money momentum is not yet alarming and may prove temporary, particularly if bond yields and the euro subside. Still, the ECB’s move to the sidelines was premature, with near-term data likely to bolster the case for further easing.

Recent Eurozone money trends cast doubt on economic optimism based on German / regional fiscal expansion. Weakening job openings suggest that a negative economic scenario is already starting to crystallise.

Six-month real narrow money momentum peaked in March at a modest level by historical standards, declining into June. The fall was driven by weakness in corporate deposits, suggesting that firms would cut back investment and hiring – see chart 1 and previous post for more discussion.

Chart 1

Indeed numbers on job postings are a timely coincident indicator of labour demand and appear to display less volatility than official survey-based measures of job openings or vacancies. The level and rate of decline of the UK Indeed series signalled recent job losses – chart 2.

Chart 2

The latest numbers show signs of stabilisation in the UK / US. By contrast, job postings in Germany and France are falling rapidly, with the Italian series breaking below its late 2024 low and even Spain rolling over.

The German / French results chime with elevated consumer expectations of a rise in unemployment – chart 3*.

Chart 3

Why haven’t ECB rate cuts and German fiscal expansion energised the Eurozone economy? The initial impact of the fiscal news has been to push up longer-term yields and the euro, offsetting ECB stimulus.

Fiscal expansion, even if well-executed, will play out over the medium term, with growth implications dependent partly on the extent of monetary financing. The direct and confidence effects of the unfavourable US-EU trade “deal”, meanwhile, are a further near-term negative.

*The Spanish series has been suspended.

June money numbers cast doubt on ECB President Lagarde’s assertion that policy-makers – and by extension the Eurozone economy – are “in a good place”.

Six-month growth of the preferred narrow / broad money measures here – non-financial M1 / M3, comprising holdings of households and non-financial corporations (NFCs) – fell further to 3.4% and 1.6% annualised respectively last month. The latter is the slowest since December 2023 and compares with a 4.9% average over 2015-19 – see chart 1.

Chart 1

Weakness is focused on the corporate sector: NFC M1 / M3 deposits rose by only 0.5% and 0.1% annualised respectively in the six months to June, implying real terms contraction – chart 2.

Chart 2

Corporate liquidity deterioration suggests that companies are under increased financial pressure and will rein in expansion plans – chart 3. A contraction in UK real corporate money preceded recent employment cut-backs.

Chart 3

Six-month narrow money momentum is notably weaker in France / Italy than Germany / Spain, although German growth has fallen back since April – chart 4.

Chart 4

Consensus commentary focuses on bank lending, which, as an empirical matter, lags money trends. Adjusted loans to households and NFCs rose by a solid 0.4% on the month but six-month growth eased from 3.0% to 2.8% annualised. The “credit impulse”, in other words, may be rolling over.

Recent rate cuts are feeding through and it is possible that monetary weakness will prove temporary. Still, ECB officials should be concerned by the slowdown and signalling an openness to further easing rather than projecting complacency.