Euroland woes continuing to weigh Euroland woes continuing to weigh? The case for globalisation of UK trade grows Neil Parker – RBS Market Strategist June 2012

Contents Growth – Euroland to remain the anchor restraining growth? Interest rate rises – When will we see you again? UK growth – waiting for certainty (and a kick start from the BoE) Euroland – recapitalisations and bailouts remain the focus The US – more QE to follow? FX market forecasts The latest Reuters polls Summary

Growth – Euroland to remain the anchor restraining growth? Source:RBS US improvements have slowed, although surveys are generally pointing towards a continued economic recovery. Growth in Asia is expected to slow somewhat in 2012, but this slowdown is likely to be modest and brief. What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters. Euroland still has many problems, and efforts to reduce debt and deficit burdens have proven unconvincing so far.

Interest rate rises – When will we see you again? UK and Euroland recently fluffed their lines in terms of monetary loosening. China rate view under review after recent rate cut. Shows how worried they are re the global economy. Source:RBS Rates in the Western world will be rising no time soon, but eventually rates will have to move higher to compensate for all the QE. What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters. The UK added more QE (another £50bn in Feb) which may not be the last bout of easing we see from the central banks

UK growth – waiting for certainty (and a kick start from the BoE?) UK back in recession in Q1 ‘12 Recession likely to prove shallow and short-lived Source:RBS The UK economy should see and improvement in the second half of the year, supported by further monetary loosening and improving credit conditions. What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters. The UK survey data has shown signs of improvement in recent months, but as yet this has not fed through into official stats.

UK growth – the domestic problems remain UK consumer spending neither can, nor should, shoulder the burden of returning the UK to growth. Arguments suggesting that the govt should spend more to lift the UK out of recession also don’t stack up. What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters.

Euroland – recapitalisations and bailouts remain the focus Our latest forecasts for the Euro zone economy points to a contraction this year, with even the likes of Germany and France struggling for momentum Source:RBS Now the problem child of the euro is the Spanish economy and notably its domestic banking situation (the €100bn bailout of the banks at the weekend is the 4th bailout to be paid). Spain What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters.

The US – more QE to follow? Source: RBS The US economy has printed the strongest growth of the big 3 Western economies and that is now showing through in the form of improving labour market conditions. What do I mean by this? Simply put, we’re not still on the downward phase of the rollercoaster ride, the economy is expanding, but we are not in a calm or tranquil place either. The UK is subject to significant risks, upside and downside (more downside) over the course of the next couple of years, and is also trying to deal with inflation that is well above its target and likely to remain their for a least the next 4 quarters. But, recent figures suggest firms are holding back as concerns regarding the Euroland economy intensify.

FX forecasts – the latest RBS numbers GBP/USD – heading nowhere in the remainder of this year, but risks to the downside remain if the UK economy doesn’t pick up. EUR/USD is also set for improvement in H2 ’12 but further woes for the euro remain whilst the crises persist. Some emerging economies may see their currencies improve against the GBP, but greater gains are expected against the USD.

FX markets – Reuters polls: GBP/USD source: Reuters

FX markets – Reuters polls: GBP/EUR source: Reuters

Summary Euroland’s troubles continue to act as a drag on global GDP. A solution to the crisis must be found soon, and must involve all Euroland authorities first and foremost. The US economy began 2012 better than expected with more jobs created and better survey data being the key standouts. Recent figures have suggested a slowdown in activity (most likely because of euro area uncertainty). Both the UK and Euroland economies have had a lacklustre start to 2012, with both seeing output falling or stalling in Q1 ‘2012, after already having reported declines in growth in Q4 2011. Interest rates rises remain off the agenda for all economies. More QE to come? The USD should do well against the other majors for a few months yet, but further gains are likely to be driven by expectations of greater Euroland chaos and crisis (and the knock on to risk appetite and international trade/financial markets). The solution to the global growth problem is not more government debt in the West. Instead, the West should focus on tapping into the faster growing economies of the BRICs and other Eastern, Middle Eastern and Latin American economies.

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