When the fourth quarter Euro forecast was written in late-September 2018, there were widespread reports that the Italian government had reached an agreement with the European Commission over its budget deficit targets. The forecast was finalized on September 26, shipped off and sent through the editorial and compliance processes in order to be disseminated…then on September 27, the Italian government reneged on its agreement. An archetype of why timing can matter more than being right: this was a material development; had the Italian government reneged just one day earlier, the previous Euro forecast would not have been as optimistic as it was.

EURO OUTLOOK OMINOUS

Now, heading into first quarter of 2019, even as the Italian government appears to have actually reached an agreement this time around after months of tense negotiations, it’s difficult to feel that troubles will fade and storm clouds dissipate. If anything, there is evidence building to suggest that there was a missed window of opportunity at the end of 2018, setting 2019’s open as a potential ominous period for the Euro.

Political issues are cropping up everywhere, and it is possible that Europe may see significant leadership turnover just as debt and growth concerns have started to make waves again. To wit, leadership issues will be prevalent starting immediately: Belgium Prime Minister Charles Michel has submitted his letter of resignation; French President Emmanuel Macron may face a no-confidence vote over the “gilet jaunes” or “yellow vests movement”; and the Spanish government’s ruling mandate has proven weak, and fresh elections could emerge shortly.

ECONOMIC PICTURE DETERIORATING

Moving away from the troubling political factors in play, the deterioration of the economic picture adds another layer of concern for the Euro heading into the new year. Any budding momentum in third quarter of 2018 was stamped out in the subsequent three-month period, when measured a variety of ways. For the ECB, it’s not a comforting situation as both growth and inflation expectations have dropped dramatically.

For the Euro, being in a situation where political risks are cropping up while growth and inflation expectations are going down does not bode well for the future. As a reminder, the ECB laid down the “summer 2019” as marker for the first rate hike, but overnight index swaps have started to push that pricing back further (odds for a 25-bps hike: 22% by September 2019; 51% by December 2019).