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Despite key sentiment measures for the Eurozone’s manufacturing and services demonstrating significant improvements, the rise of Euroscepticism and a possibility of France leaving the euro might overhaul current economic forecasting for the bloc.

Kristian Rouz – Amid the rising political risks surrounding the upcoming French election and the entailing possibility of Frexit, the renewed Greek debt turmoil and Italian banking unease, the key measure of economic sentiment posted an uptick in February in line with earlier expectations.

The gains in consumer prices and slight improvements in the labor market have contributed to brighter economic projections for the common currency area, whilst the euro’s weakness has continuously boosted the Eurozone’s foreign trade positioning.

The euro area economy therefore might be in its best shape since the sweeping debt crisis of the early 2010s, meaning the European Central Bank (ECB) might consider removing some of its accommodative policy measures, which include the bond-buying program and ultra-low to negative interest rates.

A raise in the ECB’s base interest rates could therefore happen in 2019, in line with the current market expectations, according to an observation by the German Bundesbank President Jens Weidmann.

On Monday, Eurozone economic confidence was reported at a level of 108, with inflation having advanced to 1.9pc in February, the closest to the ECB’s 2-percent target in four years. Aside of these figures, the European Commission and the Eurostat also reported the unemployment rate at below 10pc across the 19-country bloc, at its lowest since 2009.

In January, economic sentiment for the Eurozone stood at 107.9, with a multi-year average of 100 points.

An additional business sector index also showed improvement, advancing to 0.82 in February compared to 0.76 in January and above the expected 0.79. The February reading is the highest since 2011 as well.

Manufacturing and services sectors have also shown signs of improvement, with the industry index having risen to 1.3 points from 0.8 in January, whilst services sentiment advanced to 13.8 in February from 12.8 the previous month.

However, overall economic growth in the Eurozone remains slow, and the deterioration in retail, construction and consumer sectors have reflected the downside risks to the broader economy. The lack of a coherent fiscal policy in the Eurozone has limited EU authorities’ capabilities to provide more stimulus to economic growth, whilst the ECB’s monetary measures have all but worn out.

The unprecedented-low base borrowing costs and the 2.4-trillion-euro asset-buying program administered by the ECB are insufficient to propel economic growth higher, and therefore most of the Eurozone’s expansion is driven by foreign trade and internal consumption. Whilst trade is doing fairly well due to the euro’s weakness against its major peer currencies, domestic consumption is faltering, and the recent uptick in inflation has not yet translated into a substantial increase in consumer purchases and household spending.

Subsequently, EU officials have called for a greater political unity in the Eurozone, putting forth the “federal union” project that would allow the nineteen member states to coordinate fiscal policy efforts. Lawmakers from Germany, Italy, France and Luxembourg urged for closer integration, as reported by La Stampa, amidst the deepening cracks within the bloc and the rise of Euroscepticism in several key member states.

“Now is the moment to move towards closer political integration: a Federal Union of States with large skills. We know that the prospect stirs up strong resistance, but the inaction of some can not be the paralysis of all,” the lawmakers said.

The concerns of the National Front possibly winning the French election in April, with its leader Marine Le Pen having repeatedly said that France should leave the euro behind, have recently been reflected in the European market volatility index, or VIX, which spiked in its April and, to a lesser extent, May forecasts.

Another concern is the European debt market dynamics, with bond yields for Southern European nations rising amidst the turmoil in Greece, whilst the German debt rising in value as a safe haven asset, rendering the yield lower and subsequently oppressing the Eurozone’s natural interest rates and further limiting the ECB’s regulatory capabilities.

The European economic landscape in currently determined by political factors to a great extent, whilst the improvements in key sectors of the bloc’s economy have only had a limited positive effect to investor confidence and broader growth. After all, a possible Frexit, if it was to occur, would prove a massive shock that could overhaul the perception of the Eurozone as a whole, rendering the current economic projections of growth and the ECB rate hikes completely irrelevant.