Slovakia: Growth to continue under a more cautious outlook
Domestic demand and net exports are driving growth
Real GDP growth reached 3.7% y/y in 1Q19, mildly above 4Q18 but below the cyclical peak of 2018 (4.1%). Both domestic demand and net exports drove growth. Even though the start of the year brought some welcome news about net exports, the clouds over the external environment have not dissipated - some of them (esp. Brexit) have even become more prominent.
This year, we expect economic growth to average 3.4%, driven largely by domestic demand as the external environment is likely to remain cloudy (Germany and China slowing down, uncertainty stemming from Brexit, unresolved protectionism in foreign trade). Given this outlook, we have revised our 2020 growth forecast down to 3.3%.
Labour market invigoration continues as the unemployment rate fell to a new low of 5.8% (-1.3pp y/y) in 1Q19. Employment growth (LFS) rose by 1.8% y/y in 1Q19, easing only marginally. Nominal wage growth exceeded our expectations as it shifted up a gear to 7.1% y/y, reflecting the tighter labour market (real wages were up by 4.6% y/y in 1Q19).
Better 1Q19 figures led us to revise our forecasts - we now expect the unemployment rate to average 5.8% this year and 5.7% in 2020. Nominal wage growth is likely to average 6.6% and 6.1% in 2019-20, respectively. Inflation is expected to reach 2.5% both this year and the next, driven by food, service and energy prices.
Overall, yields on government bonds could increase somewhat reflecting Slovak inflation and stable stock of QE. However, more uncertain path of monetary policy in the US and the first ECB hike being postponed towards the end of 2020 (together with further easing in the Euro Area via TLTRO3) have led us to revise our forecast downward. We expect the 10-year Slovak government bond yield at 0.42% at the end of 2Q19 before rising to 0.65% towards the end of the year.