Performance during the first half of this year turned out to be stronger than expected in Europe but weaker in the United States and Japan. However, growth is likely to slow somewhat in Europe over the second half whilst the US and Japanese expansions regain some momentum. As a result, for the OECD area as a whole, activity is set to expand at about its potential rate during the second half of 2006. Turning to inflation, upside risks dominate in the United States whereas Japan is only just starting to exit deflation. The uncertainties surrounding this baseline scenario continue to include the trajectory of oil prices, which have come down in recent weeks but remain elevated. Another prominent risk nexus involves long-term interest rates and real estate, against the backdrop of cooling housing markets in North America.
The US economy is currently running at around full capacity. In the second quarter, investment weakened, dragged down by the homebuilding sector. Household consumption slowed less and has in fact tended to accelerate in recent months, consistent with a pick-up in compensation, and so have exports, pointing to robust GDP growth in the third quarter. Unemployment has edged up in recent months but remains low. In the United Kingdom, growth continues to be resilient in the neighbourhood of potential.
In Japan, momentum is driven by business fixed investment and household consumption. Corporate sentiment is holding up well, underpinned by strong profits and orders. Consumption is buoyed by employment creation and rising compensation. As a result, the expansion is on course to become the longest in half a century.
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