Signs of recovery in corporate and consumer sentiment
According to data from the Organization for Economic Co-operation and Development, the euro area's GDP grew by 0.1% quarter-on-quarter in the first quarter of 2023. Among the eurozone's major economies, Spain (preliminary figures) and Italy both posted 0.5%, France 0.2%, while Germany stagnated.1 Overall, it would be no exaggeration to say that the euro area economy has stagnated.
However, against the backdrop of gloomy predictions of a severe winter recession that were circulating just a short while ago, the economic situation in the euro area might be considered good news. Current consumer and business sentiment indicators suggest a recovery is underway. As shown by the European Commission's Economic and Consumer Sentiment Index, both have recovered significantly from their very deep fall lows and are now close to their long-term averages.2 However, it is important to note that there are significant differences between sectors behind the improvement in business sentiment. Consistent with the global situation, the services sector appears to be performing better than the industrial sector.
The industrial sector is suffering from weak orders and declining international demand. For example, new orders from German manufacturers fell by more than 10% in March.3 It was the largest decline since the first months of the COVID-19 pandemic. This is especially concerning since the large backlog seen during the peak of the coronavirus pandemic has largely been cleared. As a result, the Purchasing Managers' Index (PMI) for the euro area's industrial sector declined. Meanwhile, the PMI for the services sector is in solid expansion territory, indicating that this sector is accelerating at a strong pace.Four
Sentiment in the consumer sector is also on the rise. Even if inflation continues to push down real incomes, this can be attributed to the subsidence of the energy crisis. Consumer spending is generally supported by a strong labor market, which acts as a stabilizing factor for the overall economic outlook. In fact, the unemployment rate in the euro area has reached an all-time low of 6%.Five
Inflation and monetary policy: the game is not over yet
The euro zone's rate hike cycle began last July, and since then the European Central Bank (ECB) has raised rates seven times, last to 3.75% in May due to a major refinancing operation. Headline inflation has retreated from a peak of 10.6% in October and stood at 7% in April.6 Even though they are in retreat, the Baltic states still have the highest inflation rates (over 15%), with wage costs being one of the main factors. Countries such as Belgium and Spain have inflation rates of 3% to 4%. Inflation rates in other major eurozone countries hover between these two extremes: 6.9% in France, 7.6% in Germany and 8.8% in Italy.
The rate hike cycle is unlikely to end as underlying inflation dynamics remain strong. Core inflation, a key indicator of the spread of inflation throughout the economy, shows little sign of slowing down. In fact, it is continuously rising. In April, it was 5.6%, only slightly below the previous month's peak. The ECB's fight against inflation is not over unless core inflation is brought under control.
