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The slowdown in the eurozone deepened at the start of the third quarter, according to a closely watched business survey that indicated the region’s economy was contracting.
The eurozone’s composite purchasing managers’ index (HCOB), a measure of activity in companies across the 20-nation bloc, fell to an eight-month low after a more-than-expected slowdown in services and a sharp decline in manufacturing in July.
The outcome is expected to add to calls for the European Central Bank to stop raising interest rates after a quarter-percentage-point rate hike expected on Thursday.
The euro fell 0.4 percent against the US dollar to $1.108, while the German two-year bund yield fell 0.05 percentage point to 3.17 percent as investors backed away from bets on further tightening.
By dropping to 48.9, down from 49.9 the previous month, the PMI fell below the 50 mark that separates contraction from expansion and stoked fears of a possible recession in the eurozone economy after two quarters of moderate contraction.
The flash reading for the eurozone was much lower than the 49.7 expected by economists in a Reuters poll.
Britain’s economy is also slowing sharply, according to a separate PMI survey published on Monday that showed the British business activity index fell to a seven-month low of 50.7, down from 52.8 in June.
“The eurozone economy is likely to move into contraction territory in the coming months, as the service sector continues to lose steam,” said Cyrus de la Robbia, chief economist at Hamburg Commercial Bank, adding that there is a “growing possibility” that the German economy will slide into recession in the second half of this year.
The services sector in the bloc remained in growth territory, although the PMI reading fell to a six-month low of 51.1. The decline in the manufacturing sector deepened further after its reading fell to a 38-month low of 42.7.
Weak demand led to the largest drop in manufacturing orders since 2009, while the services sector suffered its first drop in orders for seven months. Job growth continued, albeit at the slowest pace for more than two years.
Economists believe that an expected rate hike this week by the European Central Bank could mark the end of the 12-month cycle of monetary tightening if deflation weakens the labor market and slows wage growth.
However, the central bank has said in recent weeks that it is concerned that rising wage growth and higher service prices could keep inflation above the 2 percent target for a very long time.
Unemployment in the eurozone fell to a record low of 6.5% in May, and hourly labor costs in the eurozone rose 5% in the first quarter, down from 5.6% in the previous quarter.
The PMI survey showed a sharp decline in wholesale prices in the manufacturing sector in the eurozone, in contrast to the continuous rise in prices for services, which reflects companies passing higher labor costs on to customers. However, the service inflation rate was the lowest since October 2021.
Klaus Vistesen, an economist at research group Pantheon Macroeconomics, said the PMI survey would be “basically dovish” should the ECB pause its rate increases after this week. But he added that a “bad” increase in second-quarter wages could prompt it to raise interest rates again in September.
Eurozone inflation slowed more than expected to 5.5 percent in June, the lowest level since Russia’s full-scale invasion of Ukraine more than a year ago, and is expected to continue falling when pricing data for July is published next week. But the ECB said it wanted to see convincing evidence that core inflation – a measure that excludes energy and food costs and is seen as a better measure of underlying price pressures – is falling back towards its target before it stops raising interest rates.
Bert Collin, an economist at Dutch bank ING, said the PMI survey showed “rising wages continue to keep price pressures high for services”. This, he said, “keeps the hawks’ concerns about the impact of wages on inflation alive”.
Why is the PMI important?
Based on a monthly survey of chief executives at hundreds of companies in every country, the PMI shows whether production, employment, orders, supplier delivery times, and inventories have increased, decreased, or remained flat since the previous month.
More in time than tough economic data, the PMI survey is being watched closely by central banks and analysts for early signs that the economy is changing direction. Readings above 50 indicate that business activities are picking up, while readings below 50 indicate the opposite.
