The Eurozone’s PMI signals growing economic concerns. GDP could shrink by 0.2% in the third quarter

Autor: Financial Market
4 min

Eurozone business activity contracted at an accelerating pace in August as the region’s downturn spread further from manufacturing to services.

Both sectors reported falling output and new orders, albeit with the goods-producing sector registering by far the sharper rates of decline.

Hiring came close to stalling as companies grew more reluctant to expand capacity in the face of deteriorating demand and gloomier prospects for the year ahead, the latter sliding to the lowest seen so far this year.

While inflationary pressures continued to run far lower than seen over much of the past two-and-a-half years, led by falling manufacturing prices, August saw headline rates of input cost and selling price inflation tick higher due in part to upward wage pressures.

Output and demand
At 47.0, down from 48.6 in July, the seasonally adjusted Eurozone Composite PMI Output Index, based on approximately 85% of usual survey responses, fell in August to its lowest since November 2020.

If pandemic months are excluded, the latest reading was the lowest since April 2013. Output has now fallen for three consecutive months, led by a fifth successive monthly decline in manufacturing output.

Although the rate of decline of factory output eased slightly in August, it remained the second-strongest recorded by the survey over the past 11 years barring only the initial COVID-19 lockdowns.

The eurozone service sector meanwhile also fell into decline in August, with activity contracting for the first time since last December, albeit at a much softer rate compared to the goods-producing sector.

Demand conditions continued to worsen across both sectors. New business inflows fell overall for a third straight month, with the rate of decline accelerating to the fastest since November 2020.

Excluding the pandemic, the drop in new business was the steepest since October 2012. New orders for goods continued to fall at the one of the sharpest rates since the global financial crisis, accompanied by a second month of deteriorating demand for services.

The latter contracted in August at a pace not seen since May 2013 if COVID-19 lockdown months are excluded. Employment, operating capacity and optimism Employment came close to stalling, with the August flash PMI survey registering the smallest rate of job creation since headcounts began rising after the pandemic lockdowns in February 2021.

A marginal loss of manufacturing jobs was recorded for a third successive month, while hiring in the larger service sector continued to slow from April’s recent peak to register only a marginal rise, signalling the smallest net job gain in the sector since February 2021.

Inflationary pressures meanwhile picked up in August, both in terms of average selling prices and input costs, albeit with both measures signalling far weaker inflation rates than seen throughout the two years prior to the summer.

Average prices charged for goods and services rose at an increased rate for the first time in seven months, pushing the rate further above the survey’s long-run average albeit registering the second-slowest rate since March 2021.

Goods prices fell for a fourth month running, though the rate of deflation moderated. Service sector charges meanwhile rose at the slowest rate since October 2021.

The rate of input cost inflation across both sectors edged higher for the first time in 11 months, though remained marginally below the survey’s long-run average.

A steep fall in manufacturers’ costs, albeit at a reduced rate of deflation compared to July, was accompanied by a slight upturn in service sector input cost inflation, the latter commonly linked to rising wage pressures.

National trends
Looking at growth across the euro area, the steepest downturn was recorded in Germany, where output across both goods and services fell for a second month and at a rate not seen since May 2020 (and since June 2009 if the pandemic is excluded).

A severe and steepening decline in manufacturing output was accompanied by the first fall in German service sector activity since last December.

France reported a third successive monthly drop in output, the rate of decline unchanged on July, which had seen the sharpest decline since May 2013 barring only four months of pandemic lockdowns.

The rate of contraction moderated in manufacturing, though remained sharp, and meanwhile accelerated in services. The rest of the region suffered a moderate decline in output compared to France and Germany, yet the reduction was notable in being the first recorded since December amid an ongoing loss of manufacturing output alongside a near stagnation of activity in the service sector.

The service sector of the eurozone is unfortunately showing signs of turning down to match the poor performance of manufacturing. Indeed, service companies reported shrinking activity for the first time since the end of last year, while output in manufacturing dropped again.

Considering the PMI figures in our GDP nowcast leads us to the conclusion that the eurozone will shrink by 0.2% in the third quarter.

ECB president Christine Lagarde sounded the alarm that the economy may be faced with higher wages and lower productivity, leading to higher inflation. It seems like those worries are about to turn into reality, at least for the vast service sector.

For, in this sector input prices and thus wages increased at an accelerated pace in August. Meanwhile, stagnating employment combines with decreasing production and results therefore in lower output per head.

As a result, the ECB may be more reluctant to pause the hiking cycle in September.

Is a bottom in sight in the manufacturing sector? Perhaps, as the PMI headline index, though still in shrinking territory, has increased somewhat. This happened on the back of a slightly better order situation as well as slower destocking.

The higher confidence that output will be higher one year from now fits into this narrative. A real turnaround may only happen in the first quarter of next year, however, as the PMI starts from a rather low level,” said Dr. Cyrus de la Rubia, Chief Economist at Hamburg Commercial Bank.