The euro zone economy is slowing down sharply

Exactly five months to the day after the outbreak of war in Ukraine, the European economy is still in a state of deep paralysis. The shockwave of the conflict continues to spread to all the countries of the Old Continent, already shaken by the two long years of the pandemic. Governments are preparing the people of Europe to give up Russian gas next winter.

In anticipation of this probable date, PMI indices released on Friday 22nd July show that the European economy is collapsing at a rapid rate. The synthetic euro zone indicator turned negative at 49.4 in July from 52 in June. This is a 17 month low. As a reminder, activity shrinks when this index, well-regarded in economic and financial circles, falls below the 50-point threshold; and it expands when it exceeds that number.

If we exclude periods of hygienic accommodation, The drop in overall activity recorded in July is the first since June 2013. It also points to a quarterly GDP contraction of around 0.1%, a marginal rate of contraction for now, but one that should pick up in the coming months given the sharp fall in new business, the price of business falling and the deteriorating outlook for activity accelerate”, said Chris Williamson, chief economist at S&P Global Market Intelligence.

Within the euro zone yes Germany that the drop in activity is most evident, with a drop in the index PMI to 48, the lowest level since June 2020. In a blog post published on Friday, IMF economists revised their growth forecasts for Germany significantly downwards, from 2.9% to 1.2% for 2022. In France, activity continued to pick up in July, but at an extremely slow pace, with a July PMI of 50.6. Those economic indicators aside, the economic slowdown is shaping up to be a much more systemic crisis.

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Inflation threatens the European economy

The rise in the cost of living is shaking the European economy. The war in Ukraine pushed the price index to a record high of 8.6% year-on-year last June, according to the latest figures from the European Commission. Driven by rising energy prices, raw materials and shortages, inflation is gradually eroding the purchasing power of households in Europe.

In France, a study by the Economic Analysis Council (CAE) published this Thursday, July 21, shows that households at the lower end of the scale have drawn heavily on their modest savings. The middle class has a stockpile of savings in line with the trend before the Covid-19 pandemic. The richest have higher savings. In Europe, inflation is therefore likely to weigh on demand from the families with the highest consumption. Recent business trend surveys also show that household confidence is in freefall. After all, taking inflation into account, the standard of living of a large number of Europeans has already started to decline.

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The industry is in the red

The drivers of the production apparatus in Europe are at the forefront in the face of this energy crisis. In July, the PMI index fell to 49.6 from 52.1 in June. That’s the lowest level in 25 months at the height of the pandemic.With the exception of those observed during periods of sanitary containment, the decline in activity recorded in July was the sharpest since December 2012. emphasize the economists at S&P.

This decline can be largely explained by the ongoing difficulties in German industry, which is particularly exposed to the consequences of the Ukraine war and delivery problems. “The situation is most worrying in manufacturing, where a lower-than-expected volume of new orders has led to an unprecedented rise in unsold inventory. underlines Chris Williamson.

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Services are about to contract

On the service page, the indicators also turn red. The PMI index fell to 50.6 in July from 53 in June, threatening to contract. Several industries saw a decline or slowdown in activity related to leisure, transport or even tourism. This lower activity is partly explained by an increase in the cost of living for a large number of Europeans, who are being forced to make more drastic decisions in their daily lives in the face of runaway inflation.

Analysts are also reporting difficulties in the real estate and banking sectors, particularly due to the tightening of financing conditions over the past several months. Given the weight of the tertiary sector in Europe’s gross domestic product (around 65%), all these bad signals do not point to a favorable outlook for late 2022 and early 2023.

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job threats

This sudden slowdown in growth in Europe should automatically lead to a rise in unemployment. Although the unemployment rate as defined by the International Labor Office (ILO) continued to fall in the first half of the year and reached 6.6% in the euro zone at the end of May, the trend was reversed. In fact, the shutdown of the aid introduced during the pandemic and the tightening of financial conditions will no doubt prompt companies to shed their workforce.

In France, OFCE economists believe that companies “ hand positionwork » given the level of activity calculated since the beginning of the war in Ukraine. Many economists expect “Growth that is less job-rich”. A rise in euro-zone unemployment would hurt aggregate demand and order books for companies already weakened by rising energy prices and supply difficulties.

Unemployment in the euro zone at a historically low level of 6.6% in June

Political crisis in Italy

This slump in activity comes as Italy is going through a major political crisis. The departure of Italian Council President Mario Draghi hit Europe like a bomb. Came to power in February 2021 to pull Italy out of the health and economic crisis, Mario Draghi74, presented his resignation to President Mattarella on July 14, who immediately rejected it. A few days later, the former President of the European Central Bank finally resigned from his post in the Italian Parliament after several setbacks. The next day thatItalian President Sergio Mattarella has announced the dissolution of the Senate and Chamber of Deputies, which will automatically lead to snap elections this fall in the eurozone’s third largest economy.

Markets are closely monitoring the situation in the eurozone’s third largest economy. The “spread”, the closely watched gap between German and Italian 10-year interest rates, rose to 240 basis points, a high since mid-June. With this political crisis, Italy enters a zone of great uncertainty as the economy is shaken from all sides by the effects of the war in Ukraine.

The European Central Bank on a ridgeline

After ten years of accommodative monetary policy, the central bank decided to tighten monetary policy by announcing a 50 basis point rate hike, much to the surprise of some economists. For example, their main interest rate fell from 0% to 0.5% and their deposit rate was raised from -0.5% to 0%. In parallel, the Monetary Institute launched the IPT, the Transmission Protection Instrument. This anti-fragmentation tool should enable the purchase of mostly public securities.

Christine Lagarde’s announcements mark a turning point ten years after the eurozone sovereign debt crisis, when the ECB came to bail out Europe’s economy. The Frankfurt Institute in particular played an important role at the time of the pandemic, implementing exceptionally accommodative monetary policy, cutting interest rates and proposing colossal programs to buy back public debt. As a result, the central bank’s balance sheet had risen by nearly 20 points in nearly a year. With inflation running rampant, the central bank is at a peak. By ending the free-money era, it hopes to quickly contain prices while maintaining activity. A bet that is proving risky at a time when tensions in energy markets are at their highest.

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