Eurozone economic data maintains momentum, outlook clouded

While researchers have yet to confirm the theory that Covid-19 will become a seasonal virus, growing evidence suggests that a small seasonal effect could likely contribute to larger epidemics in winter.

In fact, Europe is once again experiencing a surge in coronavirus infections, to levels not seen in months. A new mutation; the Omicron variant, emerging from southern Africa, has raised fears that the continent, due to its unprecedented set of genetic mutations, could be engulfed in infections.

Conclusive evidence on such an emerging mutation, due to its relatively recent discovery, is so far unavailable. The first indications however indicate that a product carries a higher rate of transmissibility and presents a higher resistance to existing vaccinations. The implications, both from a health and economic standpoint, the latter depending on the course of governments to mitigate the spread and ultimately avoid overwhelming hospitals, remain unclear. Vaccination programs and booster distribution – a third dose that will additionally provide immunization against the virus, will help mitigate the impact. The vaccination rate among the largest countries in the euro area exceeds 70 percent of the population.

As concerns about the possible negative impact of the Omicron variant on the global economy increased, European sovereign yields, which previously represented an improved and more stable economic scenario, have reversed. Notably, the yield on the German 10-year benchmark bond fell to less than -0.34%, the lowest in twelve weeks as investors sought safety.

While a slowdown in economic data, following measures imposed to mitigate the spread of the virus is expected, the extent is at this stage unknown. Recent economic data has been positive. Activity, although subdued, showed further signs of improvement as inflation maintained its upward trajectory.

Commercial activity rebounds in November

In November, the eurozone manufacturing PMI rose to 58.4 from 58.3 in October, little change from a preliminary estimate of 58.6. Still, the November reading pointed to the second slowest expansion since February 2021.

In the manufacturing sector, growth in new orders accelerated while the pace of job creation remained largely sustained. Meanwhile, as has been the case in recent surveys, data for November showed that there was still considerable pressure on suppliers. Average procurement times have further extended to a large extent, reflecting a number of factors, including equipment shortages, lack of transportation and staffing issues. Pre-production stocks accumulated the fastest since data was first collected in June 1997. The impact of these supply chain issues was evident in both input costs and costs. output prices. Input costs, then passed on to customers in the form of higher selling prices, have increased at an unprecedented rate. Producer prices have increased the most since the start of this series in November 2002.

For a third consecutive month, services are expected to outperform the manufacturing sector – constrained by supply issues that have continued to constrain growth.

Notably, the services PMI rose to 56.6 from 54.6 the previous month, and above market expectations of 53.5, according to preliminary estimates. With a slightly larger influx of new business, output growth accelerated from the six-month low reached in October. On the employment side, the pace of job creation has been strong overall, while backlogs have increased at a high rate. Inflationary pressures have persisted, with input and output costs rising at record rates.

Finally, optimism about the outlook has plummeted to its lowest level in ten months amid persistent supply constraints and new coronavirus concerns.

Inflationary pressures are expected to persist

In November, euro area consumer price inflation is expected to accelerate to 4.9% year-on-year, from 4.1% the previous month, and above market estimates of 4.5% . The inflation rate is said to be the highest since July 1991 and well above the European Central Bank’s (ECB) target of 2.0 percent.

The cost of energy is expected to rise sharply, followed by strong increases in the prices of services, non-energy industrial goods and food, alcohol and tobacco. Price increases in Europe’s largest economies have accelerated to multi-year highs, with high rates recorded in Germany, Spain, Italy and France.

Rising infections could darken economic outlook

Although they note a slight deceleration in the pace of expansion, economic data for the euro area is largely optimistic. Concerns about the coronavirus pandemic, especially following an upsurge in infections across Europe, have increased, however. An increase in infections has led governments to once again rethink the way forward and impose tougher rules to lessen the spread and not overwhelm hospitals.

The severity of the current wave of coronavirus and the economic impact that is expected to prevail remain as it is today. Countries will eagerly await more concrete information on the new mutation variant. Its severity and the risk it poses on the health front will be crucial in dictating the way forward.

Indeed, should the need for further mitigation arise, the eurozone economy could possibly, once again, falter. The rate of expansion of leading indicators, especially PMI data – a useful indicator of economic health in the two key sectors, already showing signs of normalization as supply problems loomed large, could slow further.

An increase in infections can, once again, threaten to further increase supply problems while simultaneously diverting spending from services to consumer goods. This worsens the supply-demand imbalance.

Disclaimer: This article was written by Christopher Cutajar, Credit Analyst at Calamatta Cuschieri. The article is published by Calamatta Cuschieri Investment Services Ltd and is licensed to engage in investment services business under the Investment Services Act by the MFSA and is also registered as a related insurance intermediary under the Insurance Distribution Act 2018.

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