PMIs forecast gloomy winter for Eurozone economy

EUR, USD
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September PMI data

The Eurozone economy will likely see a contraction in the third quarter. That is the indication given by the September PMI data released this morning, showing the steepest economic downturn since 2013, barring the pandemic lockdowns in 2020.

Composite PMI came in at a 20-month low of 48.2, with forward-looking indicators pointing towards the decline gaining further momentum in the coming months. The manufacturing sector led the declines, with factory output falling for a fourth straight month. The rate of decline, however, did moderate slightly given the reduced supply chain constraints.

Table: September PMI data shows worsening economic conditions

September PMI data for France, Germany and the Eurozone. Table: capital.com Source: trading economics

Germany has once again taken the worst of the shock to activity, with all three readings (manufacturing, services and composite) falling below the previous month, and the services PMI seeing the sharpest decline since 2009, aside from the initial covid-19 lockdown period. .

Aside from Germany, the services PMI has held up better throughout the summer months as tourism activity has topped its pre-pandemic levels. In France, the services sector came in well above expectations and managed to stay in expansion territory (53) for the 18th month in a row.

But the end of the European summer season and the rapid decline seen in the manufacturing sector suggest the Eurozone economy is in for a tough winter, with the recent cooling in the job market reflecting increased caution in respect to hiring amid rising costs and growing economic uncertainty. .

As stated in the release, Chris Williamson, Chief Business Economist at S&P Global Market Intelligence said:

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“A eurozone recession is on the cards as companies report worsening business conditions and intensifying price pressures linked to soaring energy costs. The early PMI readings indicate an economic contraction of 0.1% in the third quarter, with the rate of decline having accelerated through the three months to September to signal the worst economic performance since 2013, excluding pandemic lockdown months”

Fight inflation or avoid recession?

With inflation hitting century highs in most countries, the balancing act of central banks is becoming tougher by the day. This week we’ve seen what is likely the toughest global effort at tightening financial conditions on record. The Federal Reserve, the Bank of England, the Swiss National Bank and the Norges bank all increased their base rates in the last 48 hours, and that follows on from the 75bps hike delivered by the European Central Bank (ECB) earlier this month. To be honest, all central banks aside from the Bank of Japan are attempting to control sky-high inflation without damaging the economy too much in the process.

But that is where it gets tricky, as in order to bring down inflation consumers need to slow their spending, and the best way to do that is to limit their purchasing power. But the risk of pushing an economy into recession becomes greater as the rate hikes pile on, and as the PMI data released this morning suggests, consumers and businesses are already preparing for the worst.

In fact, ECB board member Isabel Schnabel suggests interest rates have to continue rising as the starting point was way too low and she remarked on Thursday that price increases and inflation in the Eurozone are expected to be greater and more persistent than previously anticipated.

The bank’s vice-president Luis de Guindos said earlier this week that the amount of rate hikes to come will depend on the upcoming data but markets are suggesting the bank will increase their base rate to 3% in May.

EUR/USD analysis

Euro buyers have been attempting to build their positions after the FOMC meeting and managed to pare back some of the losses in Thursday’s trading. But the rally was quickly faded out and sellers are once again on the move. Most of this move is actually coming from the USD side of it, with the Dollar index up 8 tenths of a percent this morning, pushing through yesterday’s resistance and printing fresh 20 year highs as it goes along.

Chart: EUR/USD continues its bearish channel

Photo: capital.com Source: trading view

The trend line set from the highs of last year continued to offer some good support to EUR/USD, catching the lower bound of the bearish retracement and giving the pair a base for a short-term recovery. The most recent daily candlesticks are showing lower lows and lower highs, consistent with the greater bearish trend still at play despite the one-month high seen at the beginning of last week.

The energy crisis in Europe is going to continue putting pressure on the Euro until some clarity on the severity of the situation is achieved, and that will likely not happen in the next few months. On top of that, the Fed’s monetary tightening path is keeping the Dollar well supported, as well as the risk-off sentiment forming across markets given the looming recessions and the escalation of tensions in Eastern Europe.

Because of this, EUR/USD is likely to remain with a bearish bias in the medium-term, despite seeing some attempted recoveries along the way. The pair is also settling in comfortably below parity so we could expect the round level of 1.00 to offer some potential resistance up ahead.

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