Euro Area’s Top Economies Contract, Delaying Bloc’s Growth

(Bloomberg) -- The euro area’s two largest economies continued to contract in March, feeding expectations that a sustained pickup in activity will take more time to materialize.

France’s private sector shrank at a slightly quicker pace this month than in February, according to business surveys by S&P Global released on Thursday. Germany’s downturn eased, but this was solely due to the services sector, which came close to stabilizing.

Important German manufacturers again defied economists’ expectations for improving momentum, with the relevant purchasing managers’ index declining to 41.6 from 42.5 in February – further below the 50 threshold signaling expansion.

Across the 20-member currency bloc, services helped private-sector activity to a nine-month high, yet the gauge for manufacturers unexpectedly dropped to a three-month low.

“If you were hoping for a recovery in the manufacturing sector in the first quarter, it’s time to throw in the towel,” said Cyrus de la Rubia, chief economist at Hamburg Commercial Bank. “The March PMI confirmed the clear weakness of this sector, which seems to be dominated by the heavyweight Germany.”

He underlined that “comparing France and Germany, the composite PMI data show almost the same degree of weakness.”

The two economies have recently fared worse than the broader euro area, where nations including Spain have been growing at a solid pace. Germany is by contrast probably in recession after a contraction in the fourth quarter that it’s struggled to shake off at the start of 2024.

The Bundesbank said on Thursday the German economy is likely to contract again in the first quarter, with “headwinds from various directions” and the industrial sector in particular remaining a weak spot.

For the second quarter, indicators such as Ifo business expectations “still give little indication of an economic upturn,” the central bank added in its monthly report. Despite the likely first recession since the pandemic, the institution doesn’t envisage a severe downturn, however.

The deterioration in France was due to worsening demand for goods and services, according to S&P Global, with respondents citing “client hesitancy, challenging economic conditions and inflationary pressures” as drags.

Data showed the purchasing managers’ index for the overall euro area increased to 49.9 in March, stronger than the 49.7 predicted by economists and the closest to 50 since June. The bloc avoided a recession at the end of last year, though economists predict growth of just 0.1% in the first quarter and an output boost of only 0.5% for the year.

The surveys still found that companies are becoming more optimistic about the future, a signal that the rebound that economists are predicting will arrive eventually.

In France, national indicators published on Thursday showed an improvement in business confidence in both industry and services. The composite reading for all sectors measured by statistics agency Insee reached its long-term average of 100 in March for the first time since September.

While there were signs of easing price pressures in both countries, rising salaries remained a concern — especially for services firms, where labor costs are playing a bigger role.

“The European Central Bank can take some comfort from the fact that price pressures in the wage-sensitive services sector have not increased further,” de la Rubia said. “However, price pressures remain elevated. Therefore, the PMI price news is not enough to change the ECB’s apparent plan to cut rates in June rather than April.”

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“The broader picture is that while output is struggling to expand, it’s still far from collapsing. That will buy the Governing Council some time before lowering interest rates. We expect the first interest-rate cut to come in June.”

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Separate UK data showed Britain’s private sector firms continued to report output growth in March, adding to evidence that a rebound from last year’s recession is underway.

US data later on Thursday are expected to indicate further growth. Earlier numbers from Australia and Japan showed stronger expansion.

PMIs are closely watched by markets as they arrive early in the month and are good at revealing trends and turning points in an economy. A measure of breadth of changes in output rather than depth, business surveys can sometimes be difficult to map directly to quarterly GDP.

--With assistance from Joel Rinneby, Mark Evans and Mark Schroers.

(Updates to focus on France and Germany from first paragraph.)

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