Global Monthly - Eurozone: Low growth-high inflation mix will not last
Economic activity slowed in the final months of 2021 and in early 2022. Inflation has risen to record-high levels in the final months of 2021. It will probably remain elevated during the first half of 2022, but should drop sharply lower in the final months of the year. GDP growth is expected to rebound sharply in Q2-Q3 and, subsequently, settle above the trend rate.
The eurozone economy lost momentum in the final months of 2021 and at the start of 2022. High frequency data gauging consumption of services (e.g. Google Mobility data for visits to retail and recreation) dropped in the final weeks of 2021 and in the first weeks of 2022 (see graph), while the services sector PMI and consumer sentiment fell in December. The rapid spread of the Omicron variant has resulted in new social distancing measures in a large number of countries, partial lockdowns (e.g. lockdowns for the non-vaccinated) in others, and even a total lockdown in the Netherlands. Services sector activity will likely remain depressed in the first few months of 2022. The slowdown in services activity is expected to be largely compensated by growth in industry, as indictors for activity in the eurozone industrial sector suggest ongoing robust growth in Q4 and Q1. Nevertheless, global supply side disruptions have remained an impediment to industrial production, particularly in the vehicle industry. For instance, output in Germany’s vehicle sector, which is seriously limited by shortages of materials and/or equipment, was about 25% below pre-pandemic levels by the end of 2021, whereas the gap for Germany’s total industry was around 6% lower, and the eurozone total was slightly above pre-pandemic levels.
All in all, we expect eurozone GDP to be roughly stagnant in 2021Q4 and to grow modestly in 2022Q1. We have lowered our earlier forecasts of 0.7% q/q for each quarter. However, we have simultaneously raised our forecasts for 2022 Q2-Q3, as we expect Omicron-related disturbances to services sector activity to wane in the course of 2022Q1, and global supply chain problems to gradually ease. We expect GDP growth to remain somewhat above the trend rate in the final quarter of this year and in 2023.
Inflation jumped higher in the final months of 2021, reaching 5.0% in December, up from 3.4% in September. The main reason for the rise was a further jump in energy price inflation (see graph), but food prices and core inflation also contributed. A further breakdown in components shows that services inflation has been boosted by a recovery in services related to holidays, which should normalise in the course of this year. Core goods price inflation seems to have been fuelled by rises in factory goods inflation, reflecting sharply higher commodity price inflation and supply-chain bottlenecks. We have raised our forecast for inflation in the first half of 2022, mainly because we expect the rise in global goods prices to be more persistent than we estimated previously. Still, inflation should decline in the second half of this year, and will probably fall to below the ECB target of 2% in the final months of 2022, when base effects will result in a sharp decline in energy inflation and the impact of supply bottlenecks will have eased. At the same time, wage growth at the eurozone level is still subdued, and should be largely compensated by rises in labour productivity.
