The euro zone witnessed a marginal improvement in its business activity in December, signaling a potential slowdown in the economic decline that has persisted throughout 2024. According to the HCOB Preliminary Composite Purchasing Managers’ Index (PMI), compiled by S&P Global, the index rose to 49.5 in December from November’s 48.3, nearing the critical 50-point threshold that demarcates expansion from contraction.

This slight rebound, driven largely by the recovery of the services sector, offers a glimmer of hope as the year ends. However, persistent challenges in the manufacturing industry indicate that the road to sustainable growth remains arduous.

Services Sector Leads the Recovery

One of the standout findings in December’s PMI data was the resurgence of the services sector. The services PMI climbed to 51.4, up from 49.5 in November, surpassing analysts’ expectations for a static performance. This marks the sector’s return to growth territory, reflecting a rebound in consumer-facing activities such as hospitality, travel, and retail.

Cyrus de la Rubia, Chief Economist at Hamburg Commercial Bank, highlighted this sector’s significance, noting that its growth mirrors the levels observed in September and October. “Service sector activity is showing a noticeable pace of expansion, which has been crucial in softening the overall economic downturn,” de la Rubia said.

Despite this positive trend, optimism within the services sector remains tempered. Firms kept their employment levels largely unchanged, as indicated by the services employment index, which slipped slightly to 50.1 from 51.0 in November. This suggests businesses are cautious about future demand despite the recent uptick in activity.

Manufacturing Industry Remains in Deep Contraction

In stark contrast, the manufacturing sector continues to face significant headwinds. The manufacturing PMI remained firmly in contraction territory at 45.2, unchanged from November and slightly below the forecasted 45.3.

Notably, the output index, a key indicator feeding into the composite PMI, dropped further to 44.5 from 45.1, signaling an acceleration in the decline of manufacturing activity. The sector has been in contraction since mid-2022, reflecting prolonged challenges such as high input costs, supply chain disruptions, and weakening global demand.

“The manufacturing sector’s situation is still pretty dire,” de la Rubia remarked. “Output fell at a quicker pace in December than at any other time this year, and incoming orders were down too.”

The new orders index, a measure of demand, slipped further to 43.0 from 43.4, underscoring continued weakness in both domestic and international markets.

Underlying Challenges Facing the Euro Zone Economy

The euro zone’s struggles are reflective of broader economic challenges plaguing the region. High energy costs, ongoing geopolitical tensions—particularly the war in Ukraine—and tightening monetary policies have weighed heavily on both consumer and business confidence.

The European Central Bank (ECB) has raised interest rates several times this year to combat inflation, which peaked earlier in 2024 but has since shown signs of moderation. However, these rate hikes have also increased borrowing costs, dampening investment and consumption.

In addition, the weakening global economy has curtailed demand for euro zone exports, compounding the difficulties faced by the manufacturing sector. Key export markets, including China and the United States, have grappled with their own economic slowdowns, further reducing demand for European goods.

Future Outlook: Cautious Optimism Emerges

Despite the challenges, there are signs of cautious optimism heading into 2025. The composite future outlook index, which measures sentiment about future business activity, rose to a four-month high of 57.8 in December from 56.1 in November.

This improvement reflects growing confidence among businesses that the worst of the economic downturn may be behind them. Contributing factors include the gradual easing of inflationary pressures, stabilization of energy prices, and the potential for improved global economic conditions.

Moreover, policymakers across the euro zone are expected to adopt measures to support economic growth. Several member states have already announced plans to increase public investment in green energy, digital infrastructure, and industrial innovation, which could provide a much-needed boost to the region’s economic prospects.

Sector-Specific Insights and Regional Variations

The rebound in services activity was not uniform across the euro zone. Countries with strong tourism and hospitality sectors, such as Spain and Italy, reported above-average growth, bolstered by a robust holiday season. In contrast, countries with a heavy reliance on manufacturing, such as Germany, continued to struggle amid subdued industrial output.

Inflation remains a key concern for businesses, particularly in the services sector, where rising labor costs have put upward pressure on prices. However, recent data suggests that overall price pressures are beginning to ease, providing some relief to both businesses and consumers.

Global Comparisons and Insights

The euro zone’s economic challenges mirror trends observed in other major economies. For example, the United States has also experienced a slowdown in manufacturing activity, though its services sector has shown greater resilience. Similarly, China’s economy has faced headwinds due to a real estate crisis and sluggish consumer spending.

In this context, the euro zone’s ability to stabilize its economy amid global uncertainties is noteworthy. The region’s focus on fiscal discipline and structural reforms, coupled with targeted investments in green and digital technologies, could position it for stronger growth in the medium to long term.

Conclusion: A Mixed but Improving Picture

The latest PMI data for the euro zone paints a mixed picture of the region’s economy. While the manufacturing sector remains in deep contraction, the recovery in services activity provides a silver lining. The slight improvement in the composite PMI to 49.5 suggests that the economic decline is easing, though challenges persist.

As the euro zone heads into 2025, policymakers and businesses alike will need to address underlying structural issues to ensure sustainable growth. Investments in innovation, energy transition, and workforce development will be critical in overcoming the region’s economic hurdles.

With cautious optimism emerging and key sectors showing resilience, the euro zone may be poised for a gradual recovery, though the pace and sustainability of this rebound remain uncertain. For now, the region’s economic trajectory will depend on its ability to navigate both domestic and global challenges effectively.

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photo source: Google

By: Montel Kamau

Serrari Financial Analyst

17th December, 2024