Expect one final hike as euro area enters recession: PGIM Fixed Income

by | Jun 12, 2023

By Katharine Neiss, chief European economist at PGIM Fixed Income

Following a series of upside surprises in euro area economic activity coming out of the winter, the Q1 GDP growth figure has been revised down into negative territory.

Given the contraction in economic activity in the final quarter of 2022, this puts the euro area in a technical recession, with two consecutive quarters of contraction.

The GDP breakdown confirms the picture of weak domestic demand in the region. Pretty much every component of GDP was weak, with the exception of the external balance. But even this flatters to deceive, because euro area exports contracted, so the only reason external demand – the difference between exports and imports – contributed positively was because imports were even weaker. This is entirely consistent with a picture of both weak domestic demand and a slowing global economy.

The weaker picture supports the ECB’s step down in the pace of interest rate rises at its last policy meeting, from 50bps to 25bps. It suggests too the ECB is perhaps closer to ‘peak rate’ than markets currently expect. Our view remains the ECB will likely raise interest rates at its next meeting by a further 25bps, taking the deposit facility rate to 3.5%. Thereafter, if signs of slowing economic activity gather pace, we would not be surprised to see the ECB pause its rate hiking cycle, with rates higher-for-longer as inflation gradually falls back towards the 2% target.

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