Eurozone emerges from technical recession; disinflation on track

Q1 expansion ends 5 quarter stagnation streak

Eurozone GDP growth came in at 0.3% qoq in 2024Q1, stronger than our and consensus expectations for a more modest 0.1% rise. Today’s upward surprise comes after a 5 quarter period in which the bloc’s economy stagnated. We only have details for some individual countries, but based on this and monthly aggregate data the strength was probably driven by net exports, services consumption (partly due to the earlier timing of easter), and stronger construction activity due to the mild winter. Looking ahead, we expect GDP growth be somewhat weaker again in Q2 as some of the temporary supports for activity unwind, but we continue to expect a more sustained recovery in the second half of this year, supported by rising real incomes and easier financial conditions.

Alongside the Q1 data, Eurostat also revised lower its estimate of Q4 23 GDP to -0.1% from 0% previously, primarily due to a downgrade of activity in Germany. This meant that the Eurozone was in a technical recession in the second half of 2023.

Periphery continues to outperform core

Today’s GDP figures show economic activity in peripheral countries continued to outperformed that of the core. Looking at PMIs over the past few months, this outperformance has been broad-based, both in manufacturing as well as services. With that said, the gap has recently narrowed on the back of improved services activity in core countries.

The underperformance of core countries comes as industry and export-dependent countries such as Germany have borne the brunt of the manufacturing slump, while peripheral countries have benefited from tourism spending, with easter falling in March likely providing an extra impulse, as well as support from the EU’s Recovery and Resilience Facility (RRF).

Germany beats expectations but is not out of the woods yet

German Q1 GDP beat expectations, expanding 0.2% qoq (consensus 0.1 qoq) after contracting by 0.5% qoq in the last quarter of 2023. Last week’s nowcast from the Bundesbank, which takes into account recent monthly activity data, already signalled an upside surprise was possible. Looking at the components, Destatis pointed to investment, particularly in construction, as well as rising exports as the main drivers of GDP growth. By contrast, household consumption contracted on the back of still weak consumer confidence, a tightening federal fiscal stance and the pass-through of high interest rates.

Today’s upward surprise was accompanied by minor positive backward revisions. While Q4 GDP was downwardly revised to show a sharper contraction of -0.5% q/q (previously -0.3%), for 2023 as a whole the economy is now estimated to have stagnated rather than contracted (i.e. annual average growth was revised up to 0% from -0.1% previously). Overall, the German economy is tentatively emerging from its recent stagnation but is not out of the woods yet. Cyclical headwinds may ease, but structural headwinds, such as the loss of competitiveness from (among others) higher energy costs, are still expected to hamper growth over the course of 2024.

Easing core inflation paves way for ECB to cut rates in June

The April flash estimate for eurozone HICP inflation came in line with our and consensus expectations at 2.4% y/y, the same as the March reading, while core inflation edged down further to 2.7% from 2.9%, also in line with our expectations but slightly above the consensus estimate for a larger decline to 2.6%. Core inflation continues to run at the slowest pace since just before the Russian invasion of Ukraine.

On the ECB’s seasonally-adjusted measure, headline HICP rose 0.2% m/m, while core rose just 0.1% – a continued relatively benign rate of price growth. The details showed that energy and goods inflation continued to be a drag on inflation, with goods prices falling -0.2% m/m, and annual goods inflation falling to just 0.9% y/y – the lowest since July 2021. Services inflation cooled on a monthly basis to 0.3% m/m from upwardly revised 0.5% readings in February and March, declining in annual terms to 3.7% following five months straight of persistent 4% readings. The cooling in services inflation partly reflects the earlier timing of Easter this year, and base effects are likely to push services inflation somewhat higher again on an annual basis over the coming months. However, big picture, we judge that disinflation in the eurozone remains on track, with services inflation expected to moderate further on a monthly basis over the coming months. Moderating services inflation will be supported further falls in wage growth, with the Indeed monthly tracker falling to a 2-year low of 3.3% in March.

Overall, while the surprise to GDP growth suggests the economy is beginning to recover, the cooling in inflation is likely to be sufficient for the ECB to press ahead with its first rate cut at the June Governing Council meeting. For more, see also our eurozone monthly update here.