The PMI data from the euro area today shows a significant contrast. While the industry sector held up in April, albeit with a caveat, the services sector struggled due to softer demand conditions amid the fallout from the Middle East conflict. Higher energy prices is starting to bite at both the French and German economies and that is not a good early sign.
The caveat for the manufacturing sector performance owes to a surge in new orders on the month. And that is heavily linked to customers seeking to secure purchases amid
concerns over price rises and supply shortages. In essence, it is a case of demand frontloading as supply chains are set to become tighter in the near future. And the situation is not helped amid the continued disruption in the Strait of Hormuz.
Looking over to the inflation side of things, we’re starting to see price pressures ramp up across the region. In particular, input price inflation is surging upwards to its highest in three years. It largely stems from the manufacturing side of things, with the frontloading above at least helping to distract from the growing pain in this area.
As for the services sector, the shoot up is less profound but will present a bigger problem down the road. For now though, it seems that the price passthrough is not yet going to the end consumer. But the key question is, how long can businesses absorb this cost? And with already flagging demand conditions, the outlook isn’t pretty.
As seen above, input prices have jumped significantly in the manufacturing sector especially but is also climbing strongly in the services sector. On the latter, at least prices charged have not gone up all too much with France especially keeping things in check. HCOB notes that in the case of Europe’s second largest economy that:
“The passthrough to overall prices charged across
the private sector was contained, although inflationary
pressures did pick up in April. Services companies posted
only a marginal rise in charges, whereas output price
inflation across manufacturing jumped to a 38-month high.
The limited increase in services was the key reason keeping
overall selling price pressures contained.”
However, it wasn’t really the case in Germany:
“Businesses were more aggressive with their price setting in
April as they looked to pass on some of the burden of higher
costs to customers. The rates of inflation in services and
manufacturing output charges were the highest for 35 and
39 months, respectively.”
In any case, the trend is rather clear. And as things keep this way, it creates a big problem for the ECB.
While inflation pressures are being driven higher, the economic outlook is deteriorating. That creates a bad mix in the economy, with fears of stagflation pressures being more embedded in the region.
Adding to the struggling economic outlook is that we are likely to even see more widespread supply shortages down the road.
HCOB already noted that supplier lead times have lengthened to the largest extent since July 2022 in the manufacturing sector.
The German industry is the one that will be under heavy scrutiny here and firms are already reporting an eighth successive monthly
increase in average lead times on purchases in April. And that is very much tied to bottlenecks, capacity constraints, raw material
shortages, and disruption to transportation due to the Middle
East conflict.
It’s early days but the longer this relative uncertainty drags on, the more painful it will be for the euro area economy. And in turn, the bigger the headache will be for the ECB as they have to manage balancing out a weakening economy alongside surging price pressures.
