Eurozone's economic growth may slow in the third quarter; European Central Bank likely to stand pat this week

According to Zhihui Finance APP, the weakening momentum of economic growth may be one of the reasons for the European Central Bank to temporarily pause its rate hikes. Although most of the focus in the eurozone is currently on France's fiscal difficulties and bond market issues, the latest surveys indicate that data to be released this Friday will show that the eurozone's third-quarter economic growth is likely to slow from 0.6% in the second quarter to 0.2%. Meanwhile, several other surveys show that inflation rates in the four largest eurozone economies did not exhibit a clear upward trend in October.

Eurozone economic growth is expected to slow in the third quarter

Since the outbreak of the Middle East conflict at the end of February, the European economy, which has shown considerable resilience, may now be starting to lose momentum, and business activity is showing signs of fatigue. Although overall performance remains decent, Bloomberg Economics' chief eurozone economist Simona Delle Chiaie believes there is still reason for caution in the market. She stated: "The bigger question is what happens next. With inflation remaining high and financial conditions tightening sharply, downside risks to economic growth are continually accumulating."

During the third quarter, European economic output was hit by several factors, including summer heatwaves, low water levels in major waterways, and the surge in global bond yields. Since then, the overall environment has further deteriorated, with France experiencing large-scale protests, and increasing concerns about its public finances.

With France's private sector contracting in October, Carrefour SA warned that nationwide looting would weigh heavily on its results. The supermarket operator’s stock had its worst week since the global financial crisis.

As the largest economy in the eurozone, Germany has shown some improvement after years of difficulties, thanks to large-scale government spending. Even so, the Bundesbank still expects that the German economy may stagnate in the third quarter.

On inflation, the eurozone’s inflation rate is almost certain to rise to 4% by the end of this year, but the data from each country this month is somewhat divergent. This is partly attributed to Germany’s fuel tax relief policy, but analysts also expect Spain’s inflation data to decline.

Eurozone inflation performance will diverge

According to Eurostat, the eurozone’s inflation rate rose to 3.8% in September, up from 3.2% in August; energy prices rose by 18.8% year-on-year, becoming a major factor driving up inflation. In response to rising energy prices, many European governments have implemented measures such as reducing fuel taxes, intervening in energy prices, and providing subsidies to households and businesses. However, subsidies can only alleviate short-term burdens and cannot remove the root cause of rising energy prices.

The surge in energy prices triggered by the Middle East conflict is putting pressure on eurozone inflation. However, policymakers emphasize that they have not yet seen second-round effects such as wage growth. Some officials, including ECB Chief Economist Philip Lane, have said that adopting a "measured" policy response should be sufficient to restore price stability.

ECB President Christine Lagarde previously stated that the high inflation in the eurozone driven by elevated energy prices has not yet spread to the broader economy. She said ECB officials are assessing "how much of the indirect effects are being transmitted through the economy, and if the second-round effects start to appear, how we can best anticipate them."

Banque de France Governor Emmanuel Moulin has adopted a stance on inflation similar to that of Lagarde. He stated that the ECB expects "indirect effects and second-round effects to remain contained," and that core eurozone price indicators would only accelerate "moderately."

Slowing economic growth and the lack of worsening inflation pressures may reduce the urgency for ECB action. For economists, this means that the ECB may wait until December to raise the deposit facility rate for the third and final time, rather than hiking it at this week's meeting. At this week's meeting, the ECB is expected to keep the deposit facility rate unchanged at 2.5%.

Divergence in Institutional Views

Some institutions remain optimistic about economic growth. BNP Paribas believes that, after excluding the more volatile Irish economic data, the European economy maintained its resilience in the third quarter, partly due to low unemployment rates.

However, Morgan Stanley’s Chief Europe Economist Jens Eisenschmidt believes risks are gradually accumulating. He listed energy shortages as one of the possible risks ahead. He stated: "In the short term, there seems to be no quick solution to the energy crisis. Given Germany's low natural gas reserves, if winter temperatures are cold, we may even have to consider the risk of energy rationing."

The bond market is also a factor to consider. In France alone, the yield premium required by investors for holding French 10-year government bonds over German ones of the same maturity has risen to levels not seen since the European debt crisis.

ECB President Christine Lagarde said this month that since the September meeting, bond yields have "significantly" increased. This change will drag on economic growth and reduce the extent to which high energy costs are transmitted to the broader economy. While denying various comments about a debt crisis, Bank of Italy Governor Fabio Panetta still acknowledged last Thursday that the current situation will "drag" on economic growth.

Bank of America believes that, considering all these factors, ECB policymakers will want to signal a more dovish stance at the upcoming meeting compared to that in September. A team of BofA economists led by Ruben Segura-Cayuela stated: "Financial conditions remain tight and are likely to tighten further; spreads continue to widen, and the political situation in France has intensified these pressures." They pointed out that the ECB "needs to pay more attention to the impact of current developments on economic growth than recently."