Euro zone economy shows resilience as second-quarter GDP beats expectation, inflation slips

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Euro zone inflation fell in July, and new growth figures showed economic activity picking up in the second quarter of this year — but economists still fear a recession could be in the cards.

Headline inflation in the euro area was 5.3% in July, according to preliminary data released Monday, lower than the 5.5% registered in June. This remains well above the European Central Bank’s 2% target for the bloc.

Core inflation — which excludes volatile food and energy prices — remained unchanged at 5.5% in July, which Andrew Kenningham, chief Europe economist at Capital Economics, said would be a “disappointment for policymakers.”

The euro area has been battling high inflation for the past year, leading the ECB to undergo a full year of consecutive rate hikes in an effort to bring prices down. Last week, the central bank rose rates by a quarter percentage point once again, bringing its main interest rate to 3.75%.

Initially, much of the price pressures in the euro area were coming from high energy costs, but in recent months food prices have contributed the most. This month, food, alcohol and tobacco once again drove inflation — prices rose by 10.8% in July, in a hike that was nevertheless lower than in previous months.

GDP beats expectations

The inflation figures come against a backdrop of previously moribund growth, with GDP (gross domestic product) stagnating in the first quarter of this year. But a separate data release on Monday showed that growth accelerated in the second quarter, expanding by 0.3% — higher than the 0.2% expected by analysts polled by Reuters.

However, Capital Economics’ Kenningham attributed the second-quarter GDP number to one-off increases in France and Ireland, which he said “give a misleading impression of the underlying strength of the economy.”

“[It] does not change our view that the economy is heading for recession,” he wrote in a note after the release of the data.

“Excluding [France and Ireland] GDP growth would have been only 0.04% q/q, or zero to one decimal place! As these factors are unlikely to be repeated in the coming quarters and the impact of monetary policy tightening is still intensifying, we think euro-zone GDP will contract in the second half of the year.”

The economies of both France and Ireland proved relatively resilient in the second quarter, with the former posting a GDP rate of 0.5%, while the latter expanded by 3.3%.

ING’s Senior Euro Zone Economist Bert Colijn noted Ireland as an outlier.

“Without Ireland, growth would have been halved. Looking through the most volatile components, we argue that the economy has remained broadly stagnant,” Colijn said in a note. “Judging by the survey data we have so far on the third quarter, the risks are to the downside for the coming quarters.”

Spain also fared well, growing by 0.4%. Germany, however, proved weaker over the same three-month period, failing to post any growth.