Europe’s bumper economic growth is already buckling under the weight of record-breaking inflation and the increasing likelihood of a Russian energy cutoff.
Second-quarter output in the 19-member euro zone surged by more than three times the amount analysts expected, with Italy, Spain and France topping estimates by some distance.
But Friday’s data also underlined the challenges: There were contractions for Portugal and the Baltic region, while Germany, the continent’s No. 1 economy, unexpectedly stagnated and may be headed for a recession. Euro-area consumer prices hit a fresh all-time high.
Surging energy costs cause recessions because they are a tax on consumption. That’s particularly relevant for Europe, where dependence on Russian gas is a major medium-term issue. The continued uncertainty about Chinese demand for European exports is an additional challenge for the region and suggests the risk of a deep recession is the base case.
Bund yields are coming down quickly as they unwind the overextension relative to the trend mean. A clear upward dynamic will be required to check momentum. This compression is rapidly pricing in economic contraction and falling demand.
The Euro STOXX Index is firming in the region of the upper side of the 2015-2020 range. That’s been supported by the weakness of the currency. The biggest challenge is the case for a sustained rebound is predicated on a positive outcome for Europe amid its energy crisis. That’s a less than favourable outlook.