The euro zone’s dominant service sector declined far more than thought in August, with the slide in Germany particularly fast and some inflationary pressures returning, surveys showed. Wednesday’s purchasing managers’ indexes complicate matters for the European Central Bank, which wants to control still rampant price rises without causing a recession.
The Flash Eurozone Services PMI slumped to 49.1 in August, the lowest since November 2020 and well below a preliminary reading 48.1. That matched the weakness in manufacturing, which posted its weakest reading since June 2020.
A drop in new business was partly due to higher interest rates, customer uncertainty, and a continuing rise in prices, which put off customers, the Hamburg Commercial Bank and S&P Global survey said. The services output price index, which tracks how much firms charge for their goods and services, remained elevated but slowed to its lowest level since March 2022.
New orders sank, indicating that firms focused on completing existing work rather than taking on new contracts. The survey also suggested that employment in the service sector fell for a third month. That was partly due to the high wage costs, the survey said. The rate of job creation was also the lowest since June 2020 and weighed on confidence about the future.
The decline in service activity was primarily driven by a slowdown in Germany, Europe’s biggest economy, which is on course for its worst quarter of growth since the pandemic began. Demand for services was also weak in France, the bloc’s second-biggest economy. The PMI data bolstered speculation that the ECB will delay raising interest rates again next year.
However, a sharp increase in price pressures — which saw consumer inflation reach 5.3 percent in July — could force the ECB to act at its September meeting. “The hawks on the ECB board will probably be tempted to push for one more hike this year as wage pressures are now translating into elevated inflation in services,” ING senior eurozone economist Bert Colijn said.
Inflation is far above the ECB’s target of just under two percent. It threatens to derail a recovery delayed by strict COVID-19 lockdowns in China, Russia’s invasion of Ukraine, and a global slump in commodity prices. The ECB is also battling weakening growth and low unemployment, which it has sought to address by raising bond purchases.
Traders have firmed up bets that the ECB will pause interest rate hikes in September. Investors now see a just under 50% chance of a 25 basis point rate hike at the September meeting, down from more than 60% only on Tuesday.
The ECB’s most aggressive policy tightening cycle has lifted rates from record lows. The monetary authority is concerned that it may cause an unwanted economic contraction while the recovery is too fragile to cope with another steep interest rate rise. The central bank’s goal is to bring inflation back down to 2% and then to lift rates slowly towards their target of just below 3%.
