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EU Avoides Recession, Policy Hangs on Upcoming Inflation

Stavros Tousios | Wednesday 31 January 2024

The eurozone economy barely avoided falling into recession in Q4 of 2023, with GDP flatlining at 0.1% compared to Q4 of 2022. While this was slightly better than economists' forecasts, the overall outlook for the area remains gloomy. 

The EURUSD (EUR/USD)  currency pair rose on the back of the data, up 0.11% on Tuesday, January 30. This came despite investors starting to price in that Europe's central bank, ECB, will begin cutting interest rates as soon as April. However, the upside was limited due to the gloomier economic outlook.

Economic stagnation within European economies is expected to exert pressure on the ECB to cut interest rates in order to stimulate growth. The data showed the region's economy had been impacted by higher interest rates and high living costs, amongst other things, calling for ECB action.

Image of the EU flag

Looking Under the Hood

The eurozone economy grew only 0.1% from Q4 2022 to Q4 2023, driven primarily by net exports. This followed two consecutive quarters of flat growth, causing stagnation. The quarterly release showed that Europe's economy expanded by only 0.5% for the year. (Source: CNBC)

There was a mixed picture across the Eurozone overall, though. Germany's economy contracted by 0.3%, putting the country on the brink of a recession, while France saw no growth for a second consecutive quarter. However, Italy and Spain posted stronger growth, with Italy growing 0.2% and Spain expanding 0.6%. In addition, the Portuguese economy grew by 2.2% year-on-year to end 2023 at 2.3%. This came as a surprise to many, given that economists expected 1.2% and 2% in comparison.

Several factors have weighed on the eurozone economy, including elevated energy costs, weak demand, and the ECB's aggressive hiking action in the face of higher inflation. Moreover, wage growth has been slow, damaging consumers' purchasing power and harming consumption. Rising production costs from increased energy prices have also squeezed companies' margins. 

What Could the GDP Data Mean For the ECB?

While some expect the ECB to start cutting interest rates in 2024 in order to provide businesses and consumers with some sort of relief, many analysts call for sooner rate cuts to support growth. The disappointing GDP figures support the case for earlier rate cuts, possibly as soon as April. However, the ECB will likely proceed cautiously to avoid any mistakes that could put inflation back on track to reaccelerate. 

In fact, the bank believes that the eurozone economy will remain weak in the near term but will pick up later in the year. Although some economists see a few signs of an immediate recovery, they do expect a material improvement in the latter part of the year. 

Inflation pressures in the Eurozone may be easing, but with weak economic growth, there is a need for ECB stimulus through interest rate cuts. However,  the ECB plans to keep its restrictive monetary policy in place for some time as it seems little concerned about the threat of recession. Upcoming inflation data on Thursday, February 1, may provide some clues as to the rough timing of a potential rate cut.

Upcoming Inflation Likely to Impact ECB Stance

The ECB left interest rates unchanged at its first 2024 meeting last week but emphasised that it will take a data-dependent approach. The bank also stated that rate cuts are possible but only after June, depending on inflation and growth data. While inflation fell to 2.9% compared to a 3% expectation in November, some policymakers do not seem to back rate cuts, saying that core inflation remains elevated and arguing that current ECB rates of 4% are not yet restrictive. However, other policymakers have taken on a more dovish approach.

Despite consumer and business confidence improving and inflation falling as interest rate cut expectations rise, wage growth remains strong. This could keep inflation pressures real. Expectations also show that inflation is forecast to fall at a slower pace in 2024 due to upward base effects and the phasing out of fiscal measures that aimed to detain the impact of higher energy prices.

The inflation rate in December increased to 2.9% compared to November's 2.4% print, driven by base effects in energy prices. The core inflation rate, which excludes volatile food and energy prices, fell to 3.4% in December 2023, but that was in line with economists' estimates. In addition, according to data released by the INE, inflation in Spain rose to 3.4% in January from 3.1% in December just recently.

Outlook For the Eurozone Economy

Analysts remain cautious of ongoing weakness in 2024 due to the energy shock, lack of fiscal stimulus, and the impact of higher interest rates. However, some economists expect the economy to pick up slightly, supported by high but falling inflation, continued wage growth, and a strong labour market. One of the major areas of focus will be whether governments decide to withdraw subsidies, as it could weigh on growth.

In addition, some economic indicators show slowing growth bottoming out while confirming real wage growth recovery. This may manifest in higher consumer spending and investments. While no major growth pickup is expected in the first quarter of 2024, analysts see the Eurozone economy to at least improve later in the year.

Meanwhile, the IMF raised its global growth forecast for 2024 to 3.1% but downgraded Europe's outlook slightly due to weaker growth, high exposure to the Ukraine war, and risks of commodity price spikes from geopolitical shocks.


While the Eurozone printed a slightly better GDP figure than expected and avoided recession, the overall outlook for the region remains gloomy. Despite the ECB's expectation to start cutting interest rates in 2024 to stimulate growth, some analysts argue for earlier rate cuts, possibly as soon as April. But the bank does not plan to start cutting rates before June unless forthcoming inflation and growth data call for action. Investors may want to focus on upcoming data for clues about the ECB's stance, with a keen eye on geopolitics.

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