Manufacturing reaches a four-and-a-half-year high and exports return to growth, strengthening the case that Europe may be emerging from its prolonged industrial slump even as inflation keeps pressure on the ECB.
The eurozone economy is showing unexpectedly strong signs of revival, with new business surveys pointing to improving manufacturing activity, recovering exports and a tentative return of hiring across the currency bloc. The brighter economic picture comes at a sensitive moment for the European Central Bank, which must decide whether resilient growth gives it sufficient room to tighten monetary policy further as inflation remains above target.
Preliminary Purchasing Managers’ Index data released on August 21 showed that private-sector activity across the euro area expanded at its fastest pace since November. The HCOB Flash Eurozone Composite PMI rose to 52.1 in August from 52.0 in July, remaining comfortably above the 50-point level separating expansion from contraction.
More significant than the relatively modest movement in the headline figure was the increasingly broad nature of the recovery. Eurozone manufacturing, one of the weakest parts of the European economy in recent years, recorded its strongest performance in more than four years. The manufacturing PMI climbed to 52.8, its highest level in 54 months, while manufacturing output strengthened further.
New orders also accelerated at their fastest pace in more than three years. Particularly striking was the return of foreign demand: export orders increased for the first time since early 2022, potentially signalling that European manufacturers are beginning to regain momentum after years of weak global demand, expensive energy and intense competition from China and other Asian industrial economies.
For Germany, where industrial weakness has weighed heavily on the wider European economy, the improvement is especially important. German activity expanded modestly as its manufacturing sector strengthened, providing evidence that the eurozone’s largest economy may finally be moving beyond the prolonged industrial stagnation that followed the energy crisis and disruption of trade with Russia.
France offered a more complicated picture. Activity there continued to decline, with services particularly affected by the extreme summer heat. The divergence underscores how uneven Europe’s recovery remains and suggests that the stronger eurozone numbers should not yet be interpreted as the beginning of a uniformly robust expansion.
The labour market nevertheless provided another encouraging signal. Employment across the euro area increased for the first time this year as manufacturers resumed hiring and employment growth in services accelerated. Rising employment combined with stronger orders could reinforce domestic demand in the months ahead, potentially giving businesses greater confidence to invest after an extended period of caution.
Yet the improving growth outlook creates a new challenge for the European Central Bank.
Inflation rose to 2.9% in July, up from 2.8% in June, leaving consumer-price growth well above the ECB’s 2% medium-term target. Energy prices remain one of the principal risks following the Middle East conflict and its impact on global oil markets. The ECB has repeatedly warned that the full consequences of the energy shock may still feed through into the cost of goods and services.
The central bank raised interest rates by 25 basis points in June but left them unchanged at its July meeting, keeping the deposit rate at 2.25%. Policymakers stressed that future decisions would depend on incoming economic and inflation data rather than a predetermined interest-rate path.
The latest economic figures could strengthen arguments in favour of another increase. A central bank is generally more comfortable tightening policy when economic activity and employment are expanding, because the risk of triggering a recession is smaller. Reuters reported that economists increasingly expect another ECB rate increase in September as policymakers seek to prevent the recent energy-driven inflation shock from becoming embedded in broader prices and wages.
There are also encouraging signs on the inflation front. Businesses responding to the August PMI survey reported that both input-cost and selling-price pressures were easing. Output-price inflation fell to a five-month low and cost growth slowed to its weakest level in six months, suggesting that stronger economic activity is not yet producing a renewed surge in underlying inflation.
For investors, the combination is potentially significant. Europe has spent much of the past several years struggling with weak industrial production, high energy costs and subdued investment while the United States benefited from stronger growth and massive technology spending. A sustained recovery in European manufacturing and exports could begin to narrow that divergence.
European financial markets have already demonstrated considerable resilience. The STOXX 600 has remained close to record territory despite geopolitical instability and elevated energy prices, while European equities have attracted renewed international investment. The euro has also strengthened from its earlier summer lows as investors reassess the relative prospects for European growth and monetary policy.
The central question is whether August’s improvement represents the beginning of a durable industrial recovery or merely a temporary rebound.
Business confidence remains subdued, geopolitical tensions continue to threaten energy supplies and inflation remains uncomfortably high. Europe also faces structural challenges ranging from weak productivity growth to Chinese industrial competition and relatively subdued investment in emerging technologies.
But the latest numbers offer something Europe has lacked for much of the past several years: simultaneous signs of stronger factories, recovering exports, rising orders and renewed hiring.
If those trends survive into the autumn, the debate surrounding the eurozone economy may begin to change—from how Europe can avoid stagnation to how policymakers can manage a recovery without allowing inflation to return.
