Euro zone’s services sector may slow further, ECB says

Euro zone services activity could weaken further in the coming quarters due to rising interest rates but the impact on the sector may be more muted than on manufacturing, a European Central Bank study concluded on Tuesday.

The currency bloc’s manufacturing sector had been in recession for most of 2023, partly due to rapid ECB rate hikes, which were part of the central bank’s efforts to contain runaway inflation.

But demand for services remained relatively robust, boosting overall growth and puzzling some.

This may change, however, as services activity tends to mirror manufacturing with a two-quarter lag, the ECB concluded.

“The dynamics in manufacturing contain information relevant to the near-term dynamics in services, and thus for the rest of the economy,” the ECB said in an Economic Bulletin article. “Manufacturing appears to lead services… whereas no clear leading relation can be established in the other direction.”

The ECB raised interest rates from deep in negative territory to a record high 4% in just over a year as an unexpected surge in inflation reverberated through the economy, pushing up costs for everything from energy and foods to services.

Capital intensive industry responded quickly, as early as the third quarter of 2022, even when services seemed resilient.

Still, the ECB also noted that the overall impact of the downturn on services is likely to be smaller.

“Monetary policy shocks have an impact on manufacturing that is almost twice as strong and around two quarters faster than their impact on services,” the bank added.