A cascade of weak economic data has intensified stagflation concerns across the eurozone, with business activity contracting sharply in April even as inflation accelerates on the back of surging energy costs tied to the Middle East conflict.
Services Sector Slumps to Five-Year Low
The final S&P Global Eurozone Services PMI fell to 47.6 in April, revised slightly up from a flash reading of 47.4 but still marking a 62-month low and the sector’s first move into contraction territory since late 2024. The composite PMI, which tracks both manufacturing and services, dropped to 48.8 from 50.7 in March — a 17-month low that S&P Global said signals a quarterly GDP decline of around 0.1%.
The services slump overwhelmed a modest bright spot in manufacturing, where the PMI rose to 52.2 amid stockpiling activity, though input price inflation hit a 46-month high as energy and shipping costs surged. Construction activity deteriorated further, with the sector’s PMI falling to 41.7 in April from 44.6 in March — the sharpest contraction in 20 months — as cost burdens reached their highest since October 2022.
Consumers Pull Back as Inflation Bites
Eurostat data released Wednesday showed eurozone retail sales declined 0.1% month-on-month in March, following a revised 0.3% drop in February. While the figure beat the consensus forecast of a 0.3% decline, it marks three consecutive months of flat or falling consumer spending. On an annual basis, retail volumes grew just 1.2%, the weakest pace since mid-2024.
The consumer weakness comes as headline inflation jumped to 3.0% in April, driven by energy prices linked to the ongoing standoff over the Strait of Hormuz. The ECB held its deposit rate at 2% at its April meeting for a seventh consecutive time, acknowledging that “upside risks to inflation and downside risks to growth have intensified”.
ECB Trapped Between Weak Growth and Rising Prices
BNY analysts warned this week that the combination of falling output and elevated price pressures constitutes “a classic stagflation signal,” complicating the ECB’s policy path. Markets are now pricing in nearly three rate hikes this year, with a June increase seen as almost certain.
Professional forecasters surveyed by the ECB revised their 2026 inflation expectations sharply upward to 2.7% from 1.8% in the previous round, while simultaneously lowering growth projections. MUFG Research expects the ECB and Bank of England to each raise rates by 50 basis points this year, noting that “the argument for patience will become less tenable unless energy costs retrace quickly”.
Core inflation easing to 2.2% in April from 2.3% offers some comfort that second-round effects have not yet taken hold. But with Brent crude near $110 a barrel, approaching the ECB’s adverse stress-test scenario, the central bank faces the unenviable prospect of tightening into weakness.
