Euro area outlook looks glum through 2023

The last year was tough for Europe as the Russia-Ukraine war escalated energy prices significantly, but growth stayed robust despite this. Nomura says that this situation will turn around in 2023 as high energy bills bite into the disposable income of consumers, with the Euro area outlook turning negative for the coming quarters.

The ongoing business uncertainty and the rise in input costs have dented profits, with some firms in the euro area declaring bankruptcy. The Japanese financial holdings firm says it expects weak domestic demand and a general global downturn to hit trade hard. Nomura sees the euro strengthening again the dollar by the end of 2023, which could prove to be negative for exports, forecasting that trade activity will continue to decline until the second quarter of 2024.

“It is possible that in 2023 the war will reach a stalemate, and Europe could face a situation where gas supplies are permanently reduced,” writes George Buckley, Chief UK & Euro Area Economist, Nomura. While the region sustained the severe shortages of gas with the help of the US, the euro outlook going into 2023 will not be sustainable.

With China easing Covid restrictions, there is direct competition for securing US gas supplies. However, Nomura says that fiscal support during this crisis may help the region avoid a deep recession.

“Euro area headline HICP inflation doubled from around 5% y-o-y in January 2022 to over 10% in October and November. In January 2023, all of the euro area’s ‘big four’ countries are planning big changes to their energy prices, which will make inflation calculations even more complicated,” says Buckley, adding that peak inflation has been attained and Nomura expects it to fall over the next two years.

Separately, the financial holdings company expects the ECB to raise rates by another 50-basis point in both February and March 2023, after which the size of the hikes may become small with the interest rates peaking at 3.50%.

“Large-scale fiscal spending will continue to be a theme in 2023. Just as the euro area looked like it had recovered from the pandemic, it was hit by secondary energy shocks and governments mobilised borrowing once again to protect household budgets,” as per Andrzej Szczepaniak, Vice President, European Economist, at Nomura.

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