Despite the bounce in manufacturing PMI new orders over recent months European industry had a grim start to 2024. January euro area industrial production fell 3.2% m/m after an erratically strong 1.6% rise in December. Production is now almost 8% below its post-pandemic highs in September 2022. (US production is down 1% over the same period). . Some of January’s weakness was erratic. Extraordinary weakness (after extraordinary strength the month before) was concentrated in the capital goods sector and the Netherlands and Ireland. So we do expect a partial reversal in February.
Still, as our adjusted measure of euro area industrial production (where we smooth output in the volatile capital goods sector) shows, the trend is still unambiguously downwards. Auto production - usually a good bellwether for manufacturing - fell very sharply is January to levels last seen 15 years ago, mid-way during the initial recovery from the GFC. Here too there is likely to be a bounce of sorts over the next two months but without any sense that underlying demand is set for a big revival. (Worth noting that in the equity market the auto sector fell sharply in January but reversed sharply higher in February).
On the demand side, domestic goods demand has been stagnant and external demand has been falling gently but steadily: real exports have been contracting steadily for much of the last two years with exports to China and the rest of Asia particularly weak.
Looking forward, we expect underlying production to more or less stabilise at these low levels rather than to rebound sharply in the months ahead.
First, as we discussed last week, as long as the euro area labour market remains resilient there is scope for domestic goods demand to improve. Falling services inflation should free up real disposable income to be spent on goods. And if, as seems increasingly likely, the ECB starts to ease monetary policy in June, then some of the monetary headwinds against domestic demand should soften. Secondly, we think the drag from exports to China/Asia should ease somewhat as Beijing takes further incremental steps to support growth and keep the 5% GDP target within reach. And third, of course, mPMI new orders for the euro zone have jumped from 39 to 46 over the past 4/5 months, albeit with Germany lagging well behind the rest of Europe. the most recent readings from the German Truck Toll index are for early march, and also suggest stabilisation.
So January’s exceptionally weak data could well mark a low point in production. Volatility and slightly less poor fundamentals should keep output from plumbing deeper lows. Arithmetically that will mean that euro area industrial production momentum becomes less negative over the next three to six months and may even turn positive. But this looks like a stabilisation at weak levels, not a sector primed for sharp recovery.