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Investor confidence about the Eurozone and German economies has collapsed in August, boosting the case for another interest rate cut by the European Central Bank next month.
The ZEW Indicator of Economic Sentiment for the Eurozone fell 25.8 points to 17.9 — the biggest drop since the early months of the Covid-19 pandemic in April 2020.
Germany, the Eurozone’s largest economy, suffered its worst fall in economic sentiment in two years. The ZEW index fell 22.6 points in a month to reach 19.2 — its lowest level since the start of the year. The fall was almost three times as big as expected by analysts polled by Bloomberg.
“The economic outlook for Germany is breaking down,” said ZEW president Achim Wambach, adding that “high uncertainty” caused by the ECB’s “ambiguous monetary policy”, disappointing US business data and growing concerns over an escalation of the conflict in the Middle East were all dragging down economic sentiment.
Alexander Valentin, senior economist at Oxford Economics, said weaker investor morale provided “further arguments for an ECB rate cut in September followed by another cut at the end of the year”. A weakening growth outlook, feeble industrial activity and a softening labour market “will make it harder for the ECB to maintain its hawkish bias”, he added.
German bonds edged up higher on Tuesday after the survey was published. The 2-year German government bond yield, which is particularly sensitive to interest rates, fell 0.04 percentage points to 2.36 per cent. The yield on the 10-year bond dropped 0.02 percentage points to 2.21 per cent. Yields move inversely to prices.
Investors, who expect ECB rate-setters to lower borrowing costs when they gather on September 12, have priced in a slightly greater probability of a further cut at its mid-October meeting.
Optimism over a German recovery that was widespread in spring had “completely evaporated”, said Deutsche Bank’s chief Germany economist Robin Winkler. Germany’s gross domestic product unexpectedly shrank by 0.1 per cent in the second quarter.
According to Tomasz Wieladek, chief European economist at T Rowe Price, the sharp drops in the ZEW index partly reflected the recent huge swings in global equity markets as well as concerns over the economic outlook.
“There is a risk that GDP growth in Germany shrinks this year,” he wrote in a note to clients, adding that Europe’s largest economy could even find itself trapped in a “self-fulfilling loop where weaker expectations lead to weaker growth”.
Wieladek said the ECB would look through the gloomy expectation for now but “will likely act if growth weakness shows up in actual GDP data”.
After the last ECB rate-setting meeting before the summer break in July, President Christine Lagarde said a decision on rates in September was “wide open” and that the central bank will base its move on new data that will become available over the summer.
“If that data actually confirms the disinflationary process that is at work in the moment, it will reinforce our confidence in returning consumer price growth to the 2 per cent goal in late 2025.”
The ECB kept borrowing costs at 3.75 per cent at its July meeting after cutting rates from a record 4 per cent the previous month.
ZEW, a Mannheim-based economic think-tank in Mannheim, polls up to 300 financial analysts at German banks, insurance groups and finance departments of leading companies about their assessment of current economic activity and their future sentiment. The index is seen as a reliable early indicator of macroeconomic trends.
Additional reporting by Emily Herbert in London
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