COVID-19 has been a major headwind for the eurozone economy since early 2020. Fortunately, the link between activity and the virus appears to have been broken by vaccines.
After a shaky start to 2021, the improving health situation accompanied with easing of containment measures have put the bloc’s economies back into motion, leading to a strong rebound in growth and employment.
As we turn into the new year, the region’s growth momentum is expected to moderate, but will not be weak by historical standards. Real GDP for the euro area is anticipated to grow by over 3% in 2022, putting output only slightly below its pre-pandemic trajectory. Our baseline assumptions rest on the following pillars:
With the pent-up gains from reopening mostly exhausted, consumer spending will return to pre-pandemic patterns as demand moves away from goods and into re-opened services. Consumers will remain the key driver of the economy, benefiting from plenty of accumulated savings, the likely rebound in disposable incomes and reduced uncertainty.
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However, inflation presents a complication. A mix of transitory and technical factors will continue to affect prices well into 2022, with the headline measure likely to hover above 3% year-over-year initially. These factors include a surge in commodity prices (energy, in particular), the impact of supply disruptions, and a reopening-driven rise in the cost of services. As imbalances between supply and demand ease, the rate of price increases should moderate.
The stabilizing economy should allow the European Central Bank (ECB) and national governments to unwind their emergency support programs. We expect the ECB to conclude its pandemic emergency purchase program (PEPP) as scheduled in March 2022. To prevent tightening of financial conditions, the bank is expected to increase monthly purchases under its ongoing asset purchase program (APP) and use forward guidance surrounding the policy rate to steer the eurozone economy through the post-pandemic period.
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Monetary policy will continue to work towards achieving inflation targets, but fiscal support will wane. With the pandemic fading, most national governments will dial back their emergency support measures, leading to notable improvement in budget balances next year. Even though some economic support measures such as furloughs will sunset, robust economic recovery will limit increases in unemployment.
At the same time, suspension of budget deficit caps (outlined in the Stability and Growth Pact) until the end of next year means the governments won’t be under pressure to adopt austere policies. The ongoing disbursements from the EU Recovery Fund will also continue to underpin economic recovery.
Leadership within the euro area is in a stage of transition. A German coalition has yet to emerge from September’s elections, and the French will be holding a presidential election next spring. Productivity has been one of the weakest links among the eurozone member states. The lasting impact on productivity from the pandemic is not clear. The NextGenerationEU (NGEU) recovery package is expected to boost investment aimed at making European economies more efficient.
On the trade front, supply bottlenecks resulted in export market share losses for some European economies. Greater emphasis on re-shoring and de-globalization could further disrupt supply chains, weighing on industrial economies like Germany.
The eurozone recovery will remain on track in 2022, but will need more support from policy than other areas of the world.
