Euro zone economy weakens further as services demand and jobs decline

Economic activity in the euro zone contracted at its fastest pace in more than two-and-a-half years in May as rising living costs linked to the ongoing war weighed heavily on demand, particularly in the services sector, according to surveys released on Thursday.

Data from S&P Global showed the Flash Euro Zone Composite Purchasing Managers' Index (PMI) fell to 47.5 in May from 48.8 in April.

A PMI reading below 50.0 indicates a contraction in business activity.

The latest figures signalled a second consecutive month of decline across the euro zone’s private sector economy.

Germany and France see worsening business conditions

Weakness was seen across the euro area’s major economies.

Private sector activity in Germany contracted for a second straight month in May, while in France the headline PMI dropped to its lowest level in five-and-a-half years.

Businesses in France frequently cited fuel and energy cost pressures, along with broader economic uncertainty, as reasons for reduced output.

Outside the European Union, companies in United Kingdom also experienced their broadest decline in activity in more than a year.

Firms pointed to the economic fallout from the Iran war and domestic political uncertainty as key challenges.

Consumer confidence in the euro area also weakened further during the month, according to figures expected later on Thursday.

Services sector suffers steep decline

Demand conditions deteriorated sharply across the euro zone during May.

New orders across the private sector fell at their fastest pace in 18 months. Export demand, including intra-euro zone trade, recorded its steepest decline since January 2025.

The services sector was hit particularly hard. Services activity contracted at its fastest pace since February 2021, reflecting weakening consumer demand across the bloc.

The Flash Services PMI dropped to 46.4 in May from 47.6 in April, despite expectations for a modest increase.

New business in the services industry fell sharply, while manufacturing demand, which had improved in April, returned to contraction territory.

Meanwhile, the manufacturing PMI eased to 51.4 from 52.2 and remained below market expectations.

The manufacturing output PMI, which contributes to the composite reading, declined to 51.0 from 52.3.

S&P Global said some manufacturing data may have been artificially elevated because supply disruptions extended delivery times for factory goods to levels last seen during the COVID-19 pandemic.

The disruptions were linked to the U.S.-Israeli war with Iran and the closure of the Strait of Hormuz shipping route.

Inflation pressures intensify

The surveys also showed a sharp rise in cost pressures.

Input price inflation accelerated to a three-and-a-half-year high in May, according to the composite PMI data.

Prices charged by businesses to customers also rose at their fastest pace in 38 months, though only marginally faster than in April.

S&P Global warned that the latest price indicators pointed to inflation running close to 4% in the coming months.

The European Central Bank kept interest rates unchanged last month but debated the possibility of raising rates to combat persistent inflation pressures.

Policymakers also signalled that a rate increase could be delivered in June.

ECB policymaker Olli Rehn said in an interview that the central bank may raise interest rates to preserve credibility amid a war-driven increase in fuel costs, although he noted there was limited evidence that high inflation was becoming deeply rooted in the euro zone economy.

“There is nothing here to put the ECB Governing Council off its plans to raise rates by 25 basis points in June, nor anything to ease concerns about the risks of a recession,” Kenningham added.

Official data released on Wednesday showed inflation in the euro area remained at 3.0% in April, above the ECB’s 2.0% target.

Labour market weakens as firms cut jobs

The euro zone labour market continued to deteriorate during May.

Companies reduced headcount for a fifth consecutive month, with the pace of job cuts reaching its steepest level since November 2020.

Excluding the pandemic period, the decline was the largest since August 2013.

Services firms reduced staffing levels for the first time since early 2021, while manufacturing companies continued to shrink payrolls.

Business confidence also weakened significantly.

Overall sentiment dropped to a 32-month low, while confidence among services firms fell to its weakest level since September 2022.