Production line workers at Porsche factory
Production line workers at a Porsche factory in Stuttgart. German manufacturing held up ‘better than expected’ in the final quarter of 2022 © Bloomberg

Eurozone unemployment hit a record low, while output from German factories rose in November, boosting hopes of a milder economic downturn in the bloc.

The new data helped the euro gain almost 1 per cent against the dollar, hitting a high for the day at $1.0760 — its strongest level since June.

It also lifted European stock markets, extending a rally that had already gained fuel from relatively tame inflation figures last week. The Euro Stoxx 600 index closed 0.9 per cent higher and Germany’s Dax finished Monday 1.25 per cent stronger.

A surge in energy prices last spring following Russia’s invasion of Ukraine triggered concerns of power shortages and a deep recession in the eurozone.

But economists have steadily upgraded their estimates for growth over recent months on the back of better than expected incoming data and declining wholesale gas prices.

The Sentix index of market sentiment rose for the third consecutive month in January to its highest level since June 2022. “Investors are hoping for a mild recession,” said Sentix managing director Patrick Hussy.

The unemployment rate dropped in Italy, France and Spain by 0.1 percentage point to 7.8 per cent, 7 per cent and 12.4 per cent, respectively. It stayed at 3 per cent in Germany.

German industrial production increased 0.2 per cent between October and November, a slightly better reading than the 0.1 per cent expansion forecast by economists polled by Reuters.

Franziska Palmas, senior Europe economist at Capital Economics, a research firm, said the rise confirmed that German manufacturing “held up better than expected” during the final quarter of 2022.

However, the improving outlook for the eurozone economy will put pressure on the European Central Bank to maintain efforts to bring inflation under control.

A stronger economy could spur workers to push for higher wages without fear of losing their jobs and give companies greater confidence in their ability to raise prices to defend profit margins. Economic resilience is expected to lead to more interest rate rises by the central bank.

With unemployment stuck at historically low levels, “the ECB’s hawkish tone will likely double down on more tightening in the coming months”, said Paolo Grignani, economist at Oxford Economics.

Markets are pricing in a 50 basis point increase in interest rates when the ECB meets on February 2.

A tight labour market could boost wage growth and keep underlying inflation higher for longer. Headline inflation dropped to single digits in December, coming in at 9.2 per cent. But core inflation, which excludes changes in food and energy costs and is seen as a better measure of longer-term price pressures, edged up from 5 per cent to 5.2 per cent.

Line chart of Projected GDP growth (%) showing Economists have revised up their 2022 forecast for the eurozone

The strength of the labour market “makes it a key risk for second-round inflation effects for the ECB”, said Bert Colijn, senior economist, eurozone at ING. With a labour market this tight, “it is unlikely that unemployment will run up enough to make labour shortages a thing of the past,” he added.

Melanie Debono, senior Europe economist at Pantheon Macroeconomics, said that fiscal support across the eurozone should prevent “a significant increase in unemployment”, despite the economic downturn.

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