The European economy is forecast to rebound faster than previously expected, as activity in the first quarter of the year exceeded expectations and the improved health situation prompted a swifter easing of pandemic control restrictions in the second quarter.
The improving health situation and ensuing continued easing of virus containment measures are putting the EU economies back in motion. The near-term outlook for the European economy looks brighter than expected in spring. The contraction of GDP in the first quarter of the year turned out to be marginal, and milder than suggested by Eurostat’s Preliminary Flash Estimate, which was incorporated into the Spring Forecast. Falling numbers of new infections and hospitalisations, thanks to an effective containment strategy and progress in vaccination, have led EU Member States to reopen their economies, to the benefit of service sector businesses, in particular. Upbeat survey results among consumers and businesses, as well as data tracking mobility, suggest that a rebound in consumption is already underway and set to strengthen in the coming months. There is also evidence of a beginning revival in tourism activity, which should also benefit from the new EU Digital COVID Certificate. Together, these factors are expected to outweigh the temporary production input shortages and rising costs hitting parts of the manufacturing sector.
Overall, GDP is now forecast to grow by 4.8% in 2021 and 4.5% in 2022 in both the EU and the euro area. The volume of output is projected to return to its pre-crisis level (2019-Q4) in the last quarter of 2021, which is one quarter earlier than expected in the Spring Forecast for the euro area. However, economic activity in the fourth quarter of 2022 would remain about 1% shy of the level that was expected before the pandemic, based on an extrapolation of the Winter 2020 Interim Forecast. The speed of the recovery will vary significantly across the Member States. Some are expected to see economic output return to their pre-pandemic levels by the third quarter of 2021, but others would take longer.
The forecast for inflation this year and next has also been revised upwards, though retaining a hump-shaped profile. Rising energy and commodity prices, production bottlenecks due to the shortage of some input components and raw materials and capacity constraints vis-à-vis booming demand both at home and abroad are expected to put upward pressure on consumer prices this year. In 2022, pressures are assumed to moderate gradually as supply constraints resolve, order backlogs clear, and demand growth moderates. Accordingly, inflation in the EU is now forecast to average 2.2% this year and 1.6% in 2022 (+0.3 and +0.1 pps., respectively, compared to the Spring Forecast). In the euro area, inflation is forecast to average 1.9% in 2021 (+ 0.2 pps.) and 1.4% in 2022 (+0.1 pps.).
Uncertainty and risks surrounding the growth outlook are high but remain overall balanced. The threat posed by the spread and emergence of variants of concern underscores the importance of a further rapid increase in full vaccination. Economic risks relate in particular to the response of households and firms to changes in restrictions and the impact of emergency policy support withdrawal.
Inflation may turn out higher than forecast if supply constraints are more persistent and price pressures are passed on to consumer prices more strongly.
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