Eurozone business activity in June performed better than initially estimated. The composite PMI rose to 50.0, moving back above the expansion threshold and ending a two-month contraction streak. Simultaneously, service sector cost pressures cooled at a near-record pace, adding uncertainty to the European Central Bank's future interest rate path.

Data released on July 3rd shows the final Eurozone Composite PMI for June increased to 50.0 from May's 48.5, surpassing the preliminary estimate of 49.5. This indicates economic activity has stabilized and rebounded after a brief contraction. A significant upward revision to German data was the primary driver of the overall improvement: Germany's final composite PMI for June rose to 49.5, notably higher than the flash estimate and market expectations (which were around the 48.5–49.0 range). The contraction was much milder than anticipated, bringing it close to the expansion mark.

S&P Global Chief Business Economist Chris Williamson noted that easing downward pressure in services, combined with ongoing expansion in manufacturing, jointly pushed the Eurozone economy towards stabilization after two consecutive months of declining output.

This data improvement coincides with growing internal policy divisions at the European Central Bank. Although the ECB implemented its first interest rate cut since 2023 in June, several officials signaled during the annual conference in Portugal this week that last month's action might be close to a sufficiently accommodative level. Concurrently, the rapid easing of cost pressures further dampens market expectations for subsequent rate cuts, complicating the policy outlook.

Composite PMI Returns to Expansion, Germany Sees Significant Revision

The final Eurozone Composite PMI for June registered 50.0, revised up 0.5 percentage points from the flash estimate of 49.5 and higher than May's 48.5. This marks the first return to expansion territory since March. A recovery in manufacturing output partially offset the impact of the services sector, which remained in contraction but showed marginal improvement.

Germany was the main source of this upward revision. Its final composite PMI for June climbed to 49.5, and the services PMI final reading rose to 48.6, significantly revised up from the flash estimate of 46.8, reaching a high for the current downturn cycle. Although still in contraction overall, the pace of decline has narrowed considerably.

S&P Global Economics Associate Director Phil Smith pointed out that Germany's services sector continues to be weighed down by geopolitical and external environmental uncertainties, with new orders declining for consecutive months and overseas demand persistently weakening.

Service Sector Cost Pressures Cool Significantly, Inflationary Pressures Ease

The most notable change in the data came from the cost side. Input cost inflation in the Eurozone services sector slowed in June for the first time since last October, dropping to a four-month low. The magnitude of the decline was the second largest on record since 1998, only surpassed by the level seen during the initial phase of the pandemic in 2020.

The rate of price increases passed on to end clients in the services sector also narrowed, indicating a general easing of price pressures. The improvement on the cost side is linked to a pullback in energy prices. While markets had been concerned about the impact of Middle East tensions on oil prices, recent consecutive declines in oil prices have alleviated imported inflationary pressures.

Nevertheless, the Eurozone's overall inflation rate for June remained at 2.8%, still above the ECB's 2% policy target.

Demand-Side Weakness Persists, Divergence in Policy Path Intensifies

Despite the easing cost pressures, the demand side remains under strain. New orders in the Eurozone services sector continued to fall in June. Overseas demand has contracted for several consecutive months, and order backlogs are being worked down at an accelerating pace, indicating overall insufficient demand momentum.

Employment trends show divergence. Employment in Germany's services sector fell for the sixth consecutive month, though the pace of decline slowed. In contrast, overall services employment in the Eurozone recorded its fastest growth since the start of the year, showing a slight increase compared to May. Meanwhile, business confidence improved to its highest level since February, reflecting some recovery in medium-term expectations, although short-term demand remains weak.

Against a backdrop of mixed inflation and growth signals, internal disagreements within the European Central Bank over the future policy path have intensified. The June rate cut was seen as a preemptive move against inflation risks stemming from geopolitical conflicts. However, some officials have recently hinted that a pause might be entering the picture.

The rapid decline in service sector cost pressures provides more support for voices advocating a pause in rate cuts. Markets widely believe the ECB may shift to a data-dependent mode, assessing the trend of sustained easing in price pressures before deciding on any further policy easing.