In focus today
Today, focus turns to the final inflation release for the euro area in January. The final print will allow us to digest the increase in January, which was likely driven by many one-off factors.
In Germany, we receive the Ifo index for February. It will be interesting to see if it mirrors the PMI data on Friday, which saw a marginal uptick in the composite measure – mainly attributed to an increase in the weak manufacturing sector.
The focus for the rest of the week will be on country CPIs for February from Germany, Spain, and Italy. Keeping an eye on Europe, we also get euro negotiated wages and credit growth. In the US, the Fed’s preferred measure of inflation, the PCE, is due for release on Friday, while we continue to closely monitor any tariff announcement from the Trump administration and any news on the geopolitical front.
Economic and market news
What happened since Friday
The German election makes a two-party government between the conservative CDU/CSU and the Social Democrats (SPD) the most likely result, which is a positive outcome for the German economy. Markets have also reacted positively to the news by strengthening the euro by 0.6% during Asian trading hours while DAX futures have climbed 1.1%. The conservative chancellor Friedrich Merz is almost certain to become the next chancellor as his party emerged as the biggest one with 28.6% of the votes. A majority government with the Social Democrats is possible because two parties fell below the 5% threshold for entering the parliament, namely the FDP at 4.33% and the BSW at 4.97%. This gives 328 seats to the CDU/CSU and SPD, above the 315 needed for a majority. A two-party “Grand coalition” government is a positive outcome because decision making is easier than in a three-party government. Negotiations to form the government will likely take one to two months.
We see a 70% probability for a reform of the “debt brake” to allow more borrowing in German given the results. In terms of defence spending and support for Ukraine, the election outcome was not the best scenario because the far-right (Afd) and the Left party combined secured 34.3% of the votes. Therefore, they will be able to block off-budget defence funds and legislation that requires two-thirds majority. Yet, with a less fragmented Parliament and a likely two-party government Germany’s presence in the EU will likely be stronger compared to the previous government, which is positive news. For more details, please see Flash: German election – A positive outcome for markets and the economy, 24 February.
Friday was all about February PMIs, with releases across most major economies. In the euro area, the composite PMI was lower than expected at 50.2 (cons: 50.5), mainly attributed to the services sector PMI declining to 50.7 (cons: 51.5), while the manufacturing measure ticked up to 47.3 (cons: 47.0). The services PMI was dragged down by a very large decline in the French services sector, while Southern Europe saw rising PMIs. Looking ahead, we expect the manufacturing sector to gradually improve, climbing back above 50 at the end of 2025, spurred by lower interest rates.
In the UK, the overall report was slightly on the weak side, with manufacturing lower than expected at 46.4 (cons: 48.5) while services printed stronger than anticipated at 51.1 (cons: 50.8) – leaving the composite little changed at 50.5 (cons: 50.6). UK retail sales for January was also announced, which was stronger than expected with retail sales ex auto fuel rising 1.2% y/y (cons: 0.6%, prior; 2.1%). The topside surprise was due to a rise in sales from food stores and online retail, but the December figures were downwardly revised across the board, limiting the overall surprise.
In the US, the PMI reading was similar to the European print, as the manufacturing index continued improving to 51.6 from 51.2 (cons: 51.5), while the services measure declined to 49.7 from 52.9 (cons: 53), the weakest figure since January 2023. Thus, the composite measure was barely above the neutral level at 50.4 (prior: 52.7). Looking at details, the services output prices index fell to the lowest level since May 2020 and below its pre-covid average, while employment indices declined across both manufacturing and employment. On a more positive note, manufacturing price indices and order-inventory balances continued to rise. Overall, we see the print as clearly dovish in light of the Fed’s stance.
The final release of the inflation expectations from the University of Michigan for January showed that 1y expectations were unchanged from the flash estimate at 4.3%, while the 5y measure was revised higher to 3.5% from 3.3% – the highest level since April 1995. Importantly, different inflation indicators are yielding mixed signals at the moment.
In geopolitics, Ukrainian President Zelenskyy stated for the first time that he is willing to step down his presidency to secure Ukraine a NATO membership or achieve long-lasting peace. The remark comes after the recent weeks of focus on striking a ceasefire deal, with the US holding bilateral talks with Russia in Saudi Arabia. Zelenskyy also rejected the Trump administration’s demands for a significant share of the proceeds from extracting Ukrainian mineral deposits. We will be hosting a webinar on 27 February from 09.30-10.00 shedding light on the possible outcomes and economic implications if a ceasefire is reached.
Equities: What looked like a rebound day for equities turned sour at the US opening bell. Global equities closed a full -1% lower, driven by the US with S&P 500 -1.7% and small cap Russell 2000 a full -2.9% lower. Considering this, Europe outperformed massively with Stoxx 600 even 0.5% higher. The US session ticked all the boxes of risk-off. Investors sold off cyclicals (tech, consumer staples, industrials down 2-3%) and bought into defensives (staples and utilities in green). Small caps underperformed considerably, down almost -4% for the week. VIX rose north of 18, highest since early February. Investors flocked into bonds with US10y moving towards 4.4% after briefly touching 4.57% earlier this week. Bitcoin dropped -4% and oil prices -3%. Gold was the outlier, up “only” 0.1%.
This concludes a -1.5% sell-off for global equities the last week, the first down-week since January. Note that Europe was higher (0.5% wtd) so outperformance is still substantial. Light in the tunnel today with US futures a notch higher again.
FI: US Treasury yields rallied on Friday on the back of weaker data and the speculation that the spending cuts from the Department of Government efficiency will slow the economy more than expected. This has also led to a tighter spread between 10Y Treasuries and Bunds during February and they are now again below 200bp. In Germany, CDU/CSU won the election as indicated by the polls and the head of CDU/CSU Merz is expected to form a coalition with SPD and possibly one more party.
FX: Commodity currencies lost out to JPY, CHF and USD on Friday as overall risk sentiment turned sour to end the week. EUR made a slight bounce following results of the German election when markets opened yesterday.
 the most likely result, which is a positive outcome for the German economy. Markets have also reacted positively to the news by strengthening the euro by 0.6% during Asian trading hours while DAX futures have climbed 1.1%.){kind=link}