Recent information points to some improvement in economic activity in the second quarter, even though the conflict in the Middle East remained a headwind. Surveys suggest that activity in the services sector has partly recovered, after weakening markedly in the immediate aftermath of the energy shock. Digital services have been robust, in part owing to the increasing contribution from AI-related activity. Manufacturing has continued to hold up, supported by firms building up stocks to guard against supply chain risks, as well as by higher defence spending. Unemployment stood at 6.2% in May, close to historical lows. At the same time, job postings have continued to decline and both firms and households expect the labour market to remain weaker than before the conflict.
Forward-looking indicators suggest that economic growth will remain modest in the near term, weighed down by the energy shock and related uncertainties. Yet the fundamental drivers of medium-term growth remain intact. Private consumption, investment in new digital technologies, government spending on defence and infrastructure, and some recovery in exports should all contribute to overall growth momentum.
The Governing Council reiterates its call for urgent action to strengthen the euro area economy while maintaining sound public finances. Simplifying and harmonising rules across the EU’s Single Market, accelerating the energy transition and completing the savings and investments union are key building blocks. Fiscal responses to the energy shock should be temporary, targeted and tailored. The positive vote in the European Parliament earlier this month was a significant milestone on the path to establishing the digital euro. We welcome the shared objective of the Parliament, EU Council and Commission of reaching agreement by the end of this year on the Single Currency Package. The digital euro will complement physical cash with its digital equivalent, providing a means of payment for any digital transaction throughout the euro area.
Inflation declined to 2.8 per cent in June, from 3.2 per cent in May. Energy price inflation declined to 8.5 per cent, after 10.8 per cent in May, while food price inflation fell from 1.9 per cent to 1.5 per cent. Inflation excluding energy and food eased to 2.4 per cent, from 2.6 per cent in May, with goods inflation decreasing from 0.9 per cent to 0.7 per cent and services inflation from 3.5 per cent to 3.2 per cent.
The energy shock continues to feed into higher prices. It is becoming more expensive for firms to source inputs and they therefore expect to put up their selling prices. While developments in underlying inflation have remained contained, the full effects of the energy shock have yet to play out. The ECB’s wage tracker and surveys on wage expectations continue to indicate moderate wage growth over the coming quarters. Rising labour productivity has also helped contain growth in unit labour costs. Inflation expectations over shorter horizons remain at elevated levels. Most measures of longer-term inflation expectations stand at around 2 per cent, supporting the stabilisation of inflation around target in the medium term.
While energy price inflation declined in June, its rise since the start of the conflict – and its impact on food, goods and services price inflation – is likely to keep inflation well above target into the first half of 2027. Inflation should then decline, as energy prices are expected to fall and other prices should rise more slowly. However, the conflict remains a major source of uncertainty. We are therefore closely monitoring the size and persistence of the energy price increase, and how it feeds through to price and wage-setting, inflation expectations and overall economic dynamics.
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