The surge in earnings at European companies in 2017 is already starting to look like ancient history as economic conditions and a looming trade war choke off expansion. The enthusiasm over the economy finally coming back after the financial crisis is already fading.
It’s looking more and more like the European Central Bank mistimed its move to tighten monetary policy with last month’s announcement it was ending asset purchases at the end of the year. The ECB missed a chance to change course last year amid a booming European economy, which registered its highest growth in 10 years at 2.4 percent.
By the time the ECB gets around to raising interest rates in the second half of next year, economic growth will have long since evaporated. First-quarter growth this year was only 0.4 percent, just over half what it was in the previous three quarters.
Companies grow cautious
More labor disputes, higher wage settlements, an unusually strong wave of influenza, rising oil prices, and higher euro rates in currency markets all contributed to the slower growth. Along with US President Donald Trump’s aggressive trade policy, the gloomier economic environment has made companies more cautious.
IHS Markit’s Purchasing Managers Index for June fell to its lowest level in one and a half years as manufacturing activity in the euro zone slowed. The index, considered a proxy for economic growth, has weakened each month since the beginning of the year.
The slowdown is disappointing after 2017 showed a 52 percent increase in earnings among the 500 biggest European firms by sales. Although it started from a low base, it was the strongest growth since 2010. The 69 German firms in the top 500 registered an average 89 percent growth in earnings. Europe-wide, the return on sales improved to 6.3 percent from 4.4 percent.
In the first quarter, however, earnings among the top 500 stagnated. The outlook for the year as a whole is no better, especially since Europe’s biggest economy is looking flabby. “German industry got a very weak start in the second quarter,” said Commerzbank economist Ralph Solveen.
Economy at tipping point
Bayer, Henkel, Continental, BMW, VW and Daimler are among the German blue chips that showed a decline in earnings in the quarter. Earnings at German drugmaker Merck KGaA, which is independent from the US rival with the same name, fell 31 percent. A decline at Deutsche Post is particularly worrying because the logistics giant is something of an early warning system given its involvement with most business sectors. “The German economy is at the tipping point,” said Ferdinand Fichtner at the German Institute for Economic Research.
The trend was evident throughout Europe. French oil producer Total, Belgian beverage giant Anheuser-Busch InBev, Swiss temp staffer Adecco and the pan-European jetliner producer Airbus all registered declines in earnings.
Companies all over Europe are coming out with profit warnings. In Germany, light bulb maker Osram signaled lower earnings because of turmoil in the auto industry. Auto component suppliers Continental and Elringklinger and Mercedes-Benz maker Daimler had already issued profit warnings due to the ongoing Dieselgate scandal and the threat of tariffs on car imports.
Geopolitical turbulence is also weighing on the economy. EY analyst Mathieu Meyer ticks off the trade dispute between Europe and the US, the risk of further escalation in the Middle East and the troubled relationship to Russia as threats to growth.
In fact, it may be that ECB will have to back off its belated decision to tighten monetary policy. The deadline to end asset purchases is conditional on economic progress, and Europe seems to be distancing itself from that goal more each day.
Ulf Sommer covers financial markets and companies for Handelsblatt. Darrell Delamaide adapted this article into English for Handelsblatt Global. To contact the author: firstname.lastname@example.org.