EU recovery expected to continue but significant downside risks are emerging

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Longer term market prospects in the EU27 look reasonable as the economic expansion in the region is expected to continue, but there are significant downside risks. According to the EU's latest Autumn 2021 forecast, the EU economy is expected to have grown by 5% in 2021 and to maintain growth of 4.3% this year before easing to 2.5% in 2023.

While strong domestic demand is expected to continue to fuel economic expansion in the EU, the forecast recovery is heavily dependent on the uncertain evolution of the pandemic, both within and outside the EU.

The improving health situation, which allowed the economy to bounce back in 2021, is now being challenged by rising infections linked to the Omicron variant across the EU. For now, hospitalisations and deaths associated with COVID-19 infections remain low compared to previous waves. But they are slowly rising, posing a risk to economic prospects.

Inflation is another source of uncertainty for the European economy. As in other parts of the world, surging prices are hitting customers across the region with soaring food and energy bills. Germany, Europe's largest economy, saw the biggest price increase for almost 30 years in December, beating forecasts. In Italy, economists have said the recovery could be muted in 2022 by rising prices, especially fuel prices. Poland has also reported a high inflation not seen over the past 20 years.

Supply bottlenecks and combined with rising demand, boosted by government stimulus measures, have caused consumer prices to rise. Rising energy prices and disruptions in global logistics, leading to severe shortages and price increases of key raw and intermediate inputs, is also holding back manufacturing across the EU. While this may be only a temporary phenomenon as supply bottlenecks are widely expected to ease in the course of 2022, an inflation rate of below 2 percent is not expected until 2023.

At the same time, activity in the construction sector in the EU, a key driver of timber demand in the region, remains fragile. The IHS Markit Eurozone Construction Index gradually increased from 49.5 in August last year to 53.3 in November before slipping to 52.9 in December.

Overall, the recent trend has been positive but, with 50.0 being the dividing line between contraction and growth, the index implies that sentiment in the sector is very mixed.

The rise in eurozone construction activity in the last quarter of 2021 was led by a marked upturn among Italian companies. French firms recorded a softer rate of growth, while Germany noted a sustained decrease. Overall though, in December last year new orders placed with eurozone construction companies expanded at the fastest pace since February 2019 at the end of 2021.

Anecdotal evidence pointed to new projects coming to tender amid sustained government incentives for the sector. Meanwhile, a majority of eurozone construction companies continued to cite higher raw material prices due to widespread supply shortages.

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