German economy heading for contraction

Germany's economy will shrink again in the first quarter of the year and underlying inflation could prove to be stubborn even if overall price growth is likely to slow sharply soon, the Bundesbank said in a monthly report on Monday.

Europe's biggest economy contracted by 0.4 per cent in the final quarter of 2022 and its vast industrial sector is just starting to recover while high inflation is weighing heavily on consumption.

"German economic activity will probably fall again in the current quarter," the Bundesbank said. "However, the decline is likely to be less than in the final quarter of 2022."

German economic activity will probably fall again in the current quarter."

Bundesbank report

While a recession - two consecutive quarters of negative growth - remains the most likely outcome, the labour market is proving resilient and the central bank said it expects continued positive developments for employment.

The European Central Bank has raised interest rates by 350 basis points since July, the fastest pace on record, to tame runaway inflation but price growth could still hold above its 2 per cent target through 2025.

Overall inflation in Germany is likely to tumble in March as high energy prices get knocked out of year earlier figures, even if price growth will remain uncomfortably high.

"That being said, the core rate is proving exceptionally persistent," the bank said. "It could even increase slightly towards the middle of the year."

Eurozone core inflation, which excludes volatile food and fuel prices, has been inching up even as the overall inflation rate falls, as high energy prices of the past year are seeping into the other costs and wages.