The Eurozone economy is once again facing its worst nightmare: stagflation. As geopolitical turmoil in the Middle East and the conflict in Iran shake international supply chains, the Eurozone is trapped in a "toxic cocktail" of rapidly rising production costs and a dramatic slowdown in growth. Notably, private sector output in the Eurozone fell to a 10-month low in March, amid mounting evidence of the impact the conflict with Iran is having on the global economy. The closely monitored flash Purchasing Managers' Index (PMI) from S&P Global for the Eurozone dropped to 50.5 points in March, a sharp decline from February’s 51.9. Economists polled by Reuters had expected a milder dip to 51.0. The 50.0 threshold separates expansion from contraction.
The risk of stagflation
This reading triggered fresh warnings that the region is facing the specter of looming stagflation—a toxic combination of high inflation and unemployment alongside slowing growth. "The Eurozone flash PMI is ringing stagflation alarms, as the war in the Middle East sends prices soaring while simultaneously stifling growth," said Chris Williamson, chief business economist at S&P Global Market Intelligence. "Business costs are rising at the fastest rate in over three years amid skyrocketing energy prices and supply chain disruptions caused by the war. Supplier delays have reached their highest level since mid-2022, primarily due to transport issues." Eurozone companies surveyed by S&P Global marginally reduced hiring in March, as management lowered production expectations for the year compared to February's estimates.
The "worst-case scenario"
"Stagflation" is often regarded as a "worst-case scenario" for economies and creates a dilemma for central banks. The tools typically used to combat high inflation—such as raising interest rates—can damage growth and employment, while cutting rates may boost growth but risk fueling demand and further inflation. The Eurozone is not alone in seeing a slowdown in private sector activity due to the war with Iran; PMI data from India earlier on Tuesday also showed that output growth slowed to its lowest level since October 2022.
"Critical" energy crisis
The current upheaval in the Middle East has largely rendered previous growth and inflation forecasts obsolete. Businesses and policy makers are now struggling to estimate the path of costs and inflation without knowing how long the conflict will last. In revised forecasts published last week, the European Central Bank (ECB) now estimates growth of 0.9% for 2026 and average inflation of 2.6% for the current year. However, this projection may be optimistic; S&P Global’s Williamson noted that the PMI survey's price index indicates inflation accelerating toward 3%, "with cost pressures likely to further boost selling price inflation in the coming months."
"The outlook depends on the duration of the war and potential permanent impacts on energy and supply chains, but the flash PMI data underlines that the European Central Bank is no longer in a 'good position' regarding growth and inflation," he added. The March PMI figures show that the conflict with Iran is already having a significant impact on the Eurozone economy, Raphael Brun-Aguerre of JPMorgan noted on Tuesday. "Overall, the survey suggests a strong short-term inflationary impact from rising energy prices, which may pass through to core prices... The energy shock could hit corporate profitability and has already worsened demand and output in the region. Business sentiment is taking a major hit. European Commission data [published Monday] already showed a significant drop in consumer confidence in March," he stated.
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