Il industrial sector accounts for about a quarter of energy consumption in the euro area, and it is inevitable that in the coming months themanufacturing activity suffer to a rather marked extent the impact of price shocks. The most penalized sectors are those with high energy intensity which alone account for two thirds of consumption in industry, and which have already begun to show greater weakness than the rest of manufacturing. However, we believe that the price shock has not yet fully unfolded its recessionary impact and that, both in energy-intensive sectors and in the rest of industry, the worst is yet to come: we expect a rather marked drop in industrial production in Italy and overall of the Eurozone between late 2022 and early 2023.
Euro area: manufacturing in contraction between the end of 2022 and the beginning of 2023
The last 12 months have been characterized by a sharp increase in raw material prices energy which have helped to push up the production costs of firms. The most important shock was registered on the markets of natural gas, But also the Petroleum stands at historically high prices. Until the first half of 1, gas prices hovered around an average of just under 2021 euros per MWh, with a very limited degree of volatility. Starting from the second half of last year, prices began to rise rapidly, in a context of reduced supplies and low levels of storage levels, to then explode after the outbreak of the conflict in Ukraine.
In the euro area, the increase in gas and crude oil prices, which represent over 60% of primary energy sources (almost 80% in Italy), is consequently also transferred to electricity prices with effects on all energy users, and not only on direct consumers of natural gas and crude oil. In particular, the industrial sector accounts for about a quarter of energy consumption in the euro area, and it is inevitable that in the coming months, manufacturing activity will suffer the impact of the shock to a rather marked extent.
The most penalized sectors
Within the same industry, not all sectors are equally affected: the most penalized are energy-intensive sectors such as chemistry, refining, processing of non-metallic minerals, paper industry e basic metallurgy, which together account for two-thirds of consumption in the Eurozone industry.
The sectors indicated account for approximately 16% of the total industry (almost 20% of manufacturing alone), and have already begun to show signs of marked weakening. Chemical production is down by almost -8% compared to last year, and the other sectors are also in negative territory in terms of trend. The only exception is the refining which, however, after having benefited from the increase in activity in the wake of the rise in the price of crude oil, is also starting to slow down in the wake of the slowdown in global demand.
We have created a synthetic index of manufacturing production in energy-intensive sectors using the relative weights of the individual compartments with respect to the total. The data show a clear divergence in terms of activity between the index of energy-intensive sectors and that which groups together the other manufacturing sectors: in August, the production of energy-intensive sectors decreased for the fourth month (-0,4% m/m from a previous -2%) and is down by -3,8% compared to a year earlier. If refining were to be excluded for the reasons indicated above, output would be down on a quarterly basis for the sixth consecutive month, with a tendential decline of -4,1%.
The resilience of manufacturing
In the face of the slowdown recorded by energy consumers, the rest of manufacturing seems to show some resilience. In recent months, confidence surveys have begun to show clear indications of slowdown in demand, but for the whole of the first half of the year production data were overall better than expected and in the last three quarters the industrial sector as a whole made a positive contribution to the growth of added value, denying the forecasts of contraction.
It is possible that the unexpected stability is attributable to the presence of unfulfilled orders whose processing supported output in a context of declining new orders, also assisted by the easing of supply bottlenecks. This may be especially true for the hardest-hit sectors shortage of semiconductors (transportation, electronics, computers and electrical materials), which seems to have reached a tipping point.
But the worst is yet to come
However, we expect the worst to come for all sectors in question. Demand is in fact declining rapidly and at a faster pace than expected, as demonstrated by the progress accumulation of inventories of unsold goods, while the unfulfilled orders themselves, which until a few months ago represented one of the main elements of support for the activity, are also in a phase of decrease. It is also noted that the slowdown is not limited to the Eurozone, but is now involving a large part of the global economy; it will therefore be difficult to see a reversal in the coming months, and the deterioration in demand will only continue.
Instead, as regards the price shock, we believe that it has not yet fully unfolded its recessionary impact: the presence of long-term energy supply contracts and forms of hedging may have, at least partially, shielded firms from price increases. The introduction of efficiency and energy saving strategies should also have contributed to the reduction of costs; the high profits and previously accumulated liquidity may have provided an element of temporary support.
Energy-intensive sectors will continue to be hit the hardest
However, in the light of prices that we expect to remain high for a long time to come, with the progressive expiry of the protection contracts and the erosion of margins, we believe that the impact, albeit delayed, could become more tangible. The hardest hit will continue to be i energy-intensive sectors, where anecdotal indications of real business disruptions are already starting to emerge. Based on the historical relationship between industrial activity in energy-intensive sectors and energy prices, we estimate a lagged effect of up to 6 months, implying that the shock may continue to weigh on activity for most of 2023.
With the same methodology used for real production data, we have aggregated the monthly sector surveys of European Commission to build a confidence index on expectations for the energy-intensive sectors and the rest of manufacturing. The indicators obtained are consistent with a marked correction of production in the most energy-intensive sectors, even higher than -5% q/q already in the autumn quarter.
The weakening could be transmitted to the rest of manufacturing
However, the weakening of activity in the aforementioned sectors could also be transmitted to the rest of manufacturing, and herald a more marked contraction in industrial output as a whole. The energy-intensive sectors are in fact typically located upstream of the production chains; performing an analysis on the basis of the input-output tables relating to the Eurozone as a whole, a reduction in activity of 5% in the five energy intensive sectors (chemistry, refining, processing of non-metallic minerals, paper, metallurgy) could have a secondary impact estimated at about one tenth of the value added in the rest of the industry; this without considering the effects on trust of economic agents need loss of international competitiveness. The problem deriving from the interruption of energy-intensive supply chains could be overcome with a replacement of internally produced intermediate goods with extra-European imports, but companies will still have to deal with lower demand and with prices that could be unsustainable even for the sectors where energy represents a minor share of the costs.
Industrial weakness is set to worsen
In summary, we believe that in the euro area, in the coming months, in a context of progressive deterioration in demand and high uncertainty about energy prices and supplies, the industrial weakness is bound to increase. After the partial rebound in August, industrial production should return to a rather marked contraction in September and remain weak in October, also weighed down by the impact of the strikes in French refineries and the reduction in activity in the energy- intensive. Industry may have subtracted up to two-tenths from value added growth during the summer quarter, and should continue to drag GDP, more significantly, between the autumn and winter as well.
We expect a rather sharp decline in industrial production in the six months between the end of 2022 and the beginning of 2023, which in cumulative terms could reach 10%. Starting from the spring of next year, thanks to the reduction, also for seasonal reasons, of gas and electricity prices, the sector could show some signs of recovery. However, thedelayed impact of shocks and the slowdown in the global cycle suggest that the recovery in the rest of 2023 it could be overall sluggish also because, starting next autumn, the same problems relating to prices and supplies could re-occur. We estimate industrial production to fall by -0,7% on average per year in 2022 and around -1,5% in 2023, with downside risks.
Towards a slowdown in manufacturing also in Italy
Italy is among the countries most exposed to the energy shock due to the high dependence on natural gas as a primary energy source. However, if last year Italian industry was already less affected than other countries by the bottlenecks present along the international production chains, even in this phase Italian industry could prove to be relatively more resilient, thanks to a lower weight of the energy-intensive sectors out of the total industry ( 14% against 17% in Germany and 16% in the euro area as a whole); in particular, the lower weight of the chemistry, among the sectors most penalized by the price shock.
Italian industry is holding up better than the German one
Even the actual data on industrial production show, at least for the moment, that Italian industry is holding up better (albeit only in relative terms) than that of Germany: from September 2021, when energy prices began to show the first signs of instability, output in energy-intensive sectors fell by around 6% against the 8% recorded in Germany. However, both Italy and Germany show a decidedly worse performance than the rest of the Eurozone (in the Eurozone as a whole, production is down by around 4%); in the Italian case, the underperformance could be explained by energy prices on average higher than in other countries (for example compared to France e Spain, where more targeted tax measures have partly protected firms from price increases).
The data on the use of gas in industry show how Italian companies have managed, at least in part, to resort to efficiency strategies need energy saving (against a drop in gas consumption of more than 20% y/y, production in energy-intensive sectors dropped "only" by -6,6%). However, the space for efficiency improvement or for the use of other energy sources is in any case limited and in the coming months we will be able to see a drop in production.
Starting in the summer, the rhythm of contraction in fact, it has returned to accentuate and the surveys anticipate further decreases in the coming months when, for seasonal reasons and due to the uncertainty regarding gas supplies, energy prices could return close to the recent peaks.
Basic metallurgy and chemistry recorded the largest declines
For now, I'm there basic metallurgy (-11,2% y/y) and the chemistry (-10,6% y/y) to record the largest decreases on a trend basis. Analyzing the activity data in more detail, it can be seen that the most penalized are those production sectors particularly exposed not only to energy price increases but also to international competition from low-cost producers, and characterized by lower margins. These sectors therefore have a lower capacity to absorb the higher costs and pass them on to the end users. Considering the data updated to last August, the sectors with a trend drop in production of more than 20% are in fact: lead, zinc e pond (-ten%); cellulose (-ten%); fertilizers (-ten%); Ceramic products (-ten%); iron e steel (-ten%); chancellery (-20,5%) And basic chemistry (-20,2%).
In our opinion, a trend reversal will hardly be seen before next spring; the sectors that report the greatest deterioration in production expectations are in fact those with greater energy intensity.
However, they are starting to show signs of more pessimism also spread to other sectors, which would confirm the hypothesis according to which the slowdown in energy-intensive industries will soon be transmitted to the rest of manufacturing (which, unlike the rest of the Eurozone, could benefit to a lesser extent from the rebound in semiconductor-intensive sectors) .
As for the Eurozone as a whole, also in Italy we expect a rather large contraction in industrial production between the end of 2022 and the beginning of 2023: the sector, after a possible substantial stagnation in the summer quarter, could contribute negatively to the growth of added value for at least two tenths in the fall quarter, and curb GDP in the winter as well.
In the longer term, especially in the event that the objectives on the diversification of energy sources, the risk is that structurally higher energy prices will cause a permanent loss of competitiveness of European manufacturing, hit by an asymmetric shock with respect to Asia and America, with possible effects of progressive "deindustrialisation" of the Old Continent in favor of other geographical areas .
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This document was prepared by Intesa Sanpaolo and distributed by Intesa Sanpaolo-London Branch (member of the London Stock Exchange) and by Intesa Sanpaolo IMI Securities Corp (member of the NYSE and FINRA).
The analysts who drafted this document declare that the opinions, forecasts or estimates contained in the document itself are the result of an independent and subjective assessment of the data, elements and information acquired and that no part of their remuneration has been, is or will be, directly or indirectly, linked to the opinions expressed.
