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European economies: manufacturing growth slows

European manufacturing growth unexpectedly slowed in December after interest rates rose and the stronger euro clouded the outlook for exports.

Royal Bank of Scotland Group Plc said today its manufacturing index fell to 56.5, the lowest in nine months, from 56.6 in November. A reading above 50 indicates growth. Economists expected the gauge, compiled by NTC Economics Ltd. from a survey of 3,000 purchasing managers, to rise to 56.8, the median of 25 forecasts in a Bloomberg News survey showed. Economic growth in the euro region, now 13 nations after Slovenia adopted the common currency yesterday, may slow after recording the fastest pace in six years in 2006. Investors expect the European Central Bank to continue raising interest rates to control inflation, while the euro's appreciation threatens to erode exports and a sales-tax increase in Germany may damp consumer spending. „Overall we expect the euro-area economy to remain quite robust in 2007, even though there are some headwinds” such as a sales-tax increase in Germany and the euro's appreciation, said Nick Matthews, an economist at Barclays Capital in London. „We don't think the ECB is done” raising rates. The euro traded at $1.3271 at 1:16 p.m. in Frankfurt, little changed after today's report, while European bonds rose. The yield on the 10-year bond fell 4 basis points to 3.92%. Yields move inversely to prices.

The region's economy probably expanded 2.6% in 2006, the most since 2000, according to the Organization for Economic Cooperation and Development. The group forecasts expansion of 2.2% this year. „Euro-zone manufacturing is entering the New Year with considerable momentum,” said Holger Schmieding, chief European economist at Bank of America in London. Although the purchasing managers' index slipped, „it remains far above the boom/bust line of 50. The stability in the manufacturing PMI bodes well for the growth outlook for early 2007.” Stronger worldwide demand for European products in 2006 prompted companies such as Continental AG, the world's fourth- largest tire maker, to increase spending and hiring. Such investment may support consumer spending and economic growth in 2007 even as export demand cools. Unemployment fell to 7.7% in October, matching a record low, and business confidence in Germany reached a 16-year high last month. German companies surveyed by Bloomberg News said they plan to hire and increase spending in 2007 as earnings improve. Most respondents also expect economic expansion to continue next year.

A gauge of manufacturing in Germany, Europe's largest economy, jumped to 59.4 from 58.3, today's data showed. Growth accelerated in Italy and Spain and slowed in France. „It is encouraging to see that domestic demand currently appears to be healthy in most euro-zone countries, given that export orders may well come under increasing pressure over the coming months from a strong euro and moderating global growth,” said Howard Archer, chief European economist at Global Insight in London. The euro's 11% gain against the dollar last year has made European exports more expensive just as the world's economic expansion slows. The International Monetary Fund forecasts the global economy will expand 4.9% this year after growing 5.1% in 2006.

„Overall, the economy is strong, and coupled with very strong money growth, the ECB will raise rates again in March and June,” said Sebastian Wanke, an economist at Deka Bank in Frankfurt. Euro-region money-supply growth, which the ECB uses as a gauge of future inflation, accelerated in November to the fastest pace in more than 16 years. An increase in value-added tax in Germany that took effect yesterday may drive up inflation across the euro region, adding to pressure on the ECB to raise interest rates further. German consumer confidence declined from a five-year high last month on concern that the VAT increase will hurt household income, market-research company Gfk said December 29. The ECB increased its benchmark rate for the sixth time in a year on December 7, to 3.5%, and said it still sees inflation risks. Futures trading shows investors have increased bets the ECB will raise its main rate to 3.75% as soon as March. The yield on the three-month Euribor futures contract for March was at 3.92% today, up from 3.75% on December 4. The contracts settle to the three-month inter-bank offered rate for the euro, which has averaged 16 basis points more than the ECB's benchmark rate since the currency's start in 1999. (Bloomberg)