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Euro zone seen exiting recession only to enter 'stagnation'

Wednesday, 24 Jul 2013 | 7:54 AM ET
Harry Hook I Stone | Getty Images

Euro zone purchasing managers index (PMI) data showed a rebound in July, but analysts warned that the region faced severe headwinds in the coming months which could impede, and even reverse, the region's return to growth.

Economic activity expanded in July for the first time since January 2012, PMI readings released on Wednesday showed.

(Read more: Euro zone business activity expands, euro rallies)

The data boosted stocks and caused the euro to rally to a one-month high against the dollar. But economists pointed out that the improved readings were likely to lead to a very small uptick in growth in the third quarter.

Kit Juckes, the global head of foreign exchange strategy at Societe Generale, told CNBC that the European recession was ending but only "to be replaced by European stagnation".

Chris Williamson, chief economist at Markit, which publishes the PMI data, predicted growth forecasts for the third quarter would be revised up to 0.2 to 0.3 percent from the current estimate of 0.1 percent.

However, he cautioned, much depended on the global environment, political situation, corporate investment and consumer demand - hardly small obstacles for the euro zone to surmount.

(Read more: Is a perfect storm brewing in euro zone?)

The upside for domestic demand in the euro zone was also likely to remain constrained, Howard Archer, chief U.K. and European economist at IHS Global Insight, told CNBC.

"Widespread restrictive fiscal policy, persistently tight credit conditions in many countries, very high and still rising unemployment and limited consumer purchasing power [are all factors that could constrain growth]," Archer said.

Picture for euro zone is brighter: pro
Chris Williamson, global chief economist at Markit, says the "very strong" euro zone PMI number, led by manufacturing, should lead to an upgrade in GDP forecasts and proves that the region "is getting there".

"This is particularly true of the southern periphery euro zone countries, but France and the Netherlands also still face significant headwinds. Meanwhile, global growth is muted and fragile, which is currently limiting the upside for euro zone exports."

Archer also pointed out that the PMI figures would reinforce a belief that the ECB could keep interest rates unchanged at 0.50 percent at its August 1 policy meeting.

The ECB has recently been under pressure to stimulate growth and to cut its benchmark interest rate to 0.25 percent.

But Ben May, European economist at Capital Economics said a rate cut would likely only come in September. What affect that would have, however, remained to be seen.

"It could provide a boost for sentiment, but once again, a 0.25 percent change isn't going to have a big effect on the economy," May said.

"The key thing in my mind is that over the last few years we've seen data pick up and then a few months later, it has slipped back. It's just as likely that the PMI index could slip back after the summer," May added.

"At the end of the day, whether the euro zone contracts or expands by 0.1 or 0.2 percent in the rest of the year, it's still only consistent with stagnation. In the grand scheme of things that pace is nothing to get excited about."

By CNBC's Holly Ellyatt, follow her on Twitter @HollyEllyatt. Follow us on Twitter: @CNBCWorld

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