Germany stagnated in the fourth quarter, producing zero growth, up from 0.2 percent revised up in the third quarter, according to separate figures released on Friday.
Economists polled by Reuters estimate that the single currency area grew at a quarterly rate of 0.1% over the period; it would be the slowest expansion rate in the block since early 2013.
"At the start of the year, we saw surveys pointing to a recovery in the manufacturing sector and the resilience of services in the euro area," said Nadia Gharbi, senior economist at Pictet Wealth Management. "But the reliable data we have seen recently has been pretty horrible."
A number of economists feared that the sharp decline in industrial production and consumer spending would reduce growth in Germany and the euro area below zero. The German economy has been hit by falling consumption by households and governments, while capital investment in machinery and equipment has fallen. German exports fell as imports increased. But this was partially offset by growth in construction and other capital investment.
"So far the numbers are just horrible, not only for industrial production but also for retail sales," said Anatoly Annenkov, senior European economist at Société Générale.
However, he is still betting on a rebound early this year. "I don't necessarily see [the fourth-quarter figures] as the start of a recession in Germany, as the outlook for the first quarter improved and it will take major disruptions to the supply lines to have an impact, "he said.
Some additional economic disruption could come from the coronavirus epidemic in China, which is expected to affect manufacturers' supply chains, exports and travel. Merchandise exports to China represent 7% of all German exports, or 2.8% of domestic production in 2018, according to the IMF.
"The coronavirus epidemic poses a substantial risk to the expected global recovery, as hopes rested on an improvement in the Chinese economy," said Stefan Schneider, chief economist for Germany at Deutsche Bank.
"This is particularly true for Germany, where weak Chinese demand was a major driver of the deceleration of exports in 2019," he said, adding that Deutsche estimated the coronavirus epidemic would shrink by 0, 2 percentage points growth in the first quarter, "causing a technical recession". . . . quite likely. "
Investors were relatively undisturbed by the weak data, which pushed the Stoxx 600 index of large companies in the region to a record level earlier this week. Bond markets also rebounded, pushing 10-year Greek bond yields to a historic low of less than 1%.
Economists said the market surge was fueled by investors' belief that if the economy fell into a rut, central banks would step in to ease monetary policy.
"Industrial production has fallen, the ECB rate has lowered expectations," said Katharina Utermöhl, senior economist for Europe at Allianz.
The European Monetary Bank’s next monetary policy meeting will take place on March 12, by which time it should review its growth and inflation forecasts.
"This will be an opportunity for the ECB to reconcile at its March meeting by saying that the virus increases the downside risk to the economy," said Gharbi at Pictet.
ABN Amro forecasts that the ECB will cut rates from minus 0.5 to minus 0.6% and increase the size of its bond buying program from 20 to 40 billion euros per month.
But based on interest rate swaps, most investors still expect the ECB to keep rates unchanged this year. Goldman Sachs said in a research note this week that a rate cut was unlikely "but we are not ruling out the possibility that the bank will react with monetary easing if the coronavirus affects the business and financial conditions" .
Oliver Rakau, chief economist of the euro area at Oxford Economics, said: "There is increasing speculation that the ECB will act in March, but we believe there is a barrier large enough that the BCE continues to cut rates. "
Philip Lane, the ECB chief economist, said this week that he is monitoring the impact of the coronavirus, which could provide "a fairly significant short-term impact on the economy". But he added that this was usually followed by a "significant rebound" after the crisis ended.
Despite all the bad news, economists say there is reason to be optimistic. Oxford Economics' Rakau said the disappointing numbers in industrial production could be explained in part by an odd timing: there were an unusually high number of "bridge days" between weekends and days holidays, such as Christmas and New Year's Day, at the end of last year, when businesses often close.
A sharp drop in oil prices and a fall in the value of the euro against the US dollar since the start of the year should both help boost activity in the euro area. Annockov of SocGen said another positive sign was a drop in inventories as a proportion of industrial orders to a 12-month low.
Yet Europe’s open economy is heavily dependent on exports for growth, so any widespread disruption of the coronavirus could weigh heavily on economic activity this year, economists warned.
"This virus is another negative shock that has the potential to derail the whole story," said Annenkov. "But we are not yet ready to cancel the possibility of a recovery in the first or second quarter. "