Business confidence rose this month in Germany and France, data showed on Tuesday, suggesting the eurozone's two largest economies may be coping better than expected with the strong euro and record high oil prices.
The improved sentiment brightens growth prospects for the 13-nation bloc and may strengthen the case of European Central Bank hawks calling for future interest rate rises to head off mounting inflationary pressures.
Germany's closely watched Ifo index climbed to 104.2 from 103.9 and France's business climate reported by the INSEE statistics bureau rose to 110 from 108, both indicators defying expectations for a fall. The data left analysts baffled and the euro and stocks pared losses after the first rise in the Ifo for seven months.
"It's hard to understand why morale has risen in two of the big three eurozone countries in the face of euro strength, the prospect of a US recession and a potential credit crunch," said BNP Paribas chief eurozone economist Ken Wattret.
"Is it just a temporary respite? I expect so, but the risk is that this is a misleading signal of the dynamism of the eurozone economy and it will strengthen the hand of ECB hawks who are focused on inflation and want to raise rates."
Business confidence in Italy, the area's third largest economy, fell to its lowest level since December 2005, the ISAE institute reported, which Wattret said was more in line with what might have been expected given the economic environment. Further ammunition for hawks on the ECB's governing council was provided by German price data on Tuesday which showed inflation running at its quickest level since the mid-1990s and well above expectations.
SERVICE SECTOR SUFFERING:
However, the central bank will need plenty more evidence of economic resilience before considering resuming its rate tightening cycle which it interrupted after a credit crunch hit financial markets over the summer.
Growth in service sector activity slowed this month to its lowest level since August 2005, the eurozone purchasing managers index showed last week, while there was a modest rise in the pace of manufacturing.
Most analysts expect the ECB to hold its key interest rate at 4.0 percent through 2008 in the face of a weakening economy and an inflation rate which hit 2.6 percent in October - well above the bank's 2 percent reference ceiling - and is expected to stay above 2 percent for much of 2008.
French President Nicholas Sarkozy has said two weeks of strikes by transport workers in November could hit the economy, and analysts said any impact would probably be seen in business confidence from December.
Euro zone growth is expected to slow sharply in the fourth quarter and continue to soften as business struggles with oil prices close to $100 per barrel and a euro which last week hit a record high above $1.49. German exporters, specialised in high quality products, have weathered the euro's rise better than most, but in recent months even German officials have begun to sound concerned.
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