Some market segments are still pricing in rapidly declining inflation and a mild growth slowdown, an assessment which could turn out to be too benign. In addition, investors do not expect the growth slowdown to significantly challenge corporate solvency or profitability. Over the next 12 months, corporate earnings are still expected to grow, while speculative-grade default rates are forecasted to pick up only slightly.
But euro area corporates are facing continued headwinds from high input prices, higher borrowing costs and lower sales. Industrial producer price inflation in the euro area exceeded 40% in June. The resulting margin squeezes could limit firms’ debt servicing capacity, particularly in the case of firms that are highly indebted and are still suffering from the repercussions of the pandemic.