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So it seems that European Central Bank (ECB) head Mario Draghi hasn’t lost his marbles – the euro zone really is seeing signs of improvement!

If you recall, in the ECB rate decision held earlier this month, Draghi said that the economy should slowly return to health this year, claiming that the markets are beginning to stabilize. This may have sounded like a lot of rubbish to some, considering that the euro zone fell into technical recession in Q3 2012 and is expected to have contracted even further in Q4 2012. But apparently, there is truth to Draghi’s upbeat remarks!

According to the euro zone flash PMIs released earlier this week, the region’s rate of contraction is finally slowing down. In fact, Markit, the institution that publishes the PMI reports, believes that the region’s slide should finally come to an end in the first half of 2013. There’s hope for the euro zone yet!

The euro zone manufacturing PMI exceeded expectations in January as it rose from 46.1 to 47.5, leaving the consensus forecast of 46.6 in the dust. Likewise, the services PMI recorded a stronger-than-expected performance. The index surged from 47.8 to 48.3, beating its 48.1 consensus forecast.

Germany led the way as it continued to power through the recession; its private sector grew at its fastest pace in a year. Meanwhile, France, the second largest economy in the region, saw its composite index decline to its lowest level since 2009, but luckily, its losses were offset by broad gains in the peripheral economies. It looks like the “positive contagion” that Draghi raved about in his ECB announcement is beginning to take effect, eh?

Still, as tempting as it is to say that the worst is finally behind us, we can’t really say that the euro zone is in the clear yet. For one, GDP growth is expected to come in flat for Q1 2013. Experts aren’t really counting on a quick and robust recovery with high growth figures this year; rather, they’re expecting a moderate pace of growth at best.

Secondly, it was noted that the recent economic improvements that we witnessed were mainly export-driven. Of course, this isn’t necessarily a bad thing. However, it would be much more comforting to see the region’s recovery being fueled by strong domestic demand, rather than having its economic performance become highly dependent on its trading partners.

Outlook for the euro zone and the euro

Overall, that these PMIs came in much better than expected suggests that we could have more upside surprises in store for us in the coming months. Besides, other forward-looking indicators (i.e. business confidence and new orders reports) also hint at further improvements in the coming months.

EUR/USD Daily Chart

From a technical standpoint, it looks as though EUR/USD still has room to climb. On its daily chart, the pair broke the neckline of an inverted head and shoulders pattern, and since then it has formed higher highs and low, suggesting further gains for the pair.

If the euro zone can manage to string together a few months of strong economic reports, it may just lift EUR/USD back to the 1.4000, a level that hasn’t been touched since 2011.

Do you think it has what it takes to rise that high?