The closely watched monthly purchase managers' index, or PMI, by S&P Global fell from 52.0 in June to 49.4, below the 50-point level that indicates growth.
Eurozone business activity unexpectedly contracted this month due to a downturn in manufacturing and a near-stalling of service sector growth as burgeoning costs push consumers to cut back on expenditure.
S&P Global's flash Composite Purchasing Managers' Index (PMI), seen as a good gauge of overall economic health, fell to 49.4 in July from 52.0 in June.
A reading below 50 indicates a contraction and July's preliminary estimate was the lowest since February 2021.
"The eurozone economy looks set to contract in the third quarter as business activity slipped into decline in July and forward-looking indicators hint at worse to come in the months ahead," said Chris Williamson, chief business economist at S&P Global, on Friday.
"Excluding pandemic lockdown months, July's contraction is the first signalled by the PMI since June 2013, indicative of the economy contracting at a 0.1percent quarterly rate."
A Reuters poll published last week predicted the euro zone economy would expand 0.2% this quarter.
Concerns about inflation
Inflation in the currency union was 8.6 percent last month, official data showed, and while the composite output price index in the PMI survey fell from June's 65.3 it remained high at 63.9.
On Thursday, the European Central Bank raised interest rates by more than expected, confirming that concerns about runaway inflation now trump growth considerations.
The PMI covering the bloc's dominant services industry dropped to a 15-month low of 50.6 in July from 53.0.
The cost of living crisis has kept consumers wary and they have cut back on non-essential spending so the services new business index fell to 48.4 from 51.8, its lowest since February last year.
Manufacturing activity fell this month for the first time in over two years. The factory PMI sank to 49.6 from 52.1 while an index measuring output that feeds into the composite PMI was 46.1 compared to June's 49.3, its lowest since May 2020.
Factory managers turned gloomy about the year ahead and the future output index fell to 49.7 from 51.5.
"Business expectations for the year ahead have meanwhile fallen to a level rarely seen over the past decade as concerns grow about the economic outlook, fuelled in part by rising worries over energy supply and inflation but also reflecting tighter financial conditions," Williamson said.