Europe's economy will not start recovering until the second half of next year, the European Commission said on Monday, and cut forecasts made little more than three months ago to reflect the depth of the recession. Despite what it called recent "positive signals", the EU's executive arm said the economy of the euro currency zone would shrink 4.0 percent this year and 0.1 percent next year, with its overall public deficit tripling by 2010.
-- Euro zone unemployment seen at 11.5 percent
-- ECB's Papademos urges credible fiscal 'exist strategy'
"The European economy is in the midst of its deepest and most widespread recession in the post-war era," Economic and Monetary Affairs Commissioner Joaquin Almunia said of a slowdown which has already led to rising joblessness, street protests and the collapse of some governments across the 27-nation bloc. "The outlook is still gloomy, but for the first time since mid-2007 some positive signals have appeared in the last week," he told a news conference, noting healthier financial markets and an improvement in business expectations indices.
The Commission growth forecasts are nonetheless a sharp downward revision of January 19 projections of a 1.9 percent contraction this year and 0.4 percent growth in 2010, a scenario that would have implied an earlier start to the recovery. ECB Vice-President Lucas Papademos said governments were right to use stimulus measures to try to halt the slide in growth but warned that at some point they would have to rein in what he said was becoming a "serious fiscal deterioration".
"Fiscal policy needs to have a credible exit strategy from the current extraordinary circumstances," he told an event in Brussels, where top EU financial officials were gathering for two days of meetings on the economy. The forecasts were released one month before a European Parliament election in which national governments fear voters will show their dissatisfaction with efforts to combat the global economic crisis, despite large stimulus packages.
The forecasts followed data showing eurozone manufacturing activity declining at its slowest pace in six months in April, with signs across its four leading economies that the worst of a severe recession may be over. Almunia said that were it not for welfare spending and other fiscal stimulus from EU governments amounting to 5 percent of the bloc's GDP in 2009-2010, the contraction this year would be 5 percent rather than 4 percent.
"We are no longer in a free-fall...Thanks to fiscal stimulus and monetary stimulus ... we will avoid any new falls," he said, noting that a long-scheduled June summit of EU leaders would discuss whether further action was needed. The forecasts coincided with data which showed manufacturing activity had grown in China and India in April, raising hopes that the sharpest slump in six decades may have bottomed out.
But Jean-Claude Juncker, chairman of the Eurogroup of eurozone nations, cautioned against too much optimism. "I have the impression that after the US, things will start to stabilise in Europe, but have not yet stabilised in a way that we could declare that the bottom has been reached," he told reporters.
Economists pointed to the Commission forecast that the overall eurozone budget deficit will more than triple to 6.5 percent of gross domestic product next year - above the EU's upper target rate of 3 percent - as something that governments will struggle to deal with in the medium-term.
"The question is whether governments will really, in two or three years time, commit themselves to fiscal consolidation," said Carsten Bazeski, senior economist at ING in Brussels. "You don't have to be a prophet to say that problems will arise," he said of the social impact of any belt-tightening needed to bring national finances back into line with targets.
The Commission also forecast soaring unemployment that would reach 11.5 percent of the workforce in 2010 and inflation well below the European Central Bank's target this year and next. The ECB meets on monetary policy on May 7, when it is expected to cut its main refinancing rate by 25 basis points to 1.0 percent and announce other ways of policy easing.
Almunia warned that for the 2010 recovery to happen, Europe had first to deal with toxic assets on banks' balance sheets that were choking off lending to the credit-starved economy. "Member states have started tackling bad assets, but more needs to be done," he said.
The Commission's growth forecasts are slightly more upbeat than those of the International Monetary Fund, which expects the eurozone to shrink 4.2 percent in 2009 and 0.4 percent in 2010. But they are more pessimistic than the ECB's worst-case scenario of a 3.2 percent economic decline in 2009.
While Ireland will have the biggest budget gap in Europe with a deficit of 12 percent of GDP this year rising to 15.6 percent in 2010, the effect of the slowdown will be dramatic in eastern European countries, ending years of growth and possibly undermining their efforts to join the euro. Almunia said the Commission would take disciplinary steps versus Romania, Malta, Poland, Lithuania and Latvia, the latest in a line of measures against states with rising deficits.