European Economy Slows More Than Forecast as Debt Crisis Saps German Might

European economic growth slowed more than economists forecast in the second quarter as Germany’s recovery almost ground to a halt amid the worsening sovereign- debt crisis.

Gross domestic product in the 17-nation euro area rose 0.2 percent from the first quarter, when it increased 0.8 percent, the European Union’s statistics office in Luxembourg said in a statement today. That’s the worst performance since the euro region emerged from a recession in late 2009. Economists had forecast the economy to expand 0.3 percent, according to the median of 34 estimates in a Bloomberg News survey.

Europe’s economy may struggle to gather strength as governments from Italy to Spain step up budget cuts to fight the debt crisis. In Germany, Europe’s largest economy, growth almost stalled in the second quarter. German Chancellor Angela Merkel will meet French President Nicolas Sarkozy today in Paris under pressure to do more to combat the fiscal crisis.

“Growth may virtually stagnate in the second half and there’s a threat of a renewed recession,” said Martin van Vliet, senior economist at ING Groep NV in Amsterdam. “It’s up to Merkel and Sarkozy to prevent further contagion to the economy; the longer the turbulences persist, the higher the risk of a recession.”

German Slowdown

The euro declined from a three-week peak against the dollar and European stocks fell for the first time in four sessions, with the Stoxx Europe 600 Index dropping 1.6 percent. The euro traded at $1.4363 at 1:04 p.m. in London, down 0.6 percent on the day.

Euro-area exports dropped a seasonally adjusted 4.7 percent in June from the previous month, when they rose 1.5 percent, the statistics office said in a separate report today. Imports slumped 4.1 percent and the trade deficit widened to 1.6 billion euros ($2.3 billion) from 800 million euros.

German GDP rose 0.1 percent in the second quarter after increasing 1.3 percent in the previous three months. That’s the worst performance since a contraction in the first quarter of 2009. The French economy unexpectedly stalled in the April-June period, while Italy’s GDP increased 0.3 percent.

“With Germany’s economy faltering, the euro region didn’t have any significant growth impulses,” said Alexander Krueger, chief economist at Bankhaus Lampe KG in Dusseldorf, Germany. “The second half will only show a modest expansion overall.”

Financial Turmoil

Volkswagen AG (VOW), the region’s biggest automaker, last month forecast the western European market will be “burdened” in the second half by governments’ fiscal woes.

Adding to signs of slowdown, European manufacturing growth eased in July and economic confidence slumped to the lowest in almost a year. German investors were the most pessimistic in 2 1/2 years last month and executive confidence also weakened. Industrial output unexpectedly dropped in June.

“A slowdown was to be expected” after an “extremely strong first quarter” in most countries, Thomas Herrmann, an economist at Credit Suisse Group AG in Zurich, told Bloomberg Television before today’s report. “The important question will be to what extent the recent financial turmoil and debt crisis will have knock-on effects on confidence.”

European leaders last month were forced to pledge a second aid package to Greece to prevent the crisis from spreading to larger nations. The European Central Bank earlier this month started purchasing Italian and Spanish government debt and extended its unlimited lending to banks through the end of the year to ease tensions on financial markets.

Budget Crisis

While ECB President Jean-Claude Trichet cited “ongoing tensions” on financial markets among the growth risks, the central bank last month increased borrowing costs a second time this year, bringing the benchmark to 1.5 percent, to fight price pressures.

“The best we can hope for is policy-rate stability through the rest of the year,” Steven Barrow, the London-based head of Group-of-10 currency research at Standard Bank Plc, said in an e-mailed note. The prospects for a rate cut are “more dependent on a downward spiral in the region’s debt problems than a lurch toward recession.”

Increasing concern about a budget crisis spilling over into the broader economy led to an 11 percent decline in the Stoxx Europe 600 Index over the past two months. Germany’s benchmark DAX Index has slumped 15 percent over that period, bringing annual losses to 13 percent.

Kion Group GmbH, a German forklift maker, last week signaled concern that tougher austerity measures could hurt economic growth and earnings.

Spending Cuts

“The current sovereign-debt crisis could have a material adverse effect on our business, financial conditions and results of operations,” the company said on Aug. 12. “There could be another downturn or so-called double-dip recession.”

With governments from Italy to Ireland toughening spending cuts to lower their debt burdens and plug budget gaps, companies have relied on faster-expanding markets for order growth. German sports-car maker Porsche AG said on Aug. 1 that its first-half operating profit jumped 59 percent, with sales increasing fastest in China.

Euro-area exports to the U.S. rose 17 percent in the five months through May from a year earlier, while shipments to the U.K., the euro area’s largest market, increased 14 percent. Exports to China surged 27 percent. Detailed data are published with a one-month lag.

Sales Growth

Companies may struggle to maintain their sales growth as economies around the world show signs of cooling. Hong Kong’s economy shrank for the first time since the global financial crisis in the April-June period. In Russia, economic growth weakened for a second straight quarter.

With exports cooling, Royal Bank of Scotland lowered its 2012 euro-area growth forecast to 1.1 percent from 1.6 percent, economist Nick Matthews said in an e-mailed note on Aug. 12. In the third quarter, the economy probably expanded 0.1 percent, he said.

“The external environment appears to have deteriorated more meaningfully than expected,” he said. “In an environment of continued periphery stress, we expect growth in the second half of this year to be much weaker than previously forecast.”

Second-quarter GDP rose 1.7 percent in the euro region from a year earlier, today’s report showed. The statistics office will release a breakdown of the GDP data next month.

To contact the reporter on this story: Simone Meier in Zurich at smeier@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net

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