Recession Risk Grows for Euro Region as Commission Reduces 2012 Forecast

The European Commission cut its euro-region growth forecast for next year by more than half and said it sees the risk of a recession as leaders struggle to contain the fiscal crisis.

Gross domestic product may grow 1.5 percent this year and 0.5 percent in 2012, the Brussels-based commission said today. It had earlier projected the 17-nation region to expand 1.6 percent and 1.8 percent this year and next, respectively. In 2013, the economy may expand 1.3 percent, the commission said.

The euro-area economy is edging toward recession as governments are seeking ways to end the turmoil that has rattled global equity markets. In Italy, Prime Minister Silvio Berlusconi failed to convince investors that his country can slash the region’s second-largest debt burden. The commission said the risk of an economic contraction is “not negligible” and identified the fiscal crisis among the main threats.

“The outlook is unfortunately gloomy,” Olli Rehn, the EU economic and monetary affairs commissioner, told reporters in Brussels today. “The forecast is in fact the last wake-up call. The recovery has now come to a standstill and there’s the risk of a new recession unless determined action is taken.”

The euro extended gains after the report was released, trading at $1.3569 at 11:43 a.m. in Frankfurt, up 0.2 percent on the day.

Greek Debt

The euro region’s gross debt may average 90.4 percent of gross domestic product next year, up from 88 percent in 2011, today’s report showed. In 2013, government debt may average 90.9 percent. The region’s budget deficit may reach 4.1 percent of GDP this year before averaging 3.4 percent in 2012, according to the commission. That’s above the region’s 3 percent limit for budget shortfalls.

In Greece, government debt may reach 198.3 percent of GDP in 2012, up from an estimated 162.8 percent this year. Italy’s debt is seen at 120.5 percent of GDP this year and next.

Rehn told five EU nations to speed up their deficit-cutting efforts or face sanctions.

Belgium, Cyprus, Hungary, Malta and Poland need to provide “convincing evidence of permanent fiscal measures and preferably full 2012 budgets” by mid-December, Rehn said. “I am sending letters to specify our requests to the finance ministers of these five countries in the course of today.”

‘Wide-Ranging’ Reforms

Concern that countries may not be able to pay their debts has pushed up borrowing costs across Europe. Italian government bond yields widened to euro-era records versus German bunds as the sovereign-debt crisis spread to the region’s third-largest economy. Berlusconi agreed to step down after the approval of an austerity plan to tame the country’s debt burden.

Rehn called on Italy to present a “comprehensive and wide- ranging package of reforms” to revive economic growth. He also signaled concern about the country’s surging bond yields.

“While in the very short term the impact on the sovereign is not as such dramatic, relatively soon toward next year and the medium term it would have a significant impact on financing conditions and thus on the real economy,” he said. “The first and foremost thing for Italy is to restore political stability and capacity of decision making.”

Failure to contain the crisis that began with Greece led Portugal and Ireland to seek bailouts. At a meeting in Cannes, France, earlier this month, global leaders signaled concern that if the crisis keeps festering, the world economy could face a repeat of the chaos that followed the 2008 collapse of Lehman Brothers Holdings Inc.

‘No Silver Bullet’

Marco Buti, head of the commission’s economics division, said in the report that global leaders must “re-energize” joint efforts to help “steer out of the danger zone again.”

“There is no silver bullet to restore confidence at this juncture,” Buti said in the introduction to the report. “What is needed is a bold and encompassing strategy that is implemented with a steady hand over the long haul.”

The European Central Bank on Nov. 3 unexpectedly cut its benchmark interest rate by 25 basis points to 1.25 percent, with President Mario Draghi saying the economy faces “intensified downside risks.” The central bank has purchased bonds of distressed nations to help contain the crisis.

The Frankfurt-based central bank said today that professional forecasters halved their growth estimates for next year. The euro-region economy may expand 0.8 percent in 2012 instead of a previously projected 1.6 percent, it said, citing the quarterly survey. In 2011, the economy may grow 1.6 percent.

‘Deteriorating Confidence’

Rehn said that Europe’s recovery “has come to a standstill,” with GDP expected to stagnate “until well into 2012,” following a “sharply deteriorating confidence.”

With the economy cooling and consumers from Spain to Ireland hurt by budget cuts, companies may struggle to maintain their earnings growth. Siemens AG (SIE), Europe’s largest engineering company, today forecast stagnant profit next year, with Chief Executive Officer Peter Loescher in a Bloomberg Television interview calling the environment “more volatile.”

European unemployment unexpectedly increased in September, suggesting companies are under increasing pressure to cut costs. Schneider Electric SA (SU), the world’s biggest maker of low- and medium-voltage equipment, on Oct. 20 lowered its 2011 earnings target for a second time in four months and said it may eliminate jobs on faltering demand.

Broader Crisis

Euro-region inflation may average 2.6 percent this year and 1.7 percent in 2012, the commission said. It had previously forecast annual consumer prices to rise 2.6 percent and 1.8 percent this year and next, respectively. Employment may rise 0.3 percent before stalling in 2012, it said.

Concern is mounting that sovereign-debt strains will spiral into a broader crisis for a global financial system that is more linked than ever and where half of Europe’s bank bonds are held by other lenders in the region.

Credit Agricole SA, France’s third-largest bank, said today that third-quarter profit slumped 65 percent, hurt by provisions on Greek sovereign debt. CEO Jean-Paul Chifflet said the company is preparing for some “complicated quarters” ahead.

“Financial sector fragilities are likely to restrict lending, thus curtailing the prospects for investment and consumption further,” Rehn said. “Firms are projected to cancel or postpone investment amid increasing uncertainty.”

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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