Spooked by the Prospect of a Double Dip

Euro-zone consumers may fret about rising prices, but business executives and economists say the real threat for Europe, outside of Britain, is another recession. The Continent's much-discussed recovery has lost its momentum. Manufacturing output is declining, unemployment is mounting, and consumers are shutting their wallets. Experts now say the euro-zone economy will be lucky to expand by 0.9% this year, barely half the growth predicted in January. "The reluctance to spend is really hurting us," says Walter Had, chief executive of Weru, Germany's biggest maker of doors and windows.

Is a dreaded double-dip recession in the offing? The answer won't come until next year, when all the statistics are in. But Europe is definitely being hurt by a new slowdown in the U.S., which buys 10% of its exports. Meanwhile, the effects of the dollar's fall against the euro in the spring and the sharp drop in stock prices in July are only now beginning to take effect. "They have the same impact as an interest-rate hike because they take money out of the economy and curb demand for exports," explains José Luis Alzola, an economist at Schroder Salomon Smith Barney in London. "So they could depress activity further." To make matters worse, private-sector credit demand is slowing: Bank lending increased at an annualized rate of just 2.5% in June and July, compared with 6% in January through May.

Germany is the weakest of the euro-zone economies, and many executives now say they're worried that the country will see no growth at all in the fourth quarter. Since Germany accounts for 30% of euro-zone output, that will pull down the whole region. France and Italy are deep in the mire, too. Growth in industrial output in both countries ground to a halt in August, and joblessness is at a 22-month high of 9% in France. Consumer confidence is at its lowest ebb in five years in Italy. "A manufacturing-sector recession could well be on the way," warns Adolf Rosenstock, an economist at Nomura Securities International Inc. in Frankfurt. "If so, it would spell bad news for the overall economy."

It isn't inevitable that Europe will suffer a double dip. Economists say that to rekindle growth, the European Central Bank should cut interest rates, and governments should slash taxes. But the inflation hawks at the ECB aren't likely to move quickly. And for many governments, room for fiscal maneuvering is limited because their budget deficits are bumping into the limit allowed under European Union rules, which is 3% of the total budget. And if war breaks out in Iraq, even the best policy prescriptions won't be enough to stave off a new economic slowdown.

By David Fairlamb in Frankfurt

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