EU Lowers Forecast as Euro Area Heads For Two-Year Slump

The euro-area economy will shrink more than previously estimated in 2013 as part of a two-year slump that has pushed up unemployment to a record, according to the European Commission.

Gross domestic product in the 17-nation currency bloc will fall 0.4 percent this year, compared with a February prediction of 0.3 percent, the commission said in a report issued in Brussels today. This follows a 0.6 percent contraction in 2012 and shows the region headed for its first ever back-to-back years of falling output.

France, now projected to shrink 0.1 percent instead of growing by the same amount, joined seven other euro-area economies expected to contract this year. Growth across the currency bloc will return too slowly to reduce unemployment, as the euro area remains dependent on exports to offset the impact of the sovereign debt crisis and banking woes, the European Union said.

“In view of the protracted recession, we must do whatever it takes to overcome the unemployment crisis in Europe,” said EU Economic and Monetary Affairs Commissioner Olli Rehn. He called for the EU to undertake “structural reforms” to bring back jobs and said budget consolidation will continue at a slower pace.

For France and Spain, that may translate into two extra years to meet the EU’s deficit goals, Rehn told reporters in Brussels. Other nations, like the Netherlands, Poland and Slovenia, may get one additional year.

Record Unemployment

Five euro-area nations have so far sought international aid during a financial crisis that has left 19.2 million workers without jobs and required trillions of euros in financial-sector assistance. The euro area’s response has focused on lowering national debts and strengthening banking regulation, a strategy endorsed in today’s report.

Unemployment in the euro area is expected to climb to 12.2 percent in 2013, up from 11.4 percent last year. An “increasing labor-market mismatch” will keep the jobless rate high in the medium term and bodes poorly for those who have been out of work for extended periods, according to the EU.

The euro was higher against the U.S. dollar, trading at $1.3125 at 12:46 p.m. in Brussels, up 0.5 percent on the day. Today’s rise follows a decline yesterday against 15 of its 16 major peers and comes as markets wait to see how U.S. unemployment data follows last month’s disappointing report of the fewest new positions in nine months.

Rate Cut

The European Central Bank yesterday reduced its key interest rate to a record low, the first rate cut since July last year. Policy makers meeting in Bratislava trimmed the main refinancing rate to 0.5 percent from 0.75 percent, taking the ECB closer to exhausting its conventional policy tools.

Falling interest rates for the EU as a whole have “not yet fed through to the real economy,” the commission said. It also flagged risks that growth could be even weaker than currently projected if nations slow their structural reforms, if extra budget cuts further damp output or if the euro appreciates and hurts exports.

“High unemployment points to the need for continuing the course in structural reforms,” said Marco Buti, head of the commission’s economics department. “The reduction in fiscal deficits is making headway in a differentiated way.”

At the same time, “intolerably high unemployment in vulnerable member states gives cause for a great concern,” Buti said. The commission’s forecast projects that unemployment will stabilize at high levels in the medium term, with a 12.1 percent forecast for next year.

German Outlook

The euro-area growth outlook for 2014 has become more muted, with a forecast of 1.2 percent growth, down from a February prediction of 1.4 percent. The commission also cut its forecast for the German economy, Europe’s largest, to 0.4 percent growth this year, down from 0.5 percent.

France joins the Netherlands, Italy, Spain, Portugal, Greece, Cyprus and Slovenia as headed for contraction in the new forecast. The Cypriot economy is now expected to shrink 8.7 percent, down from a prior estimate of 3.5 percent, in the wake of a euro-area bailout agreement that forced heavy losses on account-holders at the country’s two largest banks.

Across the 27-nation EU, GDP is now expected to shrink 0.1 percent in 2013, compared to a February forecast of 0.1 percent growth. In 2014, the EU expects 1.4 percent growth, down from a prior estimate of 1.6 percent. EU-wide unemployment is projected at 11.1 percent this year and next.

‘Overly Optimistic’

The euro area as a whole is expected to post a budget deficit of 2.9 percent in 2013, according to the EU report. France, where President Francois Hollande has tussled with EU calls for more austerity, is projected to post a 3.9 percent deficit in 2013 and a 4.2 percent gap in 2014, assuming no changes from current policies.

Rehn said France’s own growth forecast is “overly optimistic” and called for underlying economic changes to bolster growth.

“France badly needs to unblock its growth potential and create jobs,” Rehn said. The country needs to “put a renewed and strong emphasis on structural reforms in the labor market, in the pension systems, by opening up closed professions and services markets.”

Spain is forecast to show a 6.5 percent deficit in 2013. The Spanish economy is now projected to shrink 1.5 percent in 2013, down from a previous forecast of 1.4 percent, with unemployment rising to 27 percent. Greece faces the same expected level of 2013 unemployment, accompanied by a 4.2 percent GDP decline that was improved slightly from a prior forecast of a 4.4 percent fall.

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