Commission predicts deeper downturn in 2009

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The European Commission has revised its economic forecast for 2009, predicting long-lasting recession in Europe. Meanwhile, amid deteriorating public finances and growing financing difficulties for national recovery plans, the Commission has also put the idea of issuing common EU bonds back on the agenda.

Eurozone GDP is expected to shrink by 1.9% during 2009. Only two months ago (EURACTIV 03/11/08), the Commission predicted growth of 0.1% in 2009. The same downward trend is visible for the EU economy as a whole, which last November was expected to grow 0.2% in 2009 and is now predicted to shrink by 1.8%.

All the big EU economies will record significant economic downturns in 2009. UK GDP is expected to shrink by 2.8%. In Germany, the predicted fall is 2.3%, with similarly grim figures for Italy (2%) and France (1.8%). 

Within the euro zone, Ireland will be hit worst by the crisis, with a predicted decline of 5% in 2009. Outside the euro zone, the Baltic countries appear to be the main victims of the crunch, with GDP dives of 4% for Lithuania, 4.7% for Estonia and 6.9% for Latvia foreseen. 

“Conditions in the financial markets deteriorated at breakneck speed last autumn, reinforcing the global economic downturn,” declared the Commission’s economic forecast for 2009, published yesterday (19 January).

Inflation aside, all economic indicators predict a gloomy year ahead. Unemployment will rise to 10.2% by 2010 in the euro zone. It will peak at 18.7% in Spain, which was hit hard by the housing bubble burst. “We have not seen a situation like this since the 1990s,” commented Economic and Monetary Affairs Commissioner Joaquin Almunia at a press conference in Brussels.

Public deficits in 2009 are expected to break the 3% ceiling set by the Maastricht Treaty (as a ratio of GDP) in seven eurozone countries (including France, Italy and Spain) and in another five outside the euro area (including a staggering 8.8% deficit in the UK, made worse by recently announced bank bail-outs). Almunia ruled out opening new excessive deficit procedures, deferring any such decisions to the Commission meeting on 18 February.

In 2009, public debt will grow in almost all member states, reaching 109.3% of GDP in Italy, 96.2% in Greece and 91.2% in Belgium, according to the EU executive. Consequently, differences between bond yield spreads are already widening within eurozone members. “It is a reality that should be tackled by member states,” said Almunia, adding: “Those that did not consolidate public finances in good times should now pay higher yields”. But he categorically excluded defaults by eurozone members. Defaults have been predicted by some analysts, particularly for Ireland.

The seriousness of the crisis was underlined by decisions by Standard and Poor’s, a ratings agency, to downgrade Spain (the eurozone’s fourth-biggest economy) and by reports suggesting that the Irish banking industry is edging closer to complete nationalisation. 

Amid the gloomy forecast, the euro fell sharply against the dollar to finish yesterday at $1.3135.

The only perceived good news was the predicted decline of inflation in the euro zone. However, there is a looming risk of excessive price drops (referred to as deflation), despite strong denials from Almunia.

In extraordinarily hard times, bold ideas come to the fore more easily, hence the notion of issuing common EU bonds to refinance public debts, fund EU projects and ultimately review the way in which the EU budget is funded. 

After denying for months that there was any possibility of addressing the issue, Almunia conceded yesterday that the subject of bonds is again on the EU agenda, “together with many other technical alternatives”. Almunia made also clear that “these discussions will not produce immediate consequences”. 

In August 2007, world financial markets went into a tailspin following the US sub-prime mortgage crisis, forcing central banks to make massive cash injections to keep the system rolling and fend off a possible liquidity crisis. 

The situation became critical as the turmoil spread further, affecting some of Wall Street's best-rated institutions. A year later, the crisis suddenly reached Europe, turning from a purely financial issue to widespread economic collapse.

The idea of using EU bonds was first launched by former European Commission President Jacques Delors through a 1993 plan for growth, competitiveness and employment: the predecessor of the Lisbon Agenda. Delors aimed to use EU bonds to finance the European budget. Another former Commission president, Romano Prodi, backed the idea, but most member states opposed the proposal, fearing it would ultimately increase their expenditure on the Community budget. 

Currently, the bloc is providing financial support to crisis-hit Hungary by issuing EU bonds, using a facility that has not been applied since the establishment of the European Union. The ceiling for the instrument was raised from €12 to €25 billion (EURACTIV 30/10/08). In January, the Commission proposed to offer Latvia up to €3.1 billion via the same facility.

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