Interim Forecast. January 2009


European Commission
Directorate-General for Economic and Financial Affairs

Press conference of 19 January 2009

Overview

Conditions in the financial markets deteriorated at breakneck speed last autumn, reinforcing the global economic downturn. Money, interbank and credit markets became dislocated amid a collapse of confidence among market participants, related largely to uncertainty about the ultimate size and location of credit losses. A systemic meltdown was avoided due to massive liquidity injections by several key central banks together with rescue packages put together by national authorities. As a result, several stress indicators have visibly eased recently. However, the overall situation in financial markets remains far from normal. Evidence is mounting that the risk of an adverse feedback loop between the financial and real sectors is now materialising, as the rapidly deteriorating conditions on the real side affect financial institutions. With the banking sector in the eye of the storm, financing costs have increased and bank lending to the private sector is tightening, especially to households.

As the financial crisis intensified last autumn, economic indicators deteriorated and global economic activity is estimated to have fallen sharply during the last quarter of 2008. Judging from recent survey data, incoming orders and the collapse of the Baltic Dry index of shipping costs, further declines in activity in the short term are in store. Moreover, the downturn is broad-based, with negative spillovers progressively affecting emergingmarket economies. The marked deterioration of underlying global growth is, however, expected to be relatively short-lived as a substantial easing of macroeconomic policies across the globe is set to contribute to a certain recovery of growth from the second half of this year. For the year as a whole, world growth is therefore expected to slow from 3.3% in 2008 to ½% this year, before recovering to 2¾% in 2010. It should also be noted that this outlook depends crucially on an assumed fiscal package of some 5½% of GDP in the US spread out over 2009 and 2010 (which appears very likely when this forecast is being finalised, albeit not yet formally adopted).
As events unfolded late last autumn, it became increasingly clear that the EU would not be spared a deep and protracted recession. Swift and decisive policy action was called for to prevent a downward spiral. The Commission therefore presented ‘a European Economic Recovery Plan’ in November 2008, which was endorsed by the European Council in December. The plan aims to limit the impact of the crisis on the real economy via a comprehensive package of measures at the EU and national level, including a significant budgetary stimulus amounting to €200 billion (corresponding to 1.5% of EU GDP) on top of the automatic stabilisers already at play, and a set of structural reforms to ensure a longer-lasting impact. The impact of the measures announced so far, amounting to 1% of GDP in 2009 and ½% in 2010, has been included in this forecast.
The euro area is already in a recession following a fall in GDP for the second consecutive quarter (as GDP dropped by 0.2% in the third quarter of 2008 in both the EU and the euro area). Following the collapse in survey data across sectors and countries and the marked deterioration in other high-frequency data, the outlook is for a continued fall in GDP throughout the first half of this year.

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