Euro zone economy contracts at rapid pace

Fri, May 25, 2012, 01:00

THE EUROZONE crisis has led to the region’s economy contracting at the fastest pace for almost three years and sent German business confidence tumbling this month.

Gloomy economic surveys released yesterday showed that worries about the future stability of Europe’s monetary union hit economic activity more than economists had feared, with the eurozone decoupling from growth trends elsewhere in the world.

They add to the pressure for an even more aggressive response to the crisis from the European Central Bank.

Purchasing managers’ indices showed euro zone private sector economic activity contracting in May at the fastest rate since June 2009. France saw a particularly sharp contraction, but the German index also showed the euro zone’s largest economy had fallen into contraction territory.

Separately, the Munich-based Ifo institute said its German business confidence index had tumbled from 109.9 in April to 106.9 in May, the lowest since November.

The index saw a larger monthly drop last August, but otherwise the fall was the biggest since 2008 when the world economy was reeling from the collapse of Lehman Brothers.

Gilles Moec, European economist at Deutsche Bank, said optimism about euro zone prospects earlier this year had been thrown into reverse, and warned financial market tension created by uncertainty over Greece “is likely to weigh further on consumer confidence, firms’ investment decisions and crucially on banks’ lending intentions”.

Euro zone gross domestic product in the first three months of the year was flat, thanks largely to a strong German performance which meant the 17-country region had escaped a “technical” recession, defined as two quarters of contraction.

But the latest PMI data are consistent with GDP contracting 0.5 per cent in the second quarter, according to Markit, which publishes the survey. So far, the ECB has stuck to its forecast of a gradual recovery this year. The euro’s recent weakness could help boost growth. But the latest data strengthened the case for the ECB to lower its main interest rate from 1 per cent.

Holger Schmieding, chief economist at Berenberg Bank, said a cut would help banks that had borrowed heavily from the ECB. “It would help where help was needed – the banks of the worst-hit countries.”

Analysts see the chances increasing of the ECB launching a third offer of unlimited three-year loans. Two such offers, in December and February, saw it pump more than €1 trillion into the banking system, helping calm the eurozone crisis – but only temporarily.

Germany’s composite index fell from 50.5 to 49.6 while France’s dropped from 45.9 to 44.7.

The “composite” euro zone PMI, covering manufacturing and services, fell from 46.7 in April to 45.9 in May. A figure below 50 indicates a contraction in activity.

The euro hovered just above a two-year low in volatile trade against the dollar yesterday.

European Central Bank data showed €35.4 billion of net direct portfolio investment flowed out of the euro zone in March, suggesting investors are starting to shun the region’s assets. – (Copyright The Financial Times Limited 2012 /Reuters)