US and euro zone 'close to' recession

THE UNITED States and euro zone are “dangerously close to recession”, Morgan Stanley said yesterday, criticising policymakers and predicting the European Central Bank will have to reverse its rates policy.

The Morgan Stanley research note, which cut global growth forecasts, was cited by stock traders as adding to nervousness over the US and euro-zone debt crises and the economic drag of austerity measures in debt-burdened countries.

Deutsche Bank added to the gloomy market tone by cutting its gross domestic product (GDP) forecast for China. Morgan Stanley cut its global GDP forecast to 3.9 per cent from 4.2 per cent for 2011, and to 3.8 per cent from 4.5 per cent for 2012.

It also predicted the ECB’s next interest rate move would be a cut, a sharp contrast to Reuters’s last ECB poll earlier this month when just one bank of 50 surveyed – Australia’s Westpac – forecast a cut next. The ECB has raised its benchmark rate twice this year.

“Our revised forecasts show the US and the euro area hovering dangerously close to a recession – defined as two consecutive quarters of contraction – over the next six to 12 months,” Joachim Fels, who co-heads Morgan Stanley’s global economics team, said.

That was not the bank’s base-case scenario, he said, noting the corporate sector still looked healthy and lower inflation will ease pressure on consumers’ wallets, while central banks such as the Federal Reserve and ECB could try to loosen policy further.

“A negative feedback loop between weak growth and soggy asset markets now appears to be in the making in Europe and the US,” Mr Fels said. “Against this dire growth backdrop, we no longer expect the ECB to hike rates. Instead, we now see the bank cutting rates next year. We lower our refi rate forecast for the end of 2012 to 1 per cent from 2 per cent before.”

Economists are latching on to a shift evident among investors. Traders in financial markets have been moving to price in a cut since the ECB’s last press conference on August 4th. Standard Bank said this week it expects the ECB to make its first cut early next year.

Weak growth data from the euro’s main economies, Germany and France, has put further pressure on European politicians who have been haggling over ways to stop the bloc’s sovereign debt crisis from engulfing Spain and Italy.

The US economy also stumbled badly in the first half and came dangerously close to contracting in the first quarter. High unemployment, a bruising political battle in Washington over the debt ceiling and spending cuts in July, and a stock market slump all helped push consumer sentiment to its lowest level in over 30 years.

“Recent policy errors – especially Europe’s slow and insufficient response to the sovereign crisis and the drama around lifting the US debt ceiling – have weighed down on financial markets and eroded business and consumer confidence,” the Morgan Stanley note said. It now sees growth in developed market economies averaging only 1.5 per cent this year and next, down from its previous view of 1.9 per cent and 2.4 per cent, respectively. – (Reuters)