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Recession Ahead, Euro Break Up Possible: Schroders


Date: Thursday, December 1, 2011
Author: Brian Bollen's Blog

The latest Economics and Strategy Viewpoint from Schroders’ chief economist and strategist, Keith Wade, and European economist, Azad Zangana

Global Economy: Growth downgraded - no more muddle through

We have cut our forecasts for global growth in 2012 from 3.4% to 1.8% largely as a result of the deterioration in the eurozone where we now expect an outright recession. The rest of the world is affected through weaker trade, a withdrawal of credit by European banks and the adverse effect on business confidence.

The unravelling of the Brussels agreement and spread of contagion to the bond markets of Italy and Spain has changed the scale of the problem. Muddle through is no longer the most likely path. Download Economic Strategy Viewpoint November 2011 FINAL

For the eurozone, we are assuming that Germany relents and allows the European Central Bank (ECB) to implement Quantitative Easing (QE), but only after the economic situation has become worse and at a price. Consequently we do not expect the ECB to act until next spring, when it should be clear that the eurozone is in recession, and that there are greater controls over fiscal policy by the EU in the peripheral economies.

Should there be no agreement on QE by the ECB, we believe markets should prepare for a possible break-up of the single currency - one of our alternative scenarios.

For the US, we have cut growth from 2.4% to 1.6% and again politics plays a role as in addition to the drag from the eurozone, we do not see Congress allowing much extension of this year’s fiscal stimulus. In response we expect the Federal Reserve to launch a third round of QE. This means that both the ECB and Fed could be printing money by spring 2012.

Europe: Too little, too late

Early warning signals are ringing loud and clear. The eurozone is on the verge of a credit crunch. We describe our five stylised stages of a credit crunch and explain why we think the impact on the real economy is likely to be felt in 2012.

Once the credit crunch starts to bite, we expect to see a serious recession in the monetary union, which in turn will cause a feedback loop on the banking system. However, we are not forecasting a recession that is as deep as that of 2008/09. Nevertheless, the UK is likely to follow the eurozone into recession, which is likely to prompt at least one more round of QE in 2012.