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News > Germany

Mood Worsens in Europe as Economy Compounded by Multiple Risks

  • Italians protest against economic crisis and inflation, Oct. 2022.

    Italians protest against economic crisis and inflation, Oct. 2022. | Photo: Twitter/ @almayadeen_es

Published 12 October 2022

Among those risks are the energy crisis, the risk of financial fragmentation between northern and southern Europe, and liquidity risks in the British bond market.

Europe has been enduring a tough economic situation amid a worsening energy crisis and many more challenges. As winter approaches, the situation is feared to sink deeper into the mire and experts predict the outlook will stay gloomy.


Petrol Queues in France Stoke Scarcity Fears


"Europe is unfortunately facing a perfect storm," said Christopher Dembik, head of macro analysis at Saxo Bank, noting that the risks facing the European economy include the energy crisis, a lack of investments in fossil energy, the risk of financial fragmentation between the North and the South of Europe, and liquidity risks recently hovering over Britain's bond market.

Based on the latest Purchasing Managers' Index (PMI) indicators, it seems the eurozone and Britain have already entered a recession in the third quarter, he said, adding that the lasting high inflation was also concerning.

"This is quite unique in history to face such an accumulation of risks at the same time ... With so many risks, the economic recovery, whenever it will happen, will probably be sluggish and once again Europe will lag behind the United States," Dembik said.

Risks facing Europe are similar to the risks facing other countries and regions, which include supply chain disruption combined with the ongoing impacts of the Russia-Ukraine conflict, said John Bryson, a professor at Birmingham Business School, University of Birmingham.

The COVID-19 pandemic "led to a reduction in maritime logistics capacity and this is one of the constraints on international growth and also a contributor to inflationary pressures," he said, adding the cost-of-living crisis is impacting consumer behavior.


Worse yet, analysts say rising U.S. interest rates are expected to cause an outflow of investment from Europe into the United States. Since March, the U.S. Federal Reserve has lifted interest rates five times, including three consecutive 75-basis-point rate hikes.

"There is an outflow of relatively mobile investment from Europe to the U.S. and also from other countries to the U.S. This outflow often occurs during times of global volatility as investors flee to invest in U.S. dollars," he said.

The current shift reflects a more aggressive attitude of the U.S. Federal Reserve to try to control inflation by increasing interest rates and the interest rate differential that has been developing between Britain, the EU and the United States is partly behind this shift.

"The outflow of capital is not something unique to Europe. We have seen a similar trend in emerging markets, at the fastest speed actually," Dembik said, noting that this has clearly pushed down the European financial markets, especially the stock market.

"We could also see growing risk of liquidity issues," he said. "Ultimately, this will certainly force central banks in Europe to remain much longer in the market" than expected, through quantitative easing for instance.


In the eurozone, "a recession has looked unavoidable for some time, and we now think it will be deeper than most anticipate," said a report published in early October by the London-based consultancy Capital Economics.

The reasons for this pessimism include: manufacturing output is already declining and service activities are less; inflation is in double-digit territory and does not seem to have peaked; business surveys show companies plan to go on raising prices, and the labor market is still very tight.

Looking ahead, the European economy is quite vulnerable to possible chaos. Another recent report of Capital Economics says the eurozone "risks turmoil even if governments stay responsible."

While a large-scale tax-cutting package in Britain has raised severe concerns over its fiscal health and caused turmoil in financial markets, the public finances of some member states in the eurozone, most notably Italy, are in worse initial shape than Britain's, explained Franziska Palmas, the consultancy's senior Europe economist, in the report.

"This suggests it may not take as large and discretionary a fiscal loosening as in the UK for concerns about Italy's public finances to flare up. Some modest loosening, which the new government may well engage in, may be enough," Palmas said, adding that the structure of the currency union means the European Central Bank may not respond to any turmoil as quickly as the Bank of England, especially if any trouble stems from actions in Italy.

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