Recession Fears Grow in Europe

Experts forecast that inflation will hit double digits while oil prices continue to fall as recession fears rise amid investor concerns about the ailing state of the global economy.

The Ukraine war is affecting markets around the world and generating extreme volatility.

Fears of recession grow in Europe as Ukraine war marks 6 months

Worries over inflation in Europe have been brewing even before Russia war with Ukraine in February. While some considered it was temporary, others warned that it was a sign of a deeper crisis. Now, six months since the start of the war in Ukraine, is a recession inevitable in Europe?

The impacts of the conflict will likely vary depending on geographical location. Europe, and countries such as the Baltic states and Poland, are likely to experience more difficulties than countries that depend less on Russia for energy. Western Europe, in particular Germany, also has no easy alternative energy source to replace natural gas from Russia.

After Moscow decided to temporarily suspend its gas supply to Germany, gas prices climbed to €295 per Megawatt-Hour. Recent data showed that business activity in Germany and France contracted in August due to falling demand and rising prices.

The euro hit a new 20-year low against the USD, making it more expensive to buy energy on international markets, which is paid with the US dollar. Bundesbank, Germany’s central bank, forecast that inflation, which is at 7.5%, will hit double figures in autumn.

Inflation in the UK is predicted to reach a high in 2023

Goldman Sachs economists have warned that UK inflation could go above 20% in 2023 if natural gas prices remain high in the coming months. The investment bank has warned that high inflation will push the UK economy into recession.

Europe is facing a long list of problems. Capital Economics says that most European countries will be harder hit by the increasing gas prices than the oil crisis in 1974 and 1979, which were both “followed by recessions.”

In fact, recession fears are being mentioned more often in economic forecasts. The Dutch bank ING recently reported that the composite PMI, which tracks business trends in the manufacturing and service sectors, fell below 50 points. “Anything under 50 indicates falling business activity, so the survey is hinting at a contraction that started in the third quarter,” it stated, in reference to July.

Goldman Sach predicts a recession in Europe

In a report, the investment bank Goldman Sachs forecast a mild recession in the second half of 2022 due to disruptions to the gas supply as a result of the Russia war in Ukraine. “A full stop to Russian gas deliveries could trigger a severe downturn in Europe.”

The report indicated that the countries which are most dependent on Russian gas, such as Germany and Italy, would be the hardest affected by the recession.

New interest rate rise

As inflation erodes purchasing power, forcing people to reduce their spending, there is growing pressure on the European Central Bank (ECB) to raise interest rates. Inflation in the eurozone increased to 8.9% in July, and the euro continues to weaken against the dollar.

The ECB looks set to raise interest by another 50 basis points in September. However, there is the chance the ECB will hold off on further interest rate hikes due to pessimistic economic forecasts.

The concern over a likely recession is linked to energy prices. The most optimistic economists maintain that the current energy crisis has been triggered by the war in Ukraine, which means it is a circumstantial problem. Therefore, this view claims that any recession would be temporary, but there is no indication that the war in Ukraine will end soon.

Europe vs. the US

In the US there are already signs of improvement as inflation fell in July from 9.1% to 8.5% due to the drop in gas prices.

However, Europe continues to pay for its dependence on gas and inflation in Europe is already greater than the figure in the US.

Falling food prices and the fall in oil prices have not been enough to counteract the increase in gas prices in Europe. But some analysts argue that a recession could help deal with inflation, so long as it is not a prolonged recession.

The US is more protected than Europe

Due to its huge domestic economy and its ability to meet its energy needs without imports, the US is more protected than Europe is from the effects of the Ukraine-Russia war.

However, due to the global nature of financial markets, this could mean that US investors will see more volatility in the coming months, even if the US avoids recession in comparison to Europe. The European Union’s economy is larger than that of the US and many US-listed companies depend on European consumers for a considerable part of their earnings. If these European consumers spend less due to fear of becoming unemployed in a recession, company earnings and prices of stocks in US investors’ portfolios could also decline.

Beyond the Russia war, uncertainty is also likely to be raised by the prospect of unintended consequences resulting from western sanctions against Russia and the risks that policymakers will involve the US in a conflict that the US could otherwise mainly avoid the effects of.

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