European Union economic growth should be 1.4% in 2008, half what it was in 2007, and drop even more sharply in 2009 to 0.2% before recovering gradually to 1.1% in 2010 (1.2%, 0.1% and 0.9%, respectively, for the euro area). The Commission's autumn forecasts show that the EU economies are strongly affected by the financial crisis, which is aggravating housing-market correction in several economies at a time when external demand is fading rapidly.

While the important measures taken to stabilise financial markets have begun to restore confidence, the situation remains precarious and the risks to the forecasts significant. As a result, employment is set to increase only marginally in 2009-2010, after the 6 million new jobs created in 2007-2008, and unemployment is expected to rise by about 1 pp. over the forecast period after being at its lowest for more than a decade. More positively, inflationary pressures are diminishing as oil prices fall, and the risks of second-round effects fade away. After reaching the best position since 2000, the overall budgetary position is also set to deteriorate while the rescue packages could raise public debt.

“The economic horizon has now significantly darkened as the European Union economy is hit by the financial crisis that deepened during the autumn and is taking a toll on business and consumer confidence. Emerging economies are holding up better than the EU and the US, so far, but even they are unlikely to escape unscathed. We need a coordinated action at the EU level to support the economy similar to what we have done for the financial sector. The Commission last week set out a framework for recovery that aims to boost investment, sustain employment and demand. We are looking forward to hearing Member States' views and, especially, for a joint approach at the EU level ”, said Joaquín Almunia, Economic and Monetary Affairs Commissioner.

The Commission’s economic forecast published today projects EU economic growth to drop sharply to 1.4% in 2008. It was 2.9% in 2007. In 2009 the EU economy is expected to grind to a stand-still at 0.2% before recovering to 1.1% in 2010. The equivalent figures for the euro area for the period are 1.2%, 0.1% and 0.9%. In 2007 it was 2.7%.

Global growth is forecast to slow markedly to 3¾% this year and 2¼% in 2009 after the exceptionally strong 5% average in 2004-2007. Advanced economies will be most affected but emerging economies are also increasingly being hit. This is the result of the financial crisis along with the ongoing correction in house prices in many economies and lagged effects from high commodity prices. During 2010, growth is expected to rise gradually as financial markets stabilise, thereby supporting confidence and trade.

The outlook remains clouded by considerable uncertainty about who will ultimately bear the brunt of the credit losses and what the scale of the loss will be. Credit conditions have tightened significantly and, recent recapitalisation notwithstanding, the banking sector is expected to continue to deleverage, putting a brake on lending.

Against such an external background and following a further deterioration in survey and hard data in recent months, GDP is now expected to have declined in the third quarter of 2008 in both the EU and the euro area. And the outlook remains bleak further ahead, with several of the EU economies in or close to a recession.

Investment, which was a key driving force in the previous upturn, faces a particularly abrupt slowdown, reflecting the impact of multiple shocks: a weakening demand and a marked drop in investor confidence, tighter financing conditions and a reduction in credit availability.

Consumption is set to stay subdued in these uncertain times even though real disposable income growth is set to rebound as the inflationary impact of higher commodity prices fades.

Net exports are projected to contribute positively to GDP as imports are set to slow more than exports, partly benefiting from the recent depreciation of the euro real effective exchange rates.

Employment is expected to increase by about ¼ million jobs in the EU and ½ million in the euro area in 2009-2010, markedly less than the 6 million jobs created in 2007-2008 in the EU (4 million of which were in the euro area). As a result, the unemployment rate is expected to increase by about 1 pp. in the coming two years. This would correspond to an unemployment rate of 7.8% in the EU and 8.4% in the euro area in 2009, with a further increase in 2010.

The worsened outlook is expected to take a toll also on public finances, with the deficit in the general government balances increasing from less than 1% of GDP in 2007 in the EU to 1.6% in 2008, 2.3% in 2009 and 2.6% in 2010, the latter based on the usual no-policy-change assumption. For the euro area, the deficit is expected to rise to 1.3% this year, 1.8% in 2009 and 2% in 2010. Most countries will be affected although with significant differences. Uncertainties over the fiscal implications of the financial rescue packages also cloud the fiscal outlook.

On a more positive note, inflation is expected to have peaked and to fall rapidly to below 2½% in 2009 and 2¼% in 2010 in the EU (2.2% and 2.1%, respectively, for the euro area). This still includes a slight upward revision from the spring projection, reflecting the surge in commodity prices during the summer. However, the recent strong decline in commodity prices, together with a marked weakening of the growth outlook and a related easing of the labour-market situation, reduces markedly the risk of second-round effects.

This forecast is surrounded by considerable uncertainty and downside risks. The financial stress could still intensify, last longer or have a more pronounced impact on the real economy, fuelling the negative feedback loop. This would, in turn, reinforce the ongoing correction of some housing markets, putting balance sheets under strain, which could both hamper the necessary deleveraging process in the financial sector and, via negative wealth and confidence effects, reduce private consumption. Future commodity prices, on the other hand, are more likely to fall than increase as growth prospects deteriorate. This would ease inflationary pressures and make risks for inflation more balanced.